QUARTERLY LETTER

2nd Quarter 2018 — Investment Strategy Review

“We don’t get paid for activity, just for being right. As to how long we’ll wait, we’ll wait indefinitely. ”
                                          — Warren E. Buffett


Investing this year has been like running in mud, a slog with little forward momentum. The track should be fast given the combination of still low interest rates, corporate tax cuts, fiscal stimulus, and robust earnings growth, but the dysfunction and rancor in Washington DC is hindering the pace of the stock market’s advance. In particular, the untested trade policy being deployed by the Trump administration has become a concern for investors all around the globe. Everyone is exhausted by the daily drama staged at the White House. Our advice this summer is to avoid cable news networks and read a good book or watch Netflix instead.

There is some good news, too. While mid-term election years have often produced stock market corrections during the period leading up to November, these declines have tended to be followed by sizeable rallies, no matter the outcome of the vote. Yes, the threat of a trade war and the likelihood of additional rate hikes by the Fed have increased risk, but history remains in favor of the bulls. The secular uptrend in stocks is on the verge of becoming the longest of the post-World War II era, yet it still has not produced the widespread speculative euphoria characteristic of market tops. This remains the most positive aspect of the current investment climate.

There is, however, one cohort of investors that is accumulating shares like there is no tomorrow. U.S. corporations have been initiating a record amount of stock buybacks. Lately, the pace of these purchases has been accelerating as a result of the cash released by the recent tax bill. This activity arrives at a time when share prices are at an all-time high and the rationale seems to be driven by current fashion, not value. History shows that these corporate repurchases surge near bull cycle highs and that managements behave like most investors succumbing to the mesmerizing pressure of fear and greed. Buybacks reached a peak during the summer of 2007 just before everything fell into the tank. They then evaporated during the financial crisis, hitting a low in early 2009, what turned out to be the bear cycle bottom. CEOs were too scared to pull the trigger. We’ll see what happens this time.

As we often say, our job is the rational allocation of capital. It makes zero sense to stress about phenomena that are impossible to control such as the path of the stock market or interest rates. What we can control is the price paid for assets and the margin of safety provided. Historically, our disciplined strategy has been to invest aggressively during selloffs and avoid chasing upside momentum. Warren Buffett’s comment above summarizes Mercer Capital’s attitude. It pays to be choosy. We are currently evaluating several core holdings that may be experiencing an erosion of their moat-like competitive advantages. The Amazon revolution and the growing popularity of private-label goods is damaging the power of brands. Consumer preferences are evolving and this may require selling positions owned here for years and years. This is not an easy decision, because the gains are considerable and would impact taxable portfolios. We need to make the best long-term choice, and appropriate replacements are difficult to uncover these days. Nothing is imminent, just wanted to provide a heads-up.

Lastly, a recent research piece reminded us of the investment rules of strategist Bob Farrell, who influenced markets a generation ago. They remain relevant and we thought it would be timely to conclude with them.

  • Markets tend to revert to the mean over time.
  • Excesses in one direction will lead to an opposite excess in the other direction.
  • There are no new eras – excesses are never permanent.
  • The public buys the most at the top and the least at the bottom.
  • Fear and greed are stronger than long-term resolve.
  • When all the experts agree – something else is going to happen.
  • Bull markets are more fun than bear markets.

Thank you for your encouragement and support. We hope that you have a wonderful summer.

6/30/18           Henry D. Mercer III

Index Return (Year-to-Date)   12/31/17 6/30/18
S&P 500 +1.7% Fed-Funds Rate 1.25 - 1.50% 1.75 - 2.00%
    10 yr. T-note 2.41% 2.85%

* Please contact Mercer Capital Advisers, Inc. if there are any changes in your financial situation or your investment objectives or if you wish to add to or modify any restriction to the management of your account. Our current disclosure statement as set forth on Part II of our form ADV is available for your review upon request.

* Mercer Capital's management fee is billed quarterly, in advance, based upon the market value of the assets on the last day of the previous quarter.

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