Market Commentary

By: Andrew F. Boord
Co-Manager, FAM Small Cap Fund

Despite the fact that there were several dynamics that negatively affected the economy and stock market performance in 2015 and early 2016, commodities were center stage. It is perhaps an oversimplification to attribute all the world’s problems to a commodity cycle, but it is key to understanding the current situation. Obviously there are many factors at work here, but most tie back to old-fashioned supply and demand.

A few years ago demand for many commodities rose faster than expected, pushing prices higher. Capitalists responded by digging new mines, ordering more equipment, and drilling for oil in more difficult locations — often financed with borrowed money — and all of this contributed to a boost in supply. More recently, much of this increased supply hit markets just as demand had perhaps moderated. As a result, 2015 was when many previous beneficiaries of the commodity “super cycle” suffered. The worst stock market performers, such as the Coal, Oil & Gas, Pipeline, and Mining industries, typically share both an inability to set their prices and often a material debt burden.

The unwinding of the commodity cycle hurts direct participants considerably, but there are ramifications for all of us. We see potential implications ranging from political maneuvering and macroeconomic disruptions to effects on consumers and specific companies. For example, with OPEC either unwilling or unable to restrict supply to boost oil prices, many member nations are experiencing significant budgetary and political pressures. Some of the questions we ponder that may impact the Funds in the short term include:

Could one of the OPEC members face a regime change? Will the layoffs in the Oil & Gas Industry and less demand from our more commodity-sensitive trading partners be enough to slow the U.S. economy? Or might the boost to American consumers, who benefit from lower commodity prices, be enough to offset this pressure? How will this affect our holdings?

While we are watching economic data closely and talking to as many companies as possible, we are not sure how this will manifest itself. Thankfully, there is a huge difference between the economy’s short-term growth rate and long-term returns from holding stock in well-run businesses. We remain quite confident that, yes, the economy and stock prices will be volatile year-to-year, but over time excellent companies should grow profits nicely which in turn should fund healthy dividends and drive stock prices higher.

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