Accretive Q2 2021 Client Letter

Dear Clients and Friends of Accretive,

At the end of the second quarter, Accretive managed approximately $231 million for clients on a discretionary basis.  As a result, we are waiving 7.5% of our management fee for the third quarter of 2021 under our Client Alignment Program™ (CAP).  

We are excited to cross into another tier of the program and hope to cross into an even higher tier, which starts at $250 million and results in a 10% waiver, in the near future.  How, when, and if that happens will be dependent on some combination of market conditions and the growth of Accretive.

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Second Quarter Recap

The second quarter was a good one for investors.  Large cap US stocks, represented by the S&P 500, led the way with high-single digit returns.  Small and international stock indices lagged some but still posted respectable mid-single digit returns.  More conservative bond investments had some price appreciation as interest rates drifted lower, and more risky bond investments got the additional benefit of narrowing yield spreads.   Overall, the quarter was a strong one for stocks and an uneventful one for bonds.

Clients may be interested in our take on the quarter and the current environment.  The quarter was about what we would expect, given the overall backdrop.  A combination of accommodative monetary policy from the Fed and ongoing stimulus from the Federal Government has been supportive of asset prices (stocks, bonds, real estate, etc.).  A lot of the fiscal stimulus is making its way into the real economy.  Stimulus, combined with pandemic related disruptions, has resulted in many distortions and changes in the economy.  Some of those changes and distortions may be temporary, while some may be more permanent.  

In our opinion, these distortions and changes have made the current investing environment more difficult than usual.  By characterizing it as difficult, we wish to convey that it is hard and emphasize that we do not necessarily mean “bad.” The difficulty comes in determining normalized earnings power for businesses due to the previously mentioned distortions and changes.  Benjamin Graham once said that in the short term, the market is a voting machine, but in the long term, it is a weighing machine.  As long-term investors we are constantly trying to ascertain the “weight” of a given investment, but there are times when it feels like we only get to look at it through a fun-house mirror.  So, it is hard, but no one said our job would be easy.

Quarterly Topic:  Inflation

Inflation seems to be on everybody’s mind and a popular topic across most media outlets as of late.  Between the Federal Reserve’s ever-expanding balance sheet, the US Government’s increasing debt load, and structural budget deficits, most market participants seem to believe that higher future inflation is a foregone conclusion.  Inflation is a difficult topic to discuss because it is both difficult to measure and somewhat politicized, but it has investment implications, so we feel compelled to share our take.

We do not think there is a single measure that fully encompasses inflation.  We view some measures as useful, but we also recognize that they have substantial limitations, omissions, and drawbacks.  For investment purposes, we tend to think about inflation as rising prices.  

Where have we seen prices rise?  The answer to that question is easy since rising prices have generally been observable.  Over the last year, we have seen it in many places:  asset prices, commodities, wages, and specific service sectors.  The critical question, in our view, is where are prices expected to continue rising and for how long? We have three general observations:

1. Technology enables society to do more with less, which tends to weigh on many commodity prices over time.  Right now, there are certain commodity shortages and supply chain kinks that, once resolved, have the potential to result in a later period of oversupply.  Combine that with the ability to substitute goods and it is not clear that further price inflation should remain persistent across all commodities.  However, areas where there are likely to be ongoing and more permanent supply constraints may experience more structural price inflation.  

2. Wage gains tend to be stickier in nature.  However, whether there are persistent and structural reasons for wages to keep increasing is another matter.  During the great inflation of the 1970’s, labor unions had contractual rights to inflation related wage gains. Currently employers are competing with pandemic aid, but pandemic aid seems likely to have an expiration date.  While we think public policy is turning more labor friendly, and there may be incremental wage gains to come as a result, the timing, magnitude, and duration of future wage gains seems less certain.  

3.  Generally speaking, we have seen asset price inflation in stocks, bonds, and real estate.  This contributes to a “wealth effect”, which can be somewhat inflationary.  However, whether that continues to persist is subject to a variety of factors:  strength (or weakness) of the economy, presence (or absence) of monetary stimulus, and social/fiscal policy.  

These are simply observations, but what we think is more important is how these thoughts and observations influence our investment mix.  While we consider the investment implications of potential inflation as we build portfolios, we also remind clients that we tend to avoid all or nothing bets.  Our goal is to position portfolios for the long-term and to weather a variety of scenarios over a full market cycle.  We adjust portfolios as our assessment of the long-term changes, but we also try to avoid market timing.  Generally, we continue to prefer productive assets, as well as companies that we believe have sustainable competitive advantages and some element of pricing power.  

Accretive’s Portfolios

Overall, our portfolios had a good quarter.  Asset allocation strategies generally met our expectations, with more aggressive portfolios outpacing more conservative portfolios.  This is understandable, given what happened in the quarter.  

In our individual equity strategies, the growth stock portfolio lagged its benchmark some, while our equity income portfolio fared a bit better.  Sometimes it can be hard to keep up with a strong market, but we also need to balance participation with preparation for a more difficult environment.  Given the rise in asset prices, we would not be surprised to have some cash build in our equity strategies before we find re-investment opportunities.    

Concluding Thoughts

The first half of 2021 is in the books and things have gone well.  As the re-opening continues in the US, our calendar is starting to fill back up.  We look forward to seeing more clients in person before year-end.  

As always, we appreciate the trust and confidence our clients have in us. If you have any questions or concerns, please feel free to contact us.  We would welcome hearing from you.

Sincerely,

Gary C. Ribe, CFA, CFP®

Chief Investment Officer, Managing Partner

gary@accretivewealthpartners.com

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