US Equity Markets were difficult in 2022. Equities began to correct at the start of the year in response to inflation and anticipation of interest rate hikes by the Federal Reserve. Rate hikes affected stock prices in two ways: 1) the higher discount rate reduced the present value of future cash flows, which weighed on valuation multiples of today’s earnings, and 2) higher rates slow future economic activity, which reduce future earnings expectations. High inflation, which drove the aggressive moves by the Federal Reserve, also weighed on consumer sentiment and real consumer spending (e.g. adjusted for the impact of inflation). Russia’s invasion of Ukraine in February only added to the instability and uncertainty in the world.

By year end, few questions had been resolved: 

• ·The Federal Reserve has raised rates to a higher level than anticipated at the beginning of the year, yet financial markets remained skeptical of the Fed’s resolve to keep rates higher for longer even as labor shortages continue. 
• Consumers are starting to experience some signs of inflation relief. Jobs are plentiful (excluding the recent layoffs at technology firms which broadly over-hired the last several years), and consumers continue to spend, especially on travel and experiences.
• The war in Ukraine shows no signs of ending, despite enormous suffering in Ukraine and serious Russian setbacks on the battlefield. 
• China eliminated most Covid 19 restrictions late in the year, which had held back its economy relative to other parts of the world.  This abrupt change in policy increased uncertainty regarding China’s impact on global economic growth and commodity prices in 2023. 

Consequently, the economic picture ending 2022 is as murky as when it began.

The following is a summary of returns for the Shaker Fundamental Growth Strategy and selected major indices for the fourth quarter, year to date, and the average annual returns for the one-, five- and ten-year periods, as well as the period beginning January 01, 2007, and ending December 31, 2022:

Discussion of Third Quarter Performance and Positions

The largest positive contributors to returns during the quarter were Dexcom (DXCM), Insulet (PODD), Broadcom (AVGO), Axos Financial (AX), and AmerisourceBergen (ABC). Our largest detractors during Q4 were Paylocity (PCTY), The Trade Desk (TTD), Amazon.com (AMZN), Qualys (QLYS), and PayPal (PYPL).

For the full year 2022, our biggest winners were our energy holdings (EOG Resources (EOG), Diamondback Energy (FANG), and Matador Resources (MTDR)), along with AmerisourceBergen (ABC), Halozyme Therapeutics (HALO), and O’Reilly Automotive (ORLY). On the negative side, The Trade Desk (TTD), Axos Financial (AX), PayPal (PYPL), Zebra Technologies (ZBRA), and Alphabet (GOOG) were the largest detractors.

At its low point for the year, which was October 12, 2022, the S&P 500 Index was down 24.0% year-to-date. Long-term interest rates similarly peaked a week later in mid-October, when the 10-year Treasury yield reached approximately 4.2%. Stocks rallied over the subsequent two months and the S&P 500 finished the quarter up 7.6% as the 10-year treasury yield fell below 3.9%. Next-twelve-months earnings estimates for the S&P 500 moved marginally lower during the quarter, while the rally in stocks was driven by an increase in the forward P/E multiple investors were willing to pay for each dollar of earnings from 15.1x to 17.1x, driven by lower long-term interest rates, increasing hopes for a “soft landing” for the US economy, and improving economic outlooks in China and Europe.

Value stocks outperformed growth stocks, with the Nasdaq composite declining 0.8% during the quarter, while our focus area of small cap growth stocks only rose 4.1%. The underperformance of higher P/E growth stocks weighed on the portfolio’s results relative to the S&P 500. For the S&P 500, the top performing sectors in the quarter were energy, industrials, and materials, while the weakest sectors were consumer discretionary and communications services, which declined during the quarter. These sector trends similarly reflect the outperformance of value relative to growth stocks, and we observed similar performance trends by sector in the portfolio. Healthcare was a noted bright spot for the quarter as several of our holdings benefited from company-specific catalysts while the performance of healthcare in the broader market was more muted.

As valuations have become more attractive for many companies in 2022, we continue to find opportunities to initiate new positions and upgrade the portfolio. In the fourth quarter we initiated new positions in:

• Casey’s General Stores (CASY), an operator of convenience stores across the Midwest
• The Boston Beer Company (SAM), a beverage producer with brands including Samuel Adams beer, Twisted Tea, and Truly Hard Seltzer
• Kirby Corp (KEX), which operates tank barges in the US serving primarily the energy industry
• Lancaster Colony (LANC), a producer of food products, which we subsequently sold during the quarter after a 30%+ move higher in the stock price
• United Healthcare (UNH), a provider of healthcare products and insurance services

Investment Outlook

As noted, the economic outlook at the beginning of 2023 is uncertain. The interest rate increases by the Federal Reserve are starting to impact economic growth. In the US, the homebuilding industry is in a recession. Continuing unemployment claims have been increasing since May 2022 and are now up 26% off the May lows, although they remain historically low. Leading Economic Indicators (LEI’s) have now fallen by an amount that, since 1960, has always signaled a coming recession. Given the lag time between rate changes and their economic impact, it is likely the economy will continue to slow, and any future rate hikes by the Fed will put additional downward pressure on economic activity. For now, the broader US economy has shown limited signs of deterioration – the unemployment rate remains low at 3.5% in December, and preliminary estimates of real GDP growth in the fourth quarter show the US economy grew at a 2.9% annualized rate. For now, it remains possible that the Fed could successfully slows the overheated US economy and return inflation to targeted levels without causing a recessionary contraction. Time will tell if it is a recession or a soft landing.

Over the last several months, the stock market has been acting as though a bottom in stock prices is already in place and we are headed towards a more optimistic economic outcome. That possibility remains, and stock prices have a history of leading the economic data by several months. However, if earnings start to decline more than the market currently anticipates, major stock averages may break below the lows that the markets reached in 2022. In short, more uncertainty may come in 2023!!!

The uncertainty may not apply equally to all companies and stocks. What has changed? In 2022, a great deal of negativity was priced in for company outlooks and valuations became meaningfully cheaper. There is room for upside if company results are better than feared. This is especially true for smaller growth stocks, which peaked twenty-three months ago in February of 2021. Small cap growth stock prices bottomed out in June of 2022 and have now moved 17% off that low but are still 32% below the peak. Within this broader universe, we now find an increasing number of stocks with compelling valuations, attractive fundamentals, and good opportunities to continue to grow even if we suffer a mild recession with additional upside if the outlook improves.

As 2023 unfolds, we are optimistic in terms of company-specific opportunities to generate favorable investment returns. While finding it difficult to predict the performance of the indices this year, we are much more confident about the outlook for certain individual stocks and that is where we are focused. We have always tried to use downturns to better position our investments to take advantage of the investment climate that emerges. We expect numerous opportunities to do exactly that this year too.

We hold a diversified portfolio of stocks in the strategy. Our largest holdings as of February 1, 2023, are as follows:

• Diamondback Energy (FANG), Energy
• Axos Financial Inc. (AX), Financial Services
• Citizens Financial (CFG), Financial Services
• Insulet (PODD), Health Care
• Paylocity Holdings (PCTY), Industrials
• Visa, Inc. (V), Industrials
• Wesco International (WCC), Industrials
• CoStar Group (CSGP), Real Estate
• Alphabet (GOOG), Technology
• Broadcom (AVGO), Technology

The ten largest positions listed above are 31.2%, which remains a lower concentration than we typically have for the top-ten holdings partly reflecting our elevated cash balance and our desire to be more diversified at this point in the cycle. In terms of sector exposure, we are slightly overweight Healthcare and Consumer Staples relative to the broader market index, roughly in-line Industrials, Energy, and Real Estate, and our most underweight sectors are Technology and Consumer Discretionary. We have been actively working to increase our weighting in Consumer Discretionary, but we see further risk in Technology (particularly hardware) following two years of elevated spending during the pandemic that will likely take some time to digest. In general, the average cash position in accounts that we manage remains higher than normal. Following the material decline in markets in 2022, we are increasingly finding individual stocks with good long-term growth prospects trading at healthy discounts to historical levels. While we remain cautious given ongoing macro uncertainty, we have started adding new positions to the portfolio to take advantage of these more attractive valuations and expect to continue to do so through the course of 2023.

We look forward to updating you in April and we are always available to assist in any way we can.

Sincerely,

The Shaker Investment Team

Disclosure: Past performance is not indicative of future performance. It should not be assumed that any investment or strategy discussed in this publication will be equally profitable in the future. Investment in this strategy carries risks, including loss of principal. There is no guarantee that any specific investment strategy will be suitable or 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. 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 and the strategy is more concentrated than the benchmark. The index performance information in the table is based on public information which we believe to be accurate but have not been verified.

The specific securities identified in this report does not represent all of the securities purchased or sold or recommended to clients. Holdings / 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 all the stocks selected for any of our strategies during the trailing twelve months is available upon request. 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.