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Financial Market in Crisis: Past, Present and Future From a webinar for the University of San Diego by Carl Wiese, CFA Carl Wiese, CFA Founder/Portfolio Manager 619-717-8008 San Diego, CA 92106 Funds LLC GROW Funds LLC is a California registered investment advisory firm. Registration does not imply any level of skill or training. Neither the information within this email nor any opinion expressed shall constitute an offer to sell or a solicitation or an offer to buy any securities. Investors should have long- term financial objectives. Past performance is no guarantee of future returns. About Me • USD – BBA, SDSU – MSF • Member of the Chartered Financial Analyst (CFA) Institute since 1995 • CFA Society of San Diego since 1998, Education Chair • 30 years of Experience • William O'Neil and Company • Investor’s Business Daily • How to Make Money in Stocks by William Oneil – CAN SLIM • Hokanson Associates (Aspiriant) • Wall Street Associates • GROW Funds LLC www.growfundsllc.com • GROW Small Cap Equity Long/Short L.P. • Registered Investment Advisor with Mike Collins, Separately Managed Accounts • Sharp Healthcare – Investment Committee • Rancho Santa Fe Foundation, Board and Investment Committee • USD – Financial Markets and Institutions, Ethics, Intro to Hedge Funds, Financial Management 2 Disclosures This presentation is solely for educational purposes only. This document does not constitute an offer to sell or a solicitation of an offer to buy any securities and/or any securities of GROW Small Cap Equity Long/Short L.P. (the "Fund"). An offer may only be made by the Fund's Confidential Offering Circular, which the Fund's general partner, GROW Funds LLC ("GROW"), will provide only to qualified investors. 3 Market Crisis: Past Present and Future Factors affecting markets 1. Earnings 2. Valuation 3. Federal Reserve (Money supply and Discount Rate) 4. Government action 5. Investor Sentiment Bear Markets Since 1900 Financial crisis compared: 1929, 1973-74, 2000, 2008 Present COVID Crisis 2020 Future Outlook: Earnings curve, Sentiment Gauges, Fed Balance sheet, Fiscal Policy, Jobs data Factors Affecting Markets Primary Secondary Earnings Government Action ◦ Fiscal Policy Valuations ◦ Regulatory Policy ◦ Price to Earnings Multiples ◦ Tax Policy ◦ Present value of estimated future cash flow or discounted cash flow ◦ Foreign Policy The Federal Reserve Board Sentiment/Behavioral Aspects ◦ Discount Rate ◦ Fear and greed ◦ Money Supply ◦ Volatility ◦ Inflation ◦ Contrarian opinion Earnings the Discount Rate and Valuations 퐶푎푠ℎ 퐹푙표푤 1 퐶푎푠ℎ 퐹푙표푤 2 퐶푎푠ℎ 퐹푙표푤 푁 푃푟푒푠푒푛푡 푉푎푙푢푒 표푓 퐹푢푡푢푟푒 퐶푎푠ℎ 퐹푙표푤푠 = + + ⋯ 1 + 푑푠푐표푢푛푡 푟푎푡푒 1 1 + 푑푠푐표푢푛푡 푟푎푡푒 2 1 + 푑푠푐표푢푛푡 푟푎푡푒 푁 Assume for simplicity: Present Value = Price Earnings (Revenues – Expenses – Taxes) are a proxy for Cash Flow, therefore: • If earnings are expected to go up, the present value or price should go up (numerator is larger) • If earnings are expected to decline, the present value or price should decline (numerator is smaller) The interest rate on 10 year Treasury Note is a proxy for the discount rate (price of money/cost of capital), therefore: • If interest rates go down, prices should go up (denominator is smaller) • If interest rates go up, prices should go down (denominator is larger) 퐸푎푟푛푛푔푠 푌푒푎푟 1 퐸푎푟푛푛푔푠 푌푒푎푟 2 퐸푎푟푛푛푔푠 푌푒푎푟 푁 푃푟푐푒 = + + ⋯ 1 + 푌푒푙푑 10 푦푒푎푟 푇푟푒푎푠푢푟푦 푁표푡푒 1 1 + 푌푒푙푑 10 푦푒푎푟 푇푟푒푎푠푢푟푦 푁표푡푒 2 1 + 푌푒푙푑 10 푦푒푎푟 푇푟푒푎푠푢푟푦 푁표푡푒 푁 Stock Prices Follow Earnings S&P 500 Index 1926 to 2020 The market is a discounting mechanism “Speculation is a method now adopted for adjusting differences of opinion as to future values, whether products or securities” – Henry Clews “Speculation, moreover makes a market for securities that otherwise would not exist. It enables Railroads to be built, through the ready sale of their bonds, adding materially to the wealth of the S&P 500 Earning 1926 to 2020 country, and opening a more profitable market to labor. In this it becomes the forerunner of enterprise and material prosperity in business” – Henry Clews S&P 500 P/E Ratio 1926 to 2020 • P/E (Price per share/Earnings per share) Ratio is a measure of the Value of those earnings Source: 50 Years in Wall Street by Henry Clews, Stockcharts.com, GROW Funds LLC Interest rates up – price down Interest rates down – price up 10000.00 1000.00 S&P 500 Index 100.00 15.00% 13.00% 10.00 11.00% 9.00% 7.00% 5.00% 10 Year Treasury Yield 3.00% 1.00% 1.00 -1.00%1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 Robert Shiller, GROW Funds LLC “Inflation is always and everywhere a $21,789,750,000,000 5000 monetary phenomenon.” Milton Friedman M3 Money Supply 500 S&P 500 Index 50 $8,620,000,000 5 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 30% M3 Money Supply YOY Change 15% 0% Consumer Price Index (CPI) YOY Change -15% 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 Milton Friedman and Anna J. Schwartz and by Robert H. Rasche, Robert Shiller, FEDERAL RESERVE BANK OF ST. LOUIS, Shadowstats.com Inflation – a general rise in the price level The Federal Reserve “Don’t fight the Fed” The Federal Reserve Act (ch. 6, 38 Stat. 251, enacted December 23, 1913, 12 U.S.C. ch. 3) is an Act of Congress that created and established the Federal Reserve System, the central banking system of the United States, and granted it the legal authority to issue Federal Reserve Notes (now commonly known as the U.S. Dollar) and Federal Reserve Bank Notes as legal tender. Maximize Employment, Price stability, Moderating long-term interest rates. Monetary Policy - Set Interest Rates Discount Rate interest rate the Federal Reserve charges on loans it makes to banks and other financial institutions Fed Funds interest rate at which depository institutions (banks and credit unions) lend reserve balances to other depository institutions overnight, on an uncollateralized basis (Interbank Lending Market) Federal Open Market Committee (FOMC) – sets interest rate policy All other interest rates are derived from the discount rate Monetary Policy Federal Open Market Operations (FOMO) Open Market Operations Open market operations (OMOs)--the purchase and sale of securities in the open market by a central bank--are a key tool used by the Federal Reserve in the implementation of monetary policy. The short-term objective for open market operations is specified by the Federal Open Market Committee (FOMC). Before the global financial crisis, the Federal Reserve used OMOs to adjust the supply of reserve balances so as to keep the federal funds rate--the interest rate at which depository institutions lend reserve balances to other depository institutions overnight--around the target established by the FOMC. The Federal Reserve's approach to the implementation of monetary policy has evolved considerably since the financial crisis, and particularly so since late 2008 when the FOMC established a near-zero target range for the federal funds rate. From the end of 2008 through October 2014, the Federal Reserve greatly expanded its holding of longer-term securities through open market purchases with the goal of putting downward pressure on longer-term interest rates and thus supporting economic activity and job creation by making financial conditions more accommodative. During the policy normalization process that commenced in December 2015, the Federal Reserve will use overnight reverse repurchase agreements (ON RRPs)--a type of OMO--as a supplementary policy tool, as necessary, to help control the federal funds rate and keep it in the target range set by the FOMC. https://www.federalreserve.gov/monetarypolicy/openmarket.htm Inflation, Interest Rates, and Valuation 10-yr Interest Rates 16% 14% 12% 10% 8% 6% 4% 2% 0% 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 P/E Multiples 70x 60x 50x 40x 30x 20x 10x 0x 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 20% CPI YoY Change 10% 0% -10% -20% 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 Source: Robert Shiller, GROW Funds LLC Government Fiscal Policy Government Spending – Favored Industries Regulatory Policy Regulation Up, Earnings Down, Stock Prices Down Regulation Down, Earnings Up, Stock Prices Up Tax Policy Taxes Up, Earnings Down, Stock Prices Down Taxes Down, Earnings Up, Stock Prices Up Foreign Policy Varied impact depending on industry The law of unintended consequences is what happens when a simple system tries to regulate a complex system. The political system is simple, it operates with limited information (rational ignorance), short time horizons, low feedback, and poor and misaligned incentives. Society in contrast is a complex, evolving, high-feedback, incentive-driven system. When a simple system tries to regulate a complex system you often get unintended consequences. - The Law of Unintended Consequences by Alex Tabarrok “Suckers think that you cure greed with money, addiction with substances, expert problems with experts, banking with bankers, economics with economists, and debt crises with debt spending” ― Nassim Nicholas Taleb, The Bed of Procrustes: Philosophical and Practical Aphorisms “Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” – Warren Buffett Source: Forbes.com Questions ? “History doesn’t repeat itself, but it does rhyme” Mark Twain “THOSE WHO CANNOT REMEMBER THE PAST ARE CONDEMNED TO REPEAT IT.” GEORGE SANTAYANA 22 Bear Markets 22 Bear Market1900 -2020Declines 1900-2000 100 90 80 1949 1966 1982 70 1962 1980 1970 2020 60 1933 1917 2002 1987 AVERAGE MEDIAN 1942 1921
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