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Rob, Rupel and Richard

 

August 2015

Another Crisis in August: The Heathbridge View
Aug 22, 2015 6:21 AM
Heathbridge Capital Management

It never fails! The market has had another crisis in August, when nobody is around to take care of it. Actually, come to think of it, that is why such crises often happen in August. With very little volume and few decision-makers about, it is easy for prevailing emotions to create large swings, sometimes up, more often down.

The main cause of concern in the summer of 2015 has been the eminent collapse of the Chinese miracle. To some extent, this was bound to happen. A managed economy cannot sustain fairy-tale growth forever. Furthermore, when eventually the piper must be paid, a managed economy will not have the flexibility to recover quickly. This is in contrast to the resilience of, for example, the United States economy after the 2008 financial crisis. In fact, it is the flexibility of the western economies that make them unlikely to be dragged down with China into the morass. While undoubtedly there will be some diminishment in demand because of China, which stocks like Magna and ADP are reflecting, the steady progress being made in the US and now Europe is likely to continue even if there is a brief pause. Even Japan, so close to China, is starting to see domestic demand pick up even with the Chinese slowdown. After 25 years of stagnation, Japan is increasingly likely to experience the “spontaneous recovery” that Alan Greenspan wrote about.

China is more a supplier to the world than a customer. The greatest consequence of a prolonged period of low Chinese growth – or even, God forbid, of decline – is likely to be a prolonged stagnation in the commodities that China consumes in its own right. Copper has been a notable victim of the Chinese collapse and oil now faces weak demand on top of swelling supply. This is likely to weigh on commodity stocks and, in turn, the Canadian economy and its market. Our diversification strategy at Heathbridge means that we really only have two or three stocks in this area, and as a consequence, our portfolios have been much less affected than most. Some commodity stocks are approaching compelling valuations and we might even add to some of the best companies in the not too distant future, although we would expect it to be a long time before such investments again hit their stride.

Generally, we have cash in the portfolios to take advantage of these downturns and are fairly confident that the world markets in due course will get used to China’s slow decline.

A secondary development in the market over the summer has had a greater impact on Heathbridge portfolios. The Netflix phenomenon has finally been recognized in the prices of media companies, particularly those that rely most heavily on the advertising market. The TV broadcasters are most affected as advertising continues its secular decline. The stock in our portfolio that was most affected by this was Corus Entertainment, which we sold in two stages, half near its peak at $25 and the rest at $16 ½. However, one of our favorite stocks, The Walt Disney Company, owns ESPN, a company that supplies live sports broadcasting to the TV networks. It too has been dragged down by the group, even though most of its product is content that benefits from the new over-the-top competition. With further price declines, we would eagerly buy more. Other media like stocks in our portfolios, like the cable companies, have also been affected.

Our portfolios are generally lower than their last quarter end values by perhaps 5 or 6 percent. We would consider this normal variation. Our expectation is that at some point the stocks that are falling because of fear of economic contagion – like Magna and ADP in your portfolio – will start to be snapped up when markets resume their normal activity and returning investors take advantage of the bargains.

The Team at Heathbridge

Heathbridge Capital Management

Telephone: (416) 360-3900

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