Sandhill did not do its usual bang up job with our CEA equity product in 2021. Our other three products had terrific performance. We fully understand that our CEA product is our main workhorse and its performance is the most relevant to our client’s financial health and success.

That said, our CEA product did post its third straight year of double digit return net of fees. The equities in our CEA equity composite have returned 76.7% net of fees over the last three years (2019-2021). The total composite return was 68.2% (net of fees).

For the full year of 2021, the CEA equity composite was +11.4% with the equities inside the composite +12.1%. This badly lags the Russell 3000 Index return of 24.0%.

Our bond performance was really good. In a year where interest rates moved up significantly (sending bond prices down), our Corporate Bond composite returned +0.9% net of fees vs. a return of -0.7% for the BofA Merrill Lynch 3-5 Year Corporate Bond Index. The bond portfolios have a current yield of 4.4% and are cash flowing nicely for our clients. We had no credit issues.

Our Large Cap Yield performance was very good. The Large Cap Yield composite returned +24.8% net of fees with the equities inside the composite returning +25.7% net of fees vs. the Dow Jones Industrial Average return of +18.7%.

The Industrial REIT product returned +11.4% net of fees on a combination of share price and dividend increases throughout the year. The share price was raised from $61 to $63 in December. The dividend was increased only a penny which is an indication that the Industrial REIT has reached an appropriate valuation for the moment. Cap rates remain compressed and are making it hard to generate incremental return on new capital deployed.

Shant Goubrial, our Chief Operating Officer, has been promoted to Co-Managing Partner. This is a well-deserved promotion. Shant will take complete control of the day to day operations at Sandhill. This will allow me to return full time to the investment side of the business.

I am excited for the next generation of Sandhill employees and what they can do for our clients. We have eleven partners and many talented employees. Any wise business leader has a good feel for when it is time to unleash talent, allow new creativity and thought to energize an organization, and call on the commitment of the next generation to take the firm to the next level. Now is the time.

At the end of the day, it is 100% about delighting you the client. That is where it begins and ends. Every operating decision we make has that thought in mind.

Inflation is bad.

While many are enjoying the rapid rise in the stock market, how much are we all really ahead in real terms?

In 2021, the average cost of a car increased from $37,000 to $45,000. That is a 22% increase. The price of an average home in the United States increased 19.1% year over year in November. These are staggering increases.

For those of you reading this letter, we are all fortunate. We have equity portfolios. We own real estate. These assets have appreciated substantially. In effect, owning stocks, real estate, and other asset classes serve as a hedge against inflation.

What about the more than half of the American work force that lives from paycheck to paycheck? They have little or no savings. They don’t own assets that will inflate. Their wages are nowhere close to keeping up with inflation. In the greatest of ironies, the easy monetary policy in the United States that is intended to keep the economy humming is actually destroying the standard of living for the lower and middle classes – the very people these moves are meant to help and protect.

Jay Powell and the Federal Reserve blew it. Big Time. How could they call inflation “transitory” for over a year? Mind boggling. Supply chains will of course correct over the next couple of years as Covid winds down, but do you think most corporations are going to REDUCE the prices of their goods and services when this happens? I doubt it.

Although late to the party, the Fed is finally acting. It will stop Quantitative Easing (QE) in March. This means the Fed will no longer be buying all sorts of bonds and infusing Federal money into our money supply and banking system. Money gets a little tighter.

The second half of this story is whether the Fed then raises short term interest rates. This is the big one. Higher interest rates would lower the prices that investors are willing to pay for stocks. No prediction, just a possibility.

The S&P Total Return Index is up more than 100% in the last three years (2019-2021). The last time this happened was 1997-1999. This preceded a very difficult two-year period (2000-2001) when the S&P 500 Total Return Index returned -19.9%. Point is – be wary of the market after outsized return.

How you are positioned will matter. I spoke about all the different kinds of risk in the last newsletter. If interest rates rise, valuation risk will come into play.

I am always wary of predictions, but I think what inflation and interest rates do in 2022 will be the main event for the stock market.

I would expect Covid to abate, science to continue to catch up with the virus, and the rapid spread of Omicron to help generate herd immunity. I also expect supply chains to settle down this summer which will ease the price pressures on the global economy.

Finally, I would expect another year of heightened volatility as events remain unpredictable and hard to forecast. As always, quality, patience, and discipline will win.

Our most important stakeholders are our clients.

We offer our thanks and gratitude and look forward to tackling what lays ahead in 2022.

I hope this missive finds you well and safe.

With regards,

Edwin M. “Tim” Johnston III
Founder, Co-Managing Partner