Sandhill closed the books on a terrific 2016.
Our teams functioned well across the entire firm, and most importantly, we delivered very good performance in both our equity and fixed income products.
The Concentrated Equity Alpha (CEA) product (our flagship equity product) returned 17.5% net of fees for 2016 vs. the S&P 500 Index return of 9.5%. The CEA product outperformed the broad market by 8.0%. This is a really terrific (and meaningful) result for our clients.
Our Corporate Bond fixed income portfolio returned 6.1% net of fees for 2016. Given the duration of our Corporate Bond product is four years, this is a terrific result. The Bank of America Merrill Lynch 3-5 Year Corporate Bond Index returned 3.6%. The Corporate Bond product’s return was almost double the benchmark index.
Our Large Cap Yield equity product returned 14.3% net of fees for 2016 vs. the Dow Jones Industrial Average return of 13.4%. Although this product is far smaller than the CEA equity and Corporate Bond products, it does a nice job of delivering tax efficient dividend income to our clients. At year end 2016, the Large Cap Yield product had a dividend yield of 2.8% vs. 2.4% for the Dow Jones Industrial Average.
Our returns have been very good this year – but I am also pleased how we generated the returns across our product line. We always look at risk as well as return.
We had numerous stocks do well in our CEA portfolios in 2016. Sandhill had sixteen companies in our CEA portfolios return greater than 20% during 2016. We prefer well distributed gains in our CEA portfolios because the gains are distributed and diversified across different companies in different businesses in different geographies. Meaningful outperformance with well distributed gains among the portfolio companies is the most desired investment outcome.
In our Corporate Bond portfolios, we had a great year and did everything right. Not all years will be like this. First, we got very “short” on the yield curve as the year went on. I moved the Corporate Bonds portfolios’ duration to four years. After Trump’s surprise victory, interest rates increased sharply. Given we are short on the yield curve and hold good paper, Sandhill clients did not get hurt (in fact they did very well). Second, we have been buying smaller position sizes in our bond portfolios which means our Corporate Bond portfolios are very well diversified and safer.
A few things strike me post-election. First, most investors are bullish for the first time in quite a while. Second, asset prices are expensive. Third, in order to justify today’s equity prices, there will need to be a significant cut in corporate taxes. The p/e multiple of the S&P 500 is now 19.5 times current year earnings projections, and historically, when the S&P 500 multiple pushes over 20, there can be a significant correction. If you “rerate” the corporate tax rate from 35% to 22% and recalculate the S&P 500’s earnings, you get a 17 multiple which is appropriate given a healthy economy and still low interest rates. Point is, the corporate tax cut is already priced into the market.
So when most are bullish and the market is making bold assumptions on future events, we are cautious. We now hold twenty seven (as opposed to the usual twenty four or five) stocks in the CEA portfolios (more diversification). In addition, we are carrying roughly 10% cash in our CEA portfolios. On the Corporate Bond side, we are extremely well diversified, have a short duration, and are buying new “paper” with five year maturities (steepest part of the yield curve).
Long term game
Opinions aside, we remind everyone, bullish or bearish, this is and always will be a long term game. Any one year or quarter should not define one’s investment results. It is the composite of work over many years or decades that creates real wealth. There are always good investment opportunities, it is just that at certain points in time it pays to be disciplined and careful.
As always, we thank our clients for their confidence and support. We closed our books with $753 million under management on 12/31/16 vs. assets under management of $594 million on 12/31/15. Assets grew 27% year over year with a nice combination of investment performance and asset gathering fueling growth.
As we grow, we continue to plow capital back into the firm to get better at what we do and expand our capabilities.
We hired Aaron VandeGutche as an assistant equity analyst. Aaron and his wife are moving from Grand Rapids, Michigan. We received over 600 resumes for this position and Aaron was chosen in a very competitive process. Aaron starts in April.
We hired Trisha Allsop as an operations associate to add depth to our operations and client service team. Trisha recently graduated from the University of Buffalo.
For those interested, we will be holding a 45 minute webinar on Thursday, January 19th at 10 a.m. to discuss our current portfolio construction, top holdings, and our outlook for 2017. Please contact us to get the log on/dial in information.
I hope this letter finds everyone well and their New Year is off to a good start.
Edwin M. “Tim” Johnston III
Founder | Managing Partner
Performance Disclosures: Sandhill Investment Management (“Sandhill”) is a registered investment advisor that is not affiliated with any parent company. The performance statistics disclosed above are calculated on the rates of return from accounts managed by Sandhill, as defined below.
These accounts are managed by Sandhill on a discretionary basis. There are no non-fee paying accounts included in the composites. The U.S. dollar is the currency used to express performance. The Concentrated Equity Alpha, Large Cap Yield, and Corporate Bond composites include accounts under management from the first full month at which the account’s capital is fully invested by Sandhill. Closed accounts are included in the composites through the completion of the last full month under management and are not removed from the historical rates of return.
Sandhill claims compliance with the Global Investment Performance Standards (GIPS®). To request a complete list and description of firm composites and/or a full performance presentation that adheres to GIPS® Standards, please contact Shant Goubrial at (716) 852‐0279 x 305 or sgoubrial@sandhill‐im.com or visit the firm’s website at sandhill‐im.com.
i The information in this report has been obtained from sources believed to be accurate; however, Sandhill Investment Management makes no guarantee as to the accuracy or completeness of the information. Past performance is not a guarantee of future results. Investing involves risk, including the possible loss of principal. There is no guarantee that the CEA, Large Cap Yield, and Corporate Bond composites will achieve their investment objectives or that they are suitable for all investors.
ii For a full list of all composite recommendations for the preceding year, please contact Sandhill’s Chief Compliance Officer, Ryan Myers, at (716) 852-0279 Ext. 307 or email your request to email@example.com.