Second Quarter Review for Investment Clients of Sparrow Capital Management (Ending June 30, 2010)
If you view the price change for the Dow Jones Industrial Average over the prior 90 days you may become disappointed. On the surface, the second quarter of 2010 was not good for investors.
However, when you take a longer-term view of things and compare the valuations of equities on a price-to-book, price-to-sales and price-to-cash flow basis you get a different picture.
For example, the Global markets, which includes Europe, Asia, North and South America, are now selling at 1.66 times book value compared to a 10 year average of 2.24 times book value, 0.96 times sales compared to a 10 year average of 1.09 times sales and 7.00 times cash flow compared to a 10 year average of 9.98 times cash flow.
Based on these 10 year averages the discount on stocks to the average valuation over the last decade is now 31%. In other words, stocks would have to rise 31% from today’s price just to average what they have been selling for over the last ten years.
The timing of the closing of this gap between price and value is not knowable, and it could widen further. But we believe it is inevitable that the gap will close.
We believe that investors who are patient and have a long-term time horizon should sit tight, be patient, accumulate equities and begin to dollar cost average.
Let me give you an example: My wife has a 401(k) and always seems to do very well in the markets because she regularly adds to her account every month come rain or shine. Her account automatically buys every month and when prices go down she gets more shares at lower prices. What a deal!
Now let me turn to one of our largest holding, Altria Group Incorporated (NYSE: MO). This is the old Phillip Morris and they have been in business for over 100 years and have a market cap of $47,000,000,000. Altria Group Incorporated has raised its dividend for at least the last ten years and their free cash flow last year alone was $3,100,000,000.
Our investment process and philosophy lead us to this company because of its historic track record of high return-on-equity, consistent earning power and shareholder friendly management.
Covestor Model Summary
As a reminder, our investment approach is to buy companies with consistent earning power, high return-on-equity while employing little or no long-term debt and to purchase at reasonable prices.
Other Top Holdings Include
Hershey Co (NYSE: HSY)
Berkshire Hathaway (NYSE: BRK.B)
Genessee & Wyoming (NYSE: GWR)
Sparrow Capital is a Missouri-based Registered Investment Advisor. Gerry Sparrow, President and Founder has over 20 years of investment experience. They run two models on Covestor: Defensive Investments, a defensive strategy with safety and preservation of capital as primary goal, and Fundamental Growth which studies quarterly and annual reports, looking for companies that have demonstrated the ability to grow sales, earnings, cash flows and book values consistently over multiple economic cycles.
