During Market Volatility, Shaker Sticks to its Process
We at Shaker Investments hope you and your families are safe during these difficult times. With the obvious concerns for our employees, on March 13th we made the decision to begin working remotely. Our operations team did a tremendous job with logistics and all trading and communication functions were up and running smoothly on Day 1, with no interruptions to our portfolio managers. While working remotely is different, morale among the team remains high. We are continuing to function normally using video conferencing to conduct business and research meetings.
Quarterly Market Commentary:
The first quarter of 2020 was one of the most difficult investment quarters in the last 100 years of the stock market. This was due not only to the magnitude and speed of the decline in the market, but also the rapid change in the US economy.
As investors processed the implications of COVID-19, selling increased from mid-February through mid-March. Nearly every stock in the market was lower in the first quarter. Large cap stocks typically outperform small cap stocks during times of uncertainty and this period was no exception. In 1Q 2020, large cap stocks were down 19.6% and small-cap growth stocks were down 25.8%.
We are stock pickers and not traders. We try to stick to what we do best, and over the coming weeks and months we will continue to work to determine the winners and losers in order to take advantage of investment opportunities that present themselves. We have been doing this for a long time and have navigated difficult markets successfully. In our flagship strategy (Shaker Fundamental Growth) we were able to perform very well coming out of the 2002-2003 bear market. In addition, we generated significant positive returns across all strategies after the great recession of 2007-2009, as we identified numerous high-growth businesses selling at attractive valuations. We believe that we will be able to do the same this time.
Portfolio Update:
The Shaker SCG faced challenges in 1Q 2020 and performed slightly better than its benchmark during the quarter. Small cap stocks were down 25.76% while the Shaker SCG strategy was down 25.53%, gross of fees.
Historically, the Shaker SCG strategy had underperformed its benchmark during market corrections. Four years ago, Shaker implemented changes to our portfolio construction process in an effort to reduce some of this portfolio risk. The effective changes were 1) be more cognizant of portfolio sector weightings relative to the benchmark and 2) better manage individual position sizing. These moderate improvements had significant impact on risk adjusted performance.
The following is a summary of returns for the Shaker Small Cap Growth strategy (SCG) and selected indexes for the first quarter, trailing twelve months, and last three years:
| 3 Months Ending 03/31/20 | 12 Months Ending 03/31/2020 | 3 Year Annualized Returns | |
|---|---|---|---|
| Shaker Small Cap Growth | -25.53% | -14.27% | 5.34% |
| Shaker Small Cap Growth (net)* | -25.78% | -15.14% | 4.30% |
| US Small Cap Growth Index | -25.76% | -18.58% | 0.10% |
| US Small Cap Index | -30.61% | -23.99% | -4.64% |
| *Returns are preliminary and net of 1% management fee and expenses | |||
Q1 Key Portfolio Notes:
Shaker’s SCG strategy ended the quarter with 46 holdings. With concern of a slowing economy, we made incremental changes to the portfolio focusing on finding stocks with the strongest balance sheets that met the growth characteristics important to Shaker Investments. In addition, we increased our cash position. We remain close to a market weight (+/- 2%) for most sectors, with the exception of Health Care and Financials, which we are underweight 8% and 4%, respectively. The strategy does not actively use sector weight to differentiate returns, but sector weights can deviate from the benchmark weight and did account for some of the return variance during the quarter. We continue to look for attractively valued and growing stocks that meet our investment criteria.
Since the end of the fourth quarter until the market peak on February 19th we did not purchase any new positions and marginally added to some current holdings to adjust portfolio weightings. In late February and early March, as our understanding of the seriousness of the coronavirus evolved, we looked to add to new holdings or add to holdings that would maintain or increase value in a recessionary environment. We made new purchases in EPAM Systems, Inc. (EPAM) and increased our weighting in Marvell Technology Group Ltd. (MRVL) and Sprouts Farmers Market (SFM).
In an effort to raise our cash holdings to reduce portfolio volatility, we liquidated positions that we thought possessed the biggest risks to the SCG portfolio in the current market environment. A majority of the liquidations came from industries that are most severely impacted by coronavirus policy responses and the slowing economy. The holdings we liquidated include: Spirit Airlines (SAVE), Performance Food Group (PFGC), Callon Petroleum (CPE), Synovus Financial (SNV) and TriState Holdings (TSC).
The Top Q1 Contributors:
While all segments of the market suffered losses, the SCG strategy did see relative differentiation in certain sectors. Our healthcare exposure to diabetes stocks Dexcom (DXCM) and Livango (LVGO) helped provide some stability to this sector. Our analysts have done considerable work on the diabetes space and are focused on finding the best in class providers that can dramatically improve the lives of patients. We have owned many of these stocks for a long time and we will continue to own these names.
The Q1 Detractors:
Given that all segments of the market suffered losses, the largest detractors for the first quarter from a dollar perspective tended to be our heaviest weighted positions. The largest detractors were Axos Financial (AX), Synnex Corp (SNX), Boot Barn Holdings Inc. (BOOT), Performance Food Group (PFGC), DXP Enterprises (DXPE), and The Trade Desk (TTD).
Small Cap Growth Outlook:
We have an experienced investment team that has seen market corrections before. Our focus is to find long-term ideas that meet the 11 characteristics that are important to Shaker Investments. We will stick to what we do best and over the coming weeks and months we will continue to work to find small cap investment opportunities. We generated significant positive returns after the great recession of 2007-2009 by sticking to our process and identifying high-growth businesses selling at attractive valuations and we are confident that we will be able to do the same this time.
We wish you a safe and healthy rest of the year and we will continue to keep you updated as the year progresses. If you have any questions, please call or email us any time.
Sincerely,
The Shaker Investment Team
General Disclosures:
The information contained in these materials is as of 03/31/2020. This document is confidential and for the sole use of the intended original recipient. It is not intended as investment advice or recommendation, nor is it an offer to sell or a solicitation of an offer to buy any interest in any fund or product.
Risk:
An investment in any of our strategies is speculative and involves a high degree of risk, including potential loss of principal. There is no guarantee that the investment objective will be achieved, or that the investment strategies will be profitable. Investments in smaller companies may be riskier, less liquid, more volatile and more vulnerable to economic, market and industry changes than investments in larger, more established companies.
Performance:
Past performance is not indicative of future results. Returns in the current year are preliminary. The strategy’s overall return is a composite of clients’ separately managed account returns. Some clients’ investment returns were more or less than the overall strategy return. Not all our client’s returns surpassed the benchmark. The index return information herein has been obtained from public sources and we do not guarantee its accuracy. The following disclosures applies to information mentioned in this document:
1. Gross returns are net of expenses.
2. Net returns are net of expenses and a 0.25% quarterly (1% annual) management fee for the corresponding period.
3. Inception date for the Small Cap Growth Strategy is 07/01/2004.
4. The benchmark for the Small Cap Growth Strategy is a US Small Cap Growth index. At times, the iShares Russell 2000 Growth ETF is used as a proxy. The strategy is more concentrated than the benchmark.
5. Risk metrics are estimated using monthly returns net of fees for the last 3 years, unless otherwise noted.
Recommendations:
The specific securities identified and described in this report do not represent all of the securities purchased, sold or recommended for clients. It should not be assumed that investments in the securities identified and discussed will be profitable in the future. Holdings and sector weightings in any strategy are subject to change and should not be considered investment advice or a recommendation to buy or sell a particular security. Actual holdings may vary by client. A list of the stocks selected for any of our strategies during the trailing twelve months is available upon request.