Existing Home Sales Rise--Affordability Helps

To move the merchandise, cut the price. That time-tested formula finally seems to be working in the U.S. housing market. The National Association of Realtors said today that sales of existing homes rose 3.4 percent in April, from March (seasonally adjusted).

No doubt a big reason was the improvement in affordability. The interest rate on a 30-year fixed-rate mortgage has continued falling since the period covered by the NAR report, portending better times ahead. Freddie Mac (FMCC), the mortgage-buying giant, says the rate was 3.79 percent in the week ended May 17, the lowest since it began keeping records in 1971. The Realtors’s index of affordability hit a record high in the January-March quarter. It factors in sales prices of existing homes, mortgage rates, and household income, which is slowly strengthening as the labor market improves.

The median sales price rose 10.1 percent from a year earlier. That hurts affordability, but it could lure buyers who decide they can’t wait for even cheaper prices. “Today’s data provide further evidence that the housing sector is turning the corner,” wrote economist Joseph Lavorgna of Deutsche Bank Securities.

The numbers could well improve in the months to come. Action Economics Chief Economist Michael Englund wrote: “The existing home sales data generally continue to underperform the recovery in the new home market and other indicators of real estate market activity.” But, he added, “the trend is upward.”

Tomorrow the U.S. Census Bureau will report sales of new homes in April. The median estimate of economists surveyed by Bloomberg is that they rose 2.6 percent from March.

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S&P 500 Rises Most Since ’87 as Bernanke Helps Offset Europe

January 19, 2012, 12:55 PM EST By Inyoung Hwang and Whitney Kisling

Jan. 19 (Bloomberg) -- U.S. stocks are off to the best start in 25 years as investors speculate Federal Reserve Chairman Ben S. Bernanke has done enough to insulate the economy from Europe’s debt crisis.

The S&P 500 has gained 4 percent, the most since it rose 10 percent over the first 11 days in 1987, according to data compiled by Bloomberg. Stocks are overcoming earnings that trailed estimates by the widest margin in three years as improvements in hiring, manufacturing and car sales extend the biggest fourth-quarter advance since 2003.

Bernanke has left the target rate on overnight loans between banks unchanged since the end of 2008, the longest stretch since at least 1971, data compiled by Bloomberg show. The policy may push more investors toward equities after yields on 10-year Treasuries finished 2011 within a quarter-point of a record low and the economy grew at an estimated 3.1 percent rate last quarter, said John Carey of Pioneer Investments.

“It’s probably a good idea not to fight someone so much bigger than you are,” Carey, a Boston-based money manager at Pioneer, said in a telephone interview on Jan. 18. The firm oversees about $220 billion. “The Fed will probably stay on its course,” he said. “I haven’t heard any indication that the Fed is considering boosting interest rates, so stocks will look attractive from an income point of view.”

Worst to First

Four companies whose declines were among the 10 biggest in the S&P 500 last year are among the 10 largest gainers in 2012. Netflix Inc., the Los Gatos, California-based movie service, climbed 42 percent, and First Solar Inc. in Tempe, Arizona, is up 27 percent. Charlotte, North Carolina-based Bank of America Corp., which lost 58 percent in 2011, gained 22 percent this year, while Sears Holdings Corp. in Hoffman Estates, Illinois, rose 24 percent after losing 56 percent.

The S&P 500 advanced seven of the first eight days this year, something that has occurred eight times since 1900, data compiled by JPMorgan Chase & Co. show. The mean return those years was 16 percent, the data show.

About $460 billion has been added to the value of American shares this year and the S&P 500 reached an almost six-month high yesterday, as economic reports outweighed concern that downgrades for European nations would worsen the debt crisis. France was stripped of its top rating by S&P and banks suspended talks with Greece over restructuring.

Economic Growth

“Europe is important but it’s not the end of the world if they see a recession,” James Dunigan, who helps oversee $107 billion as chief investment officer in Philadelphia for PNC Wealth Management, said in a Jan. 17 phone interview. “We’re starting to see that modest economic growth expectation for this year.”

The average forecast for U.S. gross domestic product growth this year has been rising since October. From a low of 2 percent, the median estimate in a survey of 72 economists has climbed to 2.3 percent, including a 0.2-point increase on Jan. 12 that represented the biggest one-day gain since projections for 2012 began, according to data compiled by Bloomberg.

Optimism about the economy is helping investors shrug off fourth-quarter earnings that have trailed estimates. Profit fell short of analyst forecasts by an average of 4.3 percent among the eight S&P 500 companies that posted results in the first week of earnings season, the data show. Three other quarters with a worse first week of earnings season were in 2007 and 2008 as the economy was slipping into to the worst recession since the 1930s.

Five-Month High

The S&P 500 increased 1.1 percent to 1,308.04 yesterday, the highest level since July 26. It climbed 1.4 percent over four days last week, reaching a five-month high of 1,292.48 on Jan. 11 even after Microsoft Corp., the world’s biggest software maker, said personal computer sales were probably worse than forecast in the fourth quarter.

“This year isn’t going to be about earnings,” James Paulsen, who helps oversee about $333 billion as chief investment strategist at Minneapolis-based Wells Capital Management, said in a Jan. 17 phone interview. “There’s a lot of value in the market that could come just from people calming down about this recession, depression calamity. It’ll be about expanding that multiple.”

Combined S&P 500 profit is forecast to reach $104.76 a share in 2012, the highest level ever, according to data compiled by Bloomberg. The benchmark index is trading at 12.5 times forecast earnings. That compares with 13.4 at the beginning of 2011. The S&P 500’s average ratio in 2011 was 14.1 based on reported earnings. The five-decade mean is 16.4.

Unprecedented Stimulus

Central banks around the world have taken unprecedented measures to prevent the European debt crisis from triggering a global recession. European Central Bank President Mario Draghi last month unveiled plans to offer banks 36-month, 1 percent loans through two so-called longer-term refinancing operations, known as LTROs.

That combined with investor speculation of a third round of stimulus by the Fed and bets China’s central bank will ease monetary policy has fueled stock prices, according to Doug Noland, the money manager for Pittsburgh-based Federated Investors Inc.’s Prudent Bear Fund, which oversees $1.3 billion. It won’t last, he said.

“Markets over the years have become programmed to focus a lot on monetary stimulus,” Noland said in a Jan. 17 phone interview. “It’s a very dangerous reason to be buying equities. We saw in 2011 how QE2 didn’t have much fire power. We’ve seen European policy making repeatedly disappoint the markets.”

Target Rate Unchanged

Fed policy makers have left their target rate unchanged since the end of 2008, data compiled by Bloomberg show. The S&P 500 more than doubled from its low in March 2009 after Bernanke signaled in August 2010 the central bank would embark on a second round of asset purchases, known as quantitative easing, to boost the economy.

The index declined as much as 19 percent from its 2011 high in April through October last year as the program ended and concerns European leaders would fail to tame the region’s debt crisis escalated. It has since rebounded 19 percent.

Gross domestic product in the euro region will shrink by 0.2 percent this year, the median estimate in a survey of 21 economists surveyed by Bloomberg. The diverging outlooks are reducing lockstep price moves. The so-called 30-day correlation coefficient between the euro and S&P 500 fell 27 percent to 0.66 after reaching a record 0.91 in November.

Correlation Weakens

Speculation about whether European leaders would succeed in containing the credit crisis sent equity, currency and commodity markets up and down in unison last year. The relationship between U.S. stocks and the euro weakened after American unemployment fell to 8.5 percent from 9 percent and business activity as measured by the Chicago Purchasing Managers Index expanded at the fastest pace in seven months.

“A lot of people dismissed the original data in the fall as being backward looking,” Paul Zemsky, the New York-based head of asset allocation for ING Investment Management, said in a telephone interview. His firm oversees $550 billion. “But when you started seeing jobless claims going down, it looked more and more like the U.S. had shrugged off a lot of the European contagion.”

Rallying stocks have done little to entice investors. Mutual funds that invest in U.S. equities posted $753 million in inflows for the week ending Jan. 11 after $7.1 billion in outflows during the first week of the year, Investment Company Institute data show. Customers pulled about $63 billion for the final three months of 2011, the data show.

The S&P 500 has gained an average 6.1 percent during presidential election years, compared with 4.4 percent in the years that follow, according to Bloomberg data going back to 1952. The index has posted a positive return for the last seven months of those years 87 percent of the time, data from the Stock Trader’s Almanac show.

“Committed bears have to pull in their claws a little,” according to Brian Barish, who helps oversee about $7 billion as Denver-based president of Cambiar Investors LLC. “On the more bullish side, corporate earnings continue to be very good and stocks in a lot of areas are quite undemanding in terms of their valuations,” Barish said in a Jan. 17 phone interview. “We could have a good year.”

--With assistance from Lu Wang in New York. Editors: Chris Nagi, Jeff Sutherland

To contact the reporters on this story: Inyoung Hwang in New York at ihwang7@bloomberg.net; Whitney Kisling in New York at wkisling@bloomberg.net

To contact the editor responsible for this story: Nick Baker at nbaker7@bloomberg.net

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Cutting Buffett Helps Sequoia Fund Top Value Investor Rankings

December 29, 2011, 6:15 AM EST By Charles Stein

Dec. 29 (Bloomberg) -- Sequoia Fund Inc., recommended by Warren Buffett when it opened, beat the U.S. stock market over the past four decades, in part because a large piece of the fund was invested in his company, Berkshire Hathaway Inc.

Heeding Buffett’s warning that Berkshire wouldn’t grow as fast as it once did, the managers of the $4.7 billion fund cut their reliance on the stock almost in half in 2010 and put the cash into companies such as Valeant Pharmaceuticals International Inc., a drug distributor. Sequoia is beating the pack again this year, gaining 14 percent through Dec. 27, better than 99 percent of value stock funds, according to data compiled by Bloomberg.

“They have the kind of portfolio Buffett might have if he ran a mutual fund,” Steven Roge, a portfolio manager with Bohemia, New York-based R.W. Roge & Co., said in a telephone interview. His firm, which oversees $200 million, holds shares in Sequoia.

Like Buffett, the managers of Sequoia look for high-quality companies with competitive advantages that the fund can hang onto for long periods. While the scale of Buffett’s $68 billion stock portfolio forces him to buy mainly the largest companies, Sequoia is small enough to benefit from investments in mid-sized businesses.

The fund beat 97 percent of peers over the past 10 and 15 years, according to Morningstar Inc. in Chicago. From 1970 to 2010 the fund returned 14 percent annually, compared with 11 percent for the Standard & Poor’s 500 Index. In its best year, 1976, the fund gained 72 percent, according to “The Warren Buffett Way” (John Wiley & Sons, 1994) by Robert Hagstrom. It lost 27 percent in its worst year, 2008.

Buffett’s Praise

Sequoia Fund was co-founded in 1970 by Richard Cunniff and William Ruane, a friend of Buffett since both studied under legendary value investor Benjamin Graham at Columbia University in 1951. When Buffett shut down his investment partnership in 1969 to concentrate on Berkshire Hathaway, he recommended that his clients invest with Ruane.

“Bill formed Sequoia Fund to take care of the smaller investor,” Buffett wrote in an e-mailed response to questions. “A significant percentage of my former partners went with him and many of those still living have their holdings of Sequoia.”

Ruane ran an unconventional fund, closing Sequoia to new investors in 1982 because he didn’t want its size to limit what the fund could buy. It opened again in 2008, three years after Ruane’s death.

Ruane also held a concentrated portfolio. In 2003, Sequoia had 75 percent of its money in its top six holdings, according to a regulatory filing.

‘Six Best Ideas’

Ruane believed that “your six best ideas in life are going to do the best,” David Poppe, who now runs the fund together with Robert Goldfarb, said at a May 2011 investor day for Ruane, Cunniff & Goldfarb Inc., the New York firm that advises Sequoia.

Poppe and Goldfarb didn’t respond to a request to be interviewed. The two were named domestic stock managers of the year for 2010 by Morningstar. They are finalists for the same award for 2011.

Since Ruane’s death, the firm has hired more analysts and added more holdings to the portfolio. At the end of 2010, Sequoia held 34 stocks, an all-time high, according to a letter to shareholders in the fund’s 2010 annual report. The same letter explained why Sequoia reduced its stake in Berkshire Hathaway.

Cutting Berkshire

“When Warren Buffett tells the public that Berkshire’s growth rate will slow in the future, it behooves one to listen,” the fund’s managers wrote. Buffett has said on a number of occasions that a company of Berkshire’s size can’t grow at the pace it did when it was smaller.

“We know we can’t do remotely as well in the future as we have in the past,” Buffett said on April 30 at Berkshire’s annual meeting in Omaha.

Berkshire represented 11 percent of Sequoia’s holdings as of Sept. 30, down from 20 percent at the end of 2009 and 35 percent in 2004, according to fund reports.

Sequoia’s Berkshire stake has been a drag on the fund’s returns in recent years, said Kevin McDevitt, an analyst for Morningstar. Over the past five years, Sequoia rose 4.3 percent a year compared with an annual gain of 1 percent for Berkshire. Over 20 years through November, Berkshire outperformed Sequoia by 2.6 percentage points a year.

“There was a time when you could have said they were riding Buffett’s coattails,” McDevitt said in a telephone interview. “That’s not the case anymore.”

Long-Term Investor

A reduced Berkshire stake hasn’t stopped the fund from investing in a style similar to Buffett’s. In 2011, Buffett bought shares of MasterCard Inc. and International Business Machines Corp., two companies Sequoia already owned.

Buffett’s portfolio contains stocks, such as Coca-Cola Co. and Wells Fargo & Co., that he has owned for more than 20 years. Sequoia has holdings, including TJX Cos. and Fastenal Co., that have been in the fund for at least 10 years, regulatory filings show.

TJX, a Framingham, Massachusetts-based discount retailer, has appreciated at a rate of 14 percent a year in the 10 years ended Nov. 30, compared with 2.9 percent for the Standard & Poor’s 500 Index, according to data compiled by Bloomberg. Fastenal, an industrial supplier based in Winona, Minnesota, gained 20 percent a year.

“As an investor, if you get the people and the business right, you can let a company do the hard work for you for a long time,” Thomas Russo, a partner at Lancaster, Pennsylvania-based Gardner Russo & Gardner, said in a telephone interview. Russo, who worked at Ruane’s firm from 1984 to 1989, manages $4 billion.

‘Good and Bad’

Sequoia’s patience hasn’t always paid off. Mohawk Industries Inc., a carpet maker based in Calhoun, Georgia, and a longtime Sequoia holding, lost 19 percent of its value in the past five years as the housing slump depressed carpet sales.

“In the short term, holding Mohawk has been a really poor decision,” Poppe said at the 2009 investor meeting.

Such self-criticism is common at the meetings. At one session, an investment in Porsche Automobil Holding SE, the German automaker, was described as a “disaster.” At another, a manager admitted the firm was too timid about buying MasterCard after it went public in 2006.

“They give you the good and the bad,” said Roge, who has attended several of the firm’s investor meetings.

Sequoia’s managers don’t buy many of the largest stocks because the companies are too well-known and too heavily followed on Wall Street. Their preference is to own businesses “where we believe, not always correctly, that we have an edge in information,” they wrote in their 2009 letter to shareholders.

Valeant Stake

Valeant Pharmaceuticals, the fund’s largest holding, had a market value of less than $7.5 billion when Sequoia purchased it in the third quarter of 2010, Bloomberg data show. The Mississauga, Ontario, drug company gained 62 percent this year.

At the 2011 investor meeting, the fund’s managers emphasized Valeant’s unusual business model, which focuses on acquiring drugs with a proven track record rather than spending money on research and development. They also praised the firm’s chief executive officer, J. Michael Pearson.

Goldfarb told investors that over time he has become convinced that the right executive is crucial to a business’s success. “We’re betting more on the jockey and a little less on the horse,” he said in May at the fund’s annual meeting.

Sequoia typically has far more cash than the 3.7 percent held by the average U.S. domestic stock fund. At the end of the third quarter, cash represented 27 percent of the fund’s assets, according to data compiled by Bloomberg.

Holding Cash

Other well-known value investors, such as Seth Klarman, founder of Baupost Group LLC, a Boston-based hedge fund, and Robert Rodriguez, the longtime manager of FPA Capital Fund and current CEO of Los Angeles-based First Pacific Advisors, let cash build up when they can’t find enough attractive investments.

“In good markets cash can be a drag, but we have not had many good markets lately,” Dan Teed, president of Wedgewood Investors Inc. in Erie, Pennsylvania, said in a telephone interview. Teed, whose firm manages more than $100 million, including shares of Sequoia, said the fund’s cash was a plus because it means they “aren’t afraid to take a defensive position.”

Debt Dangers

Klarman and Rodriguez have written about the dangers of the increase in U.S. government debt, warning that it could pose a threat to the economy and the stock market if it is not whittled down.

Goldfarb normally ducks questions about macroeconomic issues at annual meetings, saying he has no special insight into the future of the economy, interest rates or the prices of oil and gold.

At the 2011 annual meeting, in response to an investor question, he sounded a gloomy note about deficits.

“My own feeling is that we’re just repeating the housing bubble in a different form,” he said. “We’ve substituted an unsustainable buildup of government debt for what is an unsustainable buildup of consumer debt. This one really feels worse to me and more dangerous. I think we’re living in a time of false prosperity.”

--Editors: Christian Baumgaertel, Josh Friedman

To contact the reporter on this story: Charles Stein in Boston at cstein4@bloomberg.net

To contact the editor responsible for this story: Christian Baumgaertel in Boston at cbaumgaertel@bloomberg.net

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