By Ron Muhlenkamp and Jeff Muhlenkamp, Portfolio Managers

Below is the single most interesting chart we’ve seen in the last quarter.

It is a plot of the National Federation of Independent Business (NFIB) Small Business Optimism Index since March 2000. The NFIB conducts monthly surveys of its members in order to better understand the environment in which small businesses are operating. The way we interpret the chart is that small businesses are MUCH more optimistic about their future post-election than they were pre-election (the arrow is there to highlight that move for you). If that increased optimism results in greater hiring and spending on capital goods, we believe the economy can grow significantly faster than it has managed to do the last few years. In part we think the chart validates our assertion that increased regulations and costs have been limiting business growth—and the promise to reduce them has small businesses more optimistic than they’ve been in years. The questions now are “Will our politicians deliver on their promises?” and “Which companies will benefit and which will be hurt by the changes?” That’s what we are paying a lot of attention to right now.

While potential U.S. policy changes are the most important things going on, they aren’t the only things to keep an eye on. A quick update on some pertinent developments: the U.S. Federal Reserve raised the Federal Funds Rate by .25% in March. This is the third rate hike by the Fed since the ’09 recession and was largely expected. The Fed has stated that they may continue to raise short-term rates this year as the country is near their employment and inflation goals. At this point we don’t expect a rapid run up in inflation nor do we see rising interest rates triggering a recession. Either or both of those things may happen in the future, but we don’t see signs that they are imminent.

U.S. companies in the aggregate in the 4th quarter of 2016 reported an increase in both earnings and revenues—the first time we’ve seen that in five quarters, led by improvements in the energy sector where higher crude oil prices (now in the vicinity of $50 per barrel) have led to increased drilling activity. The strong dollar we saw late last year has weakened a little, easing pressure on the earnings of our exporters. Long-term interest rates have also declined a bit since last year, keeping the cost of rolling over debt low for those companies that need to do so. From a consumer perspective, rising short-term rates will provide savers a marginally better return on savings accounts, money markets, and short-term certificates of deposit but inflation adjusted returns on fixed income products are still pretty poor, as we’ve been pointing out for a long time now. On the consumer borrowing side, rates are pretty cheap with 30 year mortgage rates at about 4% — they’ve been as high as 4.2% and as low as 3.8% over the last year.

Outside of the U.S., elections in France and Germany later this year have the potential to disrupt the Eurozone. Belgian elections in March resulted in a re-election of the status quo, we’ll have to see what develops in France and Germany. The European Central Bank (ECB) continues to buy bonds, keeping interest rates low in Europe and, we believe, helping to keep interest rates low in the U.S. That program is scheduled to end in December, it isn’t clear if the ECB will let it expire or extend it once again. On a positive note, real Gross Domestic Product (GDP) growth in Europe the last quarter was 1.9%, much improved over a year ago and on par with U.S. GDP growth.

The U.S. stock markets remain on the expensive side, as they’ve been for some time now. In the absence of signs of an approaching recession or financial crisis we have stuck to our knitting, selling holdings that have reached full value and reinvesting the proceeds in companies we believe are selling for less than we think they are worth—though good companies selling cheaply are few and far between these days.

Until next quarter…

The comments made in this commentary are opinions and are not intended to be investment advice or a forecast of future events.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

Glossary
Federal Funds Rate is the interest rate at which depository institutions lend balances at the Federal Reserve to other depository institutions overnight. It is the interest rate banks charge each other for loans.

Federal Reserve Board (informally referred to as “the Fed”), is the central banking system of the United States, created in 1913 by the Federal Reserve Act. The main tasks of the Fed are to supervise and regulate banks, implement monetary policy by buying and selling U.S. Treasury bonds, and steer interest rates.

Gross Domestic Product (GDP) is the total market value of all goods and services produced within a country in a given period of time (usually a calendar year).

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Click here for a printer-friendly PDF of the Memorandum.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

In this Muhlenkamp Memorandum:
Quarterly Letter
The plot of the National Federation of Independent Business (NFIB) Small Business Optimism Index since 2000 is one of the most interesting charts that we’ve seen in the last quarter. The NFIB conducts monthly surveys of its members in order to better understand the environment in which small businesses are operating. The way we interpret the chart is that small businesses are MUCH more optimistic about their future post-election than they were pre-election…

Facing the Facts about Your Financial Life
As an amended excerpt from the Muhlenkamp Marathon Financial Training Workbook, this article places you at the “starting line” of your financial marathon, asking you to periodically look at and assess your current financial situation…

Register for our May 11, 2017 Webcast
On Thursday, May 11, 2017 from 4:00 p.m. – 5:00 p.m. ET, join Tony Muhlenkamp as he hosts a chat with Portfolio Managers Ron and Jeff Muhlenkamp. You will have the opportunity to submit questions during the second half of our webcast.

Archive Available – February 16, 2017 Webcast
Visit the archive of our February 16, 2017 webcast. Ron’s maxim, “When you change the rules a little, you change the game a lot,” applies to many things in life. During our webcast, Jeff and Ron looked at the potential impact and the second- and third-order effects that changing policies and regulations by President Trump and his new administration could have on the economy.

Don’t Be Left Out On Important Notices and Invitations
Muhlenkamp & Company regularly publishes information that gets distributed by email only. If you don’t want to be left out, join our email list by clicking HERE or call us at (877) 935-5520 extension 4. Your contact information will not be released to any third party.

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Ron’s maxim, “When you change the rules a little, you change the game a lot,” applies to many things in life. During our webcast, Jeff and Ron looked at the potential impact and the second- and third-order effects that changing policies and regulations by President Trump and his new administration could have on the economy.

Since the last recession, some small businesses have been reluctant to expand because they were unsure of the rules: the possibility of increased taxes, expanding healthcare costs, and more regulations. After the 2016 election, small business confidence spiked. Jeff and Ron debated what may have boosted optimism. They also talked about current interest rates, bond rates, the dollar, and ongoing concerns in Europe.

Watch the video archive or read the amended transcription (including slides). The question and answer session is included.


Click here for the amended transcription (including slides).

Click here for slides only (no audio or transcription).

If you have questions or comments about the content of the webcast, don’t hesitate to send us a message or call us at (877)935-5520 extension 4.

For the Top 20 Holdings and performance data as of the most recent quarter-end, refer to the SMA All-Cap Value Fact Sheet.

The opinions expressed are those of Muhlenkamp and Company and are not intended to be a forecast of future events, a guarantee of future results, nor investment advice.

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Click here for a printer-friendly PDF of the Memorandum.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

In this Muhlenkamp Memorandum:
Quarterly Letter
2016 was a disappointing year for us as our accounts, on average, lost about 3.56% of their value over the course of the year (individual performance varies by account), while the S&P 500 gained 11.96%—both figures include reinvestment of income. The obvious question is “Why the underperformance relative to your benchmark?”…

Letter from the President
As Ron and Jeff pointed out in their discussion of performance, 2016 was disappointing. So our clients and shareholders have rightfully been asking what we are going to do differently to improve performance…

Register for our Upcoming Webcast
On Thursday, February 16, 2017 from 4:00 p.m. – 5:00 p.m. ET, join Tony Muhlenkamp as he hosts a chat with Portfolio Managers Ron and Jeff Muhlenkamp. You will have the opportunity to submit questions during the second half of our webcast.

Make a Financial New Year’s Resolution
The beginning of a new year is a great time to get on the right course. We created our Muhlenkamp Marathon Financial Training Workbook (with some running tips, too) to provide 26.2 miles of financial guidance…

Archive Available – December 1, 2016 Webcast
Is the economy back to pre-recessionary levels? Your answer may depend on what data you use and how you define your terms. Jeff and Ron Muhlenkamp walk through over 20 economic charts from foreign currencies vs. the dollar, to their 10-point checklist they use as a guide.

Don’t Be Left Out On Important Notices and Invitations
Muhlenkamp & Company regularly publishes information that gets distributed by email only. If you don’t want to be left out, join our email list by clicking HERE or call us at (877) 935-5520 extension 4. Your contact information will not be released to any third party.

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By Ron Muhlenkamp and Jeff Muhlenkamp, Portfolio Managers

2016 was a disappointing year for us as our accounts, on average, lost about 3.56% of their value over the course of the year (individual performance varies by account), while the S&P 500* gained 11.96%—both figures include reinvestment of income. The obvious question is “Why the underperformance relative to your benchmark?” The short answer is that we didn’t own enough of the best performing sectors in the market: energy, financials, and industrials and we owned too much of the worst performing sector in the market: health care.

Low crude oil prices in January and February gave us an opportunity to buy energy companies cheap, and we did. In retrospect we should’ve bought more as crude oil prices have nearly doubled off of the bottom and energy stocks have been the market’s best performers this year. In a similar manner our energy holdings have been our best performers this year.

Last year and early this year, we deliberately reduced our positions in companies that are sensitive to the business cycle which includes industrial and financial companies as prices fully reflected the value we saw in those companies and our expectations for business performance during the current economic expansion. The market turned a cold shoulder to those companies through March, but warmed up to them in the spring and summer and fully embraced them postelection. Industrials and Financials have been the best performing stocks in the last two months. They didn’t get cheap enough for us to buy into them earlier in the year and so we didn’t participate in their outperformance late in the year.

Health care stocks have been declining for over a year and we found some great companies at low prices throughout the year. Unfortunately, the market has yet to agree with us on our assessment of these companies and their stock prices have continued to lag the market. We don’t expect that to last forever and believe we are best served by waiting for the market to come around to our point of view. This year, however, that attitude has not been profitable.

Throughout the year our technology companies have done quite well both in terms of company performance and stock price appreciation.

So in summary, this year we zigged and the market zagged—as a result we look pretty dumb. That doesn’t mean we’ve changed our approach to investing: we haven’t. We continue to invest in companies that are selling for less than we think they are worth, and sell them when the market price fully reflects that value. We continue to believe that, on average, doing so will produce satisfactory investing results. This year it did not.

Continuing to look in the rear view mirror, we saw ongoing slow economic growth both in the U.S. and internationally and a continuation of unprecedented central bank** intervention in both the European Union and Japan. U.S. companies, in aggregate, reported declining revenues and earnings during the first two quarters of the year with growth in both measures returning in the third quarter. They haven’t reported the fourth quarter yet. Interest rates declined from January through July, with the benchmark 10-Year U.S. Treasury yield going from 2.2% in Jan to 1.4% in early July then rising to 2.6% or so by year end. As a reminder, bond prices move inversely to yields, so bonds had a good first half of the year and a poor second half. Politics were also responsible for some big market moves with the Brexit referendum in the United Kingdom driving the pound sterling to record lows and the election in the United States spurring an impressive rally in the U.S. equity markets.

Looking forward, we see no reason to expect a near-term resolution to many of the global risks we’ve been watching: European banking problems and existential threats to the European Union; massive debt and economic stagnation in Japan; and massive debt and slowing growth in China. Each of those regions could spark a global financial crisis of some sort and we’ll continue to keep an eye on them.

The U.S., however, has changed a little bit—you may have noticed. The U.S. voter opted for change and installed a Republican majority in the Senate and a fairly unique Republican in the White House. We think many (but not all) of the changes suggested by the newly elected politicians should result in stronger economic growth in the long run but implementation will matter and it will take some time to put the new rules, once they’re actually written, in place. So we are much more optimistic about the long-term direction of the economy than we were a few months ago, but we don’t expect an immediate impact to the economy from changing policies, regulations, and laws—there will be a lag. The market, however, shifted in less than thirty days from anticipating a Democratic agenda to anticipating a Republican agenda. In the process it may have gotten a little bit ahead of itself. As noted above, interest rates have been on the rise since July with the election in November and the Federal Reserve rate hike in December adding to the ongoing move. Historically, long-term interest rates have been about 3% above inflation, so we view a further movement higher in rates as simply a return to “normal” conditions. A return to normal will not necessarily be painless, however, and we’ll keep a close eye on default rates and credit spreads*** if rates continue to rise. Rising interest rates in the U.S. while the rest of the world keeps their interest rates abnormally low also creates the conditions conducive to a strong dollar, which we have been observing the last few months already. A strong dollar of course is beneficial for the U.S. consumer buying imported goods and a headwind to the U.S. producers selling overseas or owning overseas assets. It also encourages overseas investors to buy investable assets in the U.S. for as long as it continues since they’ll get the asset return plus a positive currency return. Full employment and rebounding commodity prices put inflation risks back on the table, so we’re keeping an eye out for higher inflation as well.

We believe the stock market in general is fairly priced and good companies at cheap prices are few and far between. When we find them, we’ll invest appropriately. Until we find them, we’ll continue to be patient with our cash. We remain uninterested in bonds as they are still priced above what we view as “fair” relative to current inflation and will decline even more if inflation picks up. Conversely they will likely do well if a financial crisis brews up and investors rotate from stocks to Treasury bonds in search of safety. We believe the long-term decline in interest rates has pretty well come to an end which implies the long running bond bull market has also ended. Few bond investors can remember a time when interest rates weren’t generally falling and they are susceptible to thinking bonds are “safe” when we would argue that is no longer true.

With our best wishes for the New Year,

The comments made in this commentary are opinions and are not intended to be investment advice or a forecast of future events.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

Earnings growth is not representative of an investment’s future performance.

*S&P 500 Index is a widely recognized, unmanaged index of common stock prices The S&P 500 Index is weighted by market
value and its performance is thought to be representative of the stock market as a whole. One cannot invest directly in an index.

**Central Bank is the entity responsible for overseeing the monetary system for a nation (or group of nations). The central banking system in the U.S. is known as the Federal Reserve (commonly referred to “the Fed”), composed of twelve regional Federal Reserve Banks located in major cities throughout the country. The main tasks of the Fed are to supervise and regulate banks, implement monetary policy by buying and selling U.S. Treasury bonds, and steer interest rates.

***Credit spreads refer to the difference in the number of percentage points or basis points in yield. The level of risk correlates with the
potential for returns.

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Is the economy back to pre-recessionary levels? Your answer may depend on what data you use and how you define your terms. Jeff and Ron Muhlenkamp walk through over 20 economic charts from foreign currencies vs. the dollar, to their 10-point checklist they use as a guide.

Watch the video archive or read the amended transcription (including slides). We think you will find it informative.


Click here for the amended transcription (including slides).

Click here for slides only (no audio or transcription).

If you have questions or comments about the content of the webcast, don’t hesitate to send us a message or call us at (877)935-5520 extension 4.

For the Top 20 Holdings and performance data as of the most recent quarter-end, refer to the SMA All-Cap Value Fact Sheet.

The opinions expressed are those of Muhlenkamp and Company and are not intended to be a forecast of future events, a guarantee of future results, nor investment advice.

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We’ve had a few questions about the election results.

Once again, the American public found a way to make their frustrations felt. As in most things in life, the answer to “what will happen next” is “it depends” and “wait and see.” But we do have some general observations.

As you know from our Muhlenkamp Memorandum, for the past several quarters we have observed slow to no growth in GDP and corporate earnings, which made it hard for us to justify most current stock prices. In our opinion, stock market prices have not reflected underlying economic and corporate realities; so we’ve held a lot of cash. The uncertainty resulting from the Trump victory has already caused some stock prices to come down; this may give us a chance to put some of our cash to work.

We are heavy in select bio-tech companies which are having a big bounce today; apparently on the premise of reduced pricing pressure, but there is no predicting how long that will last. For most industries, we expect a bit of re-appraisal, which may result in lower stock prices, which may open up values there as well.

We continue to look for good companies selling cheap, and good companies usually don’t sell cheap unless there is uncertainty and some confusion in the markets. Yesterday’s election certainly resulted in that and so presents an opportunity for us as value managers and active stock pickers. That may be a net positive from the election.

In terms of the general economy and “what to do next” we are reminded a plan, a blue print, already exists; Speaker of the House Paul Ryan’s “A Better Way.” We think his proposals make sense, and the odds of them becoming policy are higher under a Trump administration than they would have been under a Clinton administration. So a Trump victory could be a net positive in that respect as well.

We appreciate your continued confidence in our ability to guide you through these uncertain, chaotic, and confusing circumstances in our efforts to protect and grow your assets. We are sticking to our discipline of bottom up, value driven, active stock picking and we encourage our clients to hold the course in terms of their own spending, saving, and investing. Now is the time to stick to your financial and retirement plans, not to abandon what you have been doing thus far.

Please call us at (877) 935-5520 extension 4 to talk about how we can help.

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Click here for a printer-friendly PDF of the Memorandum.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

In this Muhlenkamp Memorandum:
Quarterly Letter
…Last quarter we said “It seems like every quarter something big happens for us to talk about… .” Well, not this quarter. The last three months have been very quiet – economic growth hasn’t changed much, central bank policies haven’t changed much, bond prices haven’t changed much, commodity prices haven’t changed much, etc….

September 1, 2016 Conference Call: Highlights
Starting with the “big picture” and working their way toward how economic policies ultimately impact the portfolios, the conversation that took place during the September 1 conference call is available for your review.

The Farming Analogy
Over the years, Ron has compared farming with investing. He has stated that investing is much like being a farmer—and that the calendar year with its spring, summer, fall, and winter is analogous to the business cycle…

Archive Available – September 1, 2016 Conference Call
Ron and Jeff shared their observations on issues facing the economy, the markets, and investors during our September 1, 2016 semiannual conference call. A transcript and audio archive of the call are available…

Announcement
Effective January 1, 2017, the Muhlenkamp Memorandum will no longer be mailed through the post office to subscribers who are not clients or shareholders…

Muhlenkamp Marathon – Are you up for the challenge?
How do you run a financial marathon to become financially fit and eventually financially independent? …One mile at a time! Our Muhlenkamp Marathon Financial Training Workbook contains 26.2 miles of financial guidance. If you or someone you know needs help getting on the right course financially, request our workbook HERE or call (877)935-5520 extension 4.

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By Ron Muhlenkamp and Jeff Muhlenkamp, Portfolio Managers

Last quarter we said “It seems like every quarter something big happens for us to talk about… .” Well, not this quarter. The last three months have been very quiet – economic growth hasn’t changed much, central bank policies haven’t changed much, bond prices haven’t changed much, commodity prices haven’t changed much, etc. The S&P 500 did have its best quarter of the year gaining a little over three percent even as volatility in the U.S. equity markets set new records for all-time lows in August and September. Not much to talk about there.

Instead, we’d like to share an excerpt from an interview between Tom Keene of Bloomberg TV and Federal Reserve Vice Chairman Stanley Fischer where they discussed negative interest rates (rates of return on loans that are less than zero) that aired on Bloomberg TV on 30 August, 2016, immediately after the central bankers ’ conference in Jackson Hole: (emphasis ours)

KEENE: What did you learn about negative rates in the crucible of the markets? What have you learned in the last number of months?

FISCHER: Well, we’ve learned that the central banks which are implementing them — there were four or five of them — basically think they’re quite successful and are staying with their approach, possibly with the exception of Japan. They’re thinking it through and they have said they’ll come back to try and make negative rates work better. So we’re in a world where they seem to work. I think one of the most interesting developments I’ve seen in theory is a paper that says, yes, they work up to a certain point and then they become counterproductive.

KEENE: Precisely. Yes, that’s a critical point. I mean, we have within the interviews of Bloomberg Surveillance that Francine Lacqua and I have had, Olivier Blanchard [who] calls them an outright scam. Granted, he’s not a public official anymore, I understand that. There is a raging debate about the efficacy of negative interest rates for central banks, for governments, and again for banking itself. What about the efficacy of negative rates for savers and the people of these different nations?

FISCHER: Well, clearly there are different responses to negative rates. If you’re a saver, they’re very difficult to deal with and to accept, although typically they go along with quite decent equity prices. But we consider all that and we have to make trade-offs in economics all the time and the idea is the lower the interest rate the better it is for investors.

Note: Olivier Blanchard was the Chief Economist for the International Monetary Fund from 2007 until 2015.

We find Mr. Fischer’s comments difficult to reconcile with the Federal Reserve’s dual mandate to maintain price stability and promote full employment.

As we’ve stated before, savers, including pensions and insurance companies, are being thrown under the bus in the hopes a low cost of debt will spur growth – we find no evidence very low or negative interest rates have improved economic growth on a sustained basis anywhere they’ve been tried. It is clear now that central bankers fully understand the drawbacks of low and negative interest rates but consider the damage done to savers an acceptable price to pay as central banks incentivize borrowers in the hope it will generate growth.

Have they made a good decision? You are all participants in our economy and likely to benefit if the economy grows more quickly and probably most of you are savers. Is the poor return on your savings adequate compensation for an economy growing at less than 2% per year and “quite decent equity prices”?

We’d also remind you that as the price of an asset rises, it’s future return declines. From these prices we think future returns from the stock market in general will be low relative to the past few decades, and future returns from bonds will be very low. We continue to hold a significant amount of cash awaiting lower prices and hence better future returns.

Until next quarter…

The comments made in this commentary are opinions and are not intended to be investment advice or a forecast of future events.

Refer to the SMA All-Cap Value Fact Sheet for the Top 20 Holdings and performance data as of the most recent quarter-end.

The S&P 500 Index is a widely recognized unmanaged index of common stock prices. The S&P 500 Index is weighted by market value and its performance is thought to be representative of the stock market as a whole. One cannot invest directly in an index. The S&P 500 is a widely recognized, unmanaged index of common stock prices. The figures for the S&P 500 reflect all dividends reinvested but does not reflect any deductions for fees, expenses, or taxes. It is not possible to invest directly in an index.

Bonds are a way for the government or a company to borrow money. Bonds have two parts: the principal and the coupon. The coupon is a fixed amount that is to be paid to the bondholder periodically over the life of the bond (thus providing “income”). The principal is repaid when the bond matures. Bonds are traded in an open market, just like stocks. Bond prices reflect many things, including changes in interest rates. AAA bond rating is the highest possible rating assigned to an issuer’s bonds by credit rating agencies. The AAA rating is assigned to bonds whose issuers can easily meet their financial commitments.

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Ron appeared on CNBC February 2, 2017

Ron Muhlenkamp made a guest appearance on CNBC’s ‘Closing Bell’ on February 2, 2017. He appears in the segment titled...
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Ron appeared on CNBC January 12, 2017

Ron Muhlenkamp made a guest appearance on CNBC’s ‘Closing Bell’ on January 12, 2017. He appears in the segment titled...
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