Risk aversion is now at an extreme point in 2009

President Obama has already presided over his own bear market, within the short period of his incumbency. Markets have continued to reflect panic as the financial world and the community at large face the consequences of recent excesses. The pendulum of the price of risk has now swung from under-pricing to overpricing. Risk aversion is now at an extreme point.

In past letters, we have discussed the causes of the mess in which we find ourselves, and so need not look at them again here. As a result of these fundamental issues, market fears were compounded by deleveraging, margin calls and redemptions from hedge funds and elsewhere. These been further compounded by recent frauds such as the Madoff and Stanford scandals. Many investors are now looking at their portfolios and realise that they have either lost everything or have basically made no money in the last 10 years, some even over 20 years. This has prompted a sense of disillusion with the market, and led many to decide that this is not a place for their family wealth and savings.

Kurm’s performance has also suffered with the markets and some might say that staying out of the market and remaining in cash would be better until we find the “bottom.” This is always true with hindsight, but hindsight never comes before an event. Kurm has always been focused on value investment and not on second-guessing the market, or momentum investing. This has served investors well over long periods.

While avoiding the major problems of the last 5 years, Kurm invested soon after the panic of October and so saw values decline into November. However, the prices at which shares were bought, and the prices at which they are available now provide unique buying opportunities. We have in front of us some very sound businesses with decent to excellent balance sheets available at single-digit multiples of earnings or cash flow. We also have companies which are currently trading at a fraction of the value of their underlying potential asset values in real estate or other assets. In Asia, some companies are currently trading at market capitalisations of less than inventory, effectively giving their brand,reputation and infrastructure to investors for free.

Investors are faced today with the classic dilemma: they want to avoid further falls in value, but are anxious not to miss out on any potential rise. Today’s markets present some very compelling opportunities for investors who are concerned about the long-term increase in their family’s wealth, and have the capacity, both financial and psychological, to sit through any potential short-term volatility.

In a recent interview on CNBC, Warren Buffet spoke very specifically about two companies which he described as bargains, namely American Express and Wells, Fargo. He briefly discussed the durability of their businesses and the underlying earnings power. It is very unusual of him to speak openly about positions he owns, but special circumstances meant that he has shared his insights with us.

Kurm has currently less than 1% of its portfolio in American Express, and no holding in Berkshire Hathaway. Kurm is currently heavily weighted towards North America, but with some exposure to Europe and Asia. The largest holdings, by far, are in areas which are not exposed to discretionary consumer spending, such as health care. We are invested in defensively placed business, mostly, with underlying businesses or assets underpriced and with strong balance sheets and managements who can steer them through this current storm.

Currently, investors are waiting for sentiment or momentum to improve while bargains are staring them in the face. Investors can look backwards over their shoulders at the losses they are nursing and at every day’s bad news, or they can look ahead at the opportunities in front of them. A cautious investment in prudently managed and efficiently run businesses with balance sheets which can withstand the current turmoil will pay off in terms of great capital appreciation for the patient, long-term investor.

In October 2008, Warren Buffett wrote in The New York Times: “A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. Let me be clear on one point: I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month–or a year–from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over.”

In that article, he wrote something we should all bear in mind, especially considering the possibilities of inflation over the coming years:  “Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value.”