Introduction
It has been two years since the fastest market crash in recent history, the bulk of which took place in March of 2020. My view is that most of the lessons and expectations about the future that investors learned from the crash will prove to be bad ones. Lessons such as the Federal Reserve will provide unlimited support for the stock market; a split US government can find a way to come together and pass massive amounts of aid, much of which went directly to regular people who would spend it in the economy; expectations that future downturns are likely to have a quick recovery, even though historically that has not been the case. For these reasons, I think most investors who are trying to learn lessons from the past would be better off ignoring the events of March 2020.
Despite this being the case generally, I did learn one important lesson from March 2020. And, it wasn’t so much that I didn’t know this lesson beforehand, but that I didn’t fully appreciate the degree and magnitude with which it was true. That lesson is that buying the stocks of quality businesses at a big discount to fair value produces tremendous returns, both in absolute and relative terms.
Essentially what has happened over the past two years is that we have taken a typical market cycle that might last 5-7 years, on average, and condensed that cycle into two years. One part of this unusually ultra-fast cycle is that investors should not count on it repeating any time soon, hence why there aren’t many long-term takeaways for most investors, it is simply too unusual of a cycle to make broad generalizations for future predictions. But one thing it did do was teach me about the true value of buying high-quality stocks when they are very cheap. My goal in this article is to hopefully convince readers what I have learned is true.
I’m sure that right now, many readers are thinking “Duh. If you buy good stocks when they are cheap of course you will get good returns.” And that is true if we are examining absolute returns. It is not so clear if we are examining relative returns. Remember, the S&P 500 index is high quality, too. And, the S&P 500 index crashed in March of 2020 as well and has since had the fastest recovery in history. So, while it may be obvious that buying a quality stock when it is cheap will produce good returns, it is not so obvious that it will produce better returns than the S&P 500 index. For that reason, since we already know that returns are probably going to be good for most stocks that were purchased in March of 2020, I want to mostly focus on relative returns in this article. Additionally, now that some time has passed, and we have seen the decline of meme stocks, IPOs, SPACs, and many speculative COVID stocks (and since we are probably now approaching a new recession) this seems like an ideal time to review how the stocks I bought in March of 2020 have performed relative to the S&P 500, because, in many respects, we have a full cycle of performance condensed into two years to examine now.
Stocks I bought in March 2020
In total, I bought roughly 30 stocks in the month of March 2020. A few weeks after that, in late spring and early summer of 2020, I shared 20 of those stocks publicly in an article series here on Seeking Alpha. If you to go my profile page, you can look up all those articles and review them if you wish. Those 20 stocks were shared because they were all components of the S&P 500 index and that was my requirement for inclusion in the series. The stocks that were not in the S&P 500 index remained exclusive to my private investing service, The Cyclical Investor’s Club. In this review, I am limiting my data set to stocks that I purchased in March of 2020. There were three stocks that I purchased on the fringe of March, which I included in my original series that will not appear here. They are Bank of New York Mellon (BK) and Comcast (CMCSA), which were purchased on February 28th, 2020, and have underperformed, and U.S. Bancorp (USB) which I bought in May of 2020, recently wrote about and took profits in with ~100% gain in late December of 2021 These three will not appear in this article since they weren’t purchased in March of 2020.
In this article, I will share three categories of stocks that I purchased in March of 2020. The first category will be those S&P 500 stocks that I previously wrote about, and have since taken profits in. The second category will be S&P 500 stocks that I previously wrote about, and that I still continue to hold. And the third category, I will post the results of the small-caps that I bought, that remained exclusive to the CIC, but which we have taken profits in. This will cover the vast majority of the stocks I bought in March of 2020. The only ones I won’t cover are the small-caps the CIC stills owns since those remain exclusive to the service.
The charts will all run from the time of purchase through the writing of this article. If it is a stock I have sold, I will also include my returns when I sold it. I’m going to post a lot of charts, but I think they are useful at illustrating the paths the various prices took relative to the S&P 500 over the past two years. At the end of the data, I will have some more analysis and tips for selecting quality stocks and also getting low prices.
Align Technology (ALGN) Purchased: 3/19/20
I took profits in ALGN on 7/30/20 with a +108.20% gain compared to SPY’s +36.09% return.
Texas Roadhouse (TXRH) 3/18/20
I took profits in Texas Roadhouse on 10/28/20 with a +126.30% gain compared to SPY’s +38.06% return.
Hologic (HOLX) 3/18/20
I took profits in Hologic on 8/10/20 for a +122.50% gain compared to SPY’s +41.26% return.
Sysco (SYY) 3/18/20
I took profits in Sysco on 9/23/20 for a gain of +97.72% compared to SPY’s +36.41% return.
Stryker (SYK) 3/23/20
I took profits in Stryker on 10/28/20 for a gain of +63.29% compared to SPY’s +47.76% return.
AMETEK, Inc. (AME) 3/16/20
I sold AMETEK on 1/27/21 for a gain of +78.53% compared to SPY’s +59.03% return.
Genuine Parts Co. (GPC) 3/20/20
I took profits in GPC on 6/17/21 for a gain of +130.80% compared to SPY’s +87.39% return.
Microchip Technology (MCHP) 3/16/20
I took profits in Microchip Technology on 1/27/21 for a gain of +141.10% compared to SPY’s +59.02% return.
Ross Stores (ROST) 3/18/20
I took profits in Ross Stores on 1/27/21 with a gain of +79.91% compared to SPY’s +58.92% return.
Ameriprise Financial (AMP) 3/16/20
I took profits in AMP on 1/21/22 with a gain of +260.30% compared to SPY’s +88.50% return.
Valero (VLO) 3/13/20
I took profits in VLO on 2/12/22 with a gain of +107.30% compared to SPY’s +68.82% return. (I still hold a second tranche of VLO I bought on 11/16/20.)
PNC Financial (PNC) 3/23/20
I took profits in PNC on 1/19/22 with a gain of +176.20% compared to SPY’s +108% return.
Dollar Tree (DLTR) 3/13/20
I took profits in Dollar Tree on 11/22/21 for a +77.30% gain compared to SPY’s +78.51% return.
And FLIR was purchased on 3/20/20 and bought out for a +107.37% gain compared to SPY’s +63.23% gain (so I don’t have a chart for this one).
Now let’s look at the S&P 500 stocks I still hold:
Tractor Supply (TSCO) 3/16/20
AutoZone (AZO) 3/20/20
Berkshire Hathaway (BRK.B) 3/12/20
I already owned an overweight position in Berkshire, but suggested CIC members buy at these levels.
BlackRock (BLK) 3/9/20
HollyFrontier (HFC) 3/27/20
That covers the stocks that are in the S&P 500 (and I have multiple public articles on these purchases and sales). The table below is of the realized gains from non-S&P 500 stocks that were exclusive to my service, which we bought in March 2020.
Ticker | Date Purchased | Date Sold | Total Return | SPY Total Return |
EV (Eaton Vance before buyout) | 3/23/20 | 10/08/20 | +161.00% | +55.51% |
CMD (Cantel Medical before buyout) | 3/18/20 | 9/8/20 | +104.50% | +40.31% |
OZK (Ozark Bank) | 3/16/20 | 4/9/21 | +110.30% | +75.34% |
ASTE (Astec Industries) | 3/16/20 | 3/24/21 | +152.10% | +65.12% |
UMBF (UMB Financial) | 3/20/20 | 1/20/22 | +138.40% | +100.40% |
PMD (Psychemedics) | 3/27/20 | 9/24/21 | +50.27% | +79.13% |
KMT (Kennametal) | 3/16/20 | 6/17/21 | +98.37% | +79.80% |
Average: | +116.42% | +70.80% |
The average return for all 26 positions using the current price if they are S&P 500 stocks that didn’t get bought out, and my selling price, if they were non-S&P 500 stocks, is +127.08%. Using the same dates and method, the average return of the S&P 500 ETF (SPY) was +75.67%.
We have a very good sample size of 26, for most of which there is lots of public documentation. These stocks represent a wide variety of sectors and industries and sizes. They were selected in real-time during a market crash and recession. The only so-called “market timing” that was involved was that on February 28th, 2020, I determined that we were going into a recession, and so I used my strictest valuation and quality standards for my purchases that month. Because of the shortness of the crash and cycle the pandemic produced, the absolute returns don’t teach us much about what we might expect during a future downcycle. I expect these same absolute returns would take 5-7 years instead of two years for a typical cycle. But what I find very informative are the relative returns.
Most of these stocks are actually constituents of the S&P 500. They weren’t any riskier than the index itself. But they did present better values than the index itself during March of 2020. It didn’t surprise me that they outperformed. That’s why I bought them, after all. But what did surprise me was the magnitude of outperformance. It was much higher than I ever would have expected. And what it made me realize is how someone like Warren Buffett can hold relatively little cash (perhaps 20% of their market cap at the beginning of a downturn) and still trounce the market over the very long term. The payoff for buying a high-quality business at deeply discounted prices is so high, that you don’t have to hold massive amounts of cash going into a recession as long as the stocks you already own will come out of the downturn okay.
Key takeaway
This creates a situation where if you already hold a high-quality portfolio, the amount of cash you happen to be holding when a bear market starts can help determine how strictly you want to apply your purchasing standards and how deep of a discount to fair value you require. So, for example, if you start a bear market with 10% cash, you could use your strictest quality and value standards, waiting for a very juicy deal for a very great business before you start buying. If you have 30% cash at the start of a bear market, however, you could perhaps lighten up your valuation standards and let yourself start buying at a higher price (I tend not to lower my quality standards). By adjusting your valuations standards to your current cash level, you can produce similar returns no matter how far prices end up dropping. The very high portfolio-level returns one gets from buying very deep values with 10% cash could be similar to the returns of buying many moderately deep values with 30% cash. This is important because it allows us to not have to worry so much about predetermined cash levels going into a recession (the timing of which can be hard to know sometimes). We can be well into a bear market and just adjust our purchasing standards to whatever the cash levels happen to be at. One could also adjust one’s valuation standards as they deplete their cash as well.
For example, I currently have about a 5% weighting to refiners and an 8% weighting to platinum. I also have about an 18% weighting to cash. In a perfect world, I would like to reach my return goals for the refiners and platinum before the next bear market or recession so that I can take profits in them. However, because of a chip shortage, new variants of COVID, and now a war, there have been delays in the consumption of fuel and new auto sales, and this means there is a chance these investments will not reach their return goals before a bear market or recession hit. The difference this makes in my portfolio is that I might have 18% cash instead of 31% cash, theoretically, going into a bear market. Knowing that all I need to do in order to potentially produce great returns with only 18% cash to spend is to use my strictest standards for quality and value is valuable knowledge. It means I can simply keep holding the investments I’ve already made and not have to think about raising additional cash and that reduces the amount of time and energy I need to put into determining how close to or far away we are from a recession or bear market and mostly let things naturally take care of themselves by selling stocks as I would normally do when they are overvalued or when they reach my return goals. This reduces the likelihood of any big market-timing mistakes.
Paying attention to market cycles and risks is still important, but anytime an investor can reduce the precision necessary for those predictions it’s a good thing.
A couple of tips for buying during a recession
While I have a whole series of things I check while buying during a downturn, and there isn’t space to share all of them here, I’m going to share a basic process and a couple of factors I think would improve most investors’ returns while buying during a downturn.
First, understand both the historical price cyclicality and historical earnings cyclicality of the stocks you own. This naturally requires that they have a history. I like to have at least one recession’s worth of history for less cyclical stocks, and two recession’s worth of history for deep cyclical stocks. Since 2020 was so unusual, that means we really need to have a history of the 2008-09 recession for most less cyclical stocks and an additional history of the 2000-02 decline for deep cyclicals. If there is a stock that doesn’t have a history that long, then I would wait until the recession is clearly over before buying it and not try to buy on the way down as I typically do. Studying that history will give you a decent guide for what is possible, and if you track enough stocks (I track hundreds) good deals will present themselves.
Second, be aware of the valuations of the stocks going into the recession, if either the price or the earnings were unusually high, then previous recessions might not be good guides if they weren’t unusually high during those periods as well.
Third, for deep cyclical stocks, usually, there are three types of declines their prices can take. There are shallow recession declines (as in 2020 and 2000 for non-tech), mid-cycle declines (as in 2015 and 2018 for many industrials) and deep recession declines. If it looks like we are going into a recession, use the deep recession declines (usually from 2008/9) as your guide to get the best prices. Only buy cyclicals that have shown they can bounce back from previous cycles quickly.
Fourth, for less cyclical stocks, pay attention to what the P/Es were during previous recessions. During recessions, when I’m using my strictest standards, I only buy these stocks if the P/Es are within 20% of the monthly average bottom during the previous recession. So, for example, if in March of 2009 the average P/E for the stock was 10, then I would not buy the stock unless the P/E was lower than 12 this time around. This is a great way to get really low prices that actually have a chance of hitting.
Fifth, it probably goes without saying that having some cash is very important. Most of my cash is generated because stocks I own become overvalued late in the cycle, I take profits in them, and I can’t find a place to reinvest the money. So, selling overvalued positions both provides cash for the downturn while at the same time prevents large drawdowns in the very stocks that are likely to have large drawdowns. The rest typically comes if the quality of something I bought has declined or their future medium-term return prospects don’t look as good. This increases the quality of my portfolio going into a decline.
Conclusion
Hopefully, you found this article useful. My main goal was to point out that 1) it is possible to understand which stocks are high quality and trading at a discount to fair value over the medium-term, 2) those stocks will produce much better relative returns than you might expect, and 3) investors can adjust their valuation requirements to meet whatever cash level they might have during a downturn. Higher cash levels can allow buying at somewhat higher valuations while with lower cash levels investors can use their strictest valuation standards. This allows an investor to adjust their valuation standards rather than worrying about their cash levels as much.