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Lessons in Long Short Equity that put the Current Market into Perspective

06/14/2017

In our 15 years in the investment management industry, we have always thought that communicating during periods of poor performance is something that is highly valuable, yet seldom practiced by many portfolio managers.

This blog is based on a note we sent out to current investors on Wednesday, June 7, 2017. The purpose of the note was not to “call” a bottom in small cap value, but to communicate what we were seeing—particularly with respect to the historically negative sentiment in small cap value versus other caps and investment styles.

Since then, the sentiment in small cap value has improved slightly, but remains subdued from a historical perspective. Regardless, investor communication—especially during difficult times—is a critically important responsibility of ours.

As of May 31, the Goodwood SMID Long Short equity strategy was down 10.8% for the year, with the bulk of the drawdown occurring since March 2017.

To add some context, one of the things we monitor as a gauge of market sentiment is the relative performance dynamic between Small Cap Value versus Large Cap Growth.

Simply put, our style of investing has been “out of favor” recently, and is reaching levels that were last experienced at our low points at the end of 2015/beginning of 2016. This is not an excuse for performance, but we believe that it is meaningful in framing our strategy as it relates to the broader investment landscape.

This is best illustrated in the first two charts below:

Chart 1 

Relative percentage return between the Wilshire US Small Cap Value Index and the Wilshire US Large Cap Growth (last 5 years)

Chart 1 _GoodwoodBlog_June2017.jpeg

Source: Thomson Eikon

Chart 2 

Relative percentage return between the Wilshire US Small Cap Value Index and the Wilshire US Large Cap Growth (last 10 years)

Chart 2_Goodwood Blog_June_2017.jpeg

Source: Thomson Eikon

This third chart is a longer term view of this same dynamic, but indexed to 1.00, since it dates back to 2005.

Chart 3

Indexed relative return between the Wilshire US Small Cap Value Index and the Wilshire US Large Cap Growth (since 2005)

Chart 3_Goodwood_Blog_June_2017.jpeg

Source: Thomson Eikon

Our observation is that, for our strategy, there are certainly pain points (lows on the charts) and euphoria points (highs on the charts). While past performance is obviously not indicative of future results, we find it noteworthy to keep these things in the proper context as it relates to our portfolio.

As you know, we are value investors, with a keen focus on Small and Mid cap stocks. We do not change our style simply because it isn’t what is working today.

What can we control throughout these periods? One thing – our process. What we cannot control is the outcome in the short term.

Based on our process, we can say with confidence:

  • We are highly comfortable in our Long positions;
  • We own a diversified portfolio of SMID Compounders with attractive absolute and relative valuations, where we can point to strong fundamentals and consistent track records of shareholder value creation as our long term guideposts;
  • We also own a diversified group of Special Situations, where price and underlying asset value create an asymmetric risk/return profile;
  • We are Short a portfolio of companies with the opposite characteristics, where we expect to generate positive absolute returns.


We hope this insight is helpful and as always, please contact me or any member of our team if you have questions or comments. 
 

Interested in reading more market insights from Goodwood?
Download our Q1 2017 Market Commentary here

 


ABOUT THE AUTHOR

Ryan_Thibodeaux_GoodwoodCapitalManagement

Ryan Thibodeaux is President / Portfolio Manager of Goodwood Capital Management.

Ryan founded Goodwood Capital Management, LLC in March, 2012 and serves as a Portfolio Manager. Prior to starting Goodwood, Ryan was a Partner and Senior Equity Research Analyst with Maple Leaf Partners, LP. Maple Leaf Partners is a long short equity hedge fund started in New York by Dane Andreeff in 1996. In 2003, Julian Robertson’s Tiger Management seeded Maple Leaf and it became what is commonly referred to as a “Tiger Seed.” The firm eventually grew to over $2 billion in assets under management.

To read Ryan Thibodeaux's full bio or other Goodwood team members, click here

 

Goodwood Capital Management Intro Call Replay Graphic 2017

 

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