The Model Shadow Stock Portfolio has started to break out of its fourth-quarter 2014 pullback but hasn’t gotten back to its old high yet.
Year to date as of the end of February, it is underperforming the S&P 500 index as measured by Vanguard 500 Index fund 
(VFINX)—1.0% to 2.6%, respectively. This and longer-term results can be seen in at the Year-to-Year Performance page.
I was looking at the history of the Model Shadow Stock Portfolio and noticed that since 1993, there were three times when the Vanguard 500 Index fund outperformed the model portfolio, and each time it did so for two years: 1995–6, 1988–9, and 2007–8. So our portfolio may not catch back up this year. Of course past results are no guarantee of the future.
The current holdings in the Model Shadow Stock Portfolio can be seen here. We made two changes to the portfolio during this quarter’s review, which are shown on the Transaction History page.
Standard Motor Products (SMP) has been flirting with our sell criteria for quite some time. At this quarterly review, the stock blew through both the value (price-to-book) and capitalization-size limits, so it was sold. As always, we wish the stocks that have done well for us good luck in someone else’s mid-cap portfolio.
With the proceeds from the sale of Standard Motor, Universal Stainless & Alloy Products (USAP) was added to the portfolio. Based on the rule to purchase the stock unless the price-to-book ratio goes over 0.90, the maximum price to pay for the Universal Stainless & Alloy would be $25.90.
Over 20 years of maintaining this portfolio, we have made some errors, which I imagine is pretty typical of any investor. Errors have ranged from buying the wrong number of shares to having the stock show a loss in the period between our data source cut-off and the time of purchase. We scan for late developments, but we have missed the news a few times. Most times we reverse the mistake as soon as possible and take our loss if there is one.
This time, I inadvertently loaded an older data set into my software program, which resulted in a couple of errors. First, in my quarterly review of current holdings, Kimball International, Inc. (KBAL) was under price-to-book limit of 2.40, so it was not sold. In reality, the stock ended February with a price-to-book ratio of 2.55 and should have been sold. I will continue to hold Kimball International until the next quarterly review.
Second, after selling Standard Motor Products on February 27, I screened for new stocks to buy using the older data and Omega Protein Corp. (OME) came up in the results. I checked its current price-to-book ratio and saw that it had gone too high, but while I was looking the price made a sudden large move down that made it qualify and I placed a buy order. I got a partial fill, and then the stock went back to where it had been and soon began to move up from there. It continued stronger and just had earnings above expectations; it continues to move up as of this writing.
There was no closing price for Omega Protein that would have had a price-to-book ratio at the purchase criterion of below 0.80 since it last qualified earlier in February. Therefore, I quickly sold it. Though the buy was a mistake, it turned out to be one of the rare times that a mistake led to a small profit.
By most measures, the market is just above even for the year to date as of early March. We are a long way from the Mystery Cycle (a year ending in 5 and this being the year before a presidential election) average of up 42% or even its worst case of up 32%. Maybe the mystery will be resolved and the cycle will turn out to be just another case of coincidence. I would like to think there is still time, and the economy looks pretty good.
The thing that amazes me is that whenever there is good economic news the market goes down. According to the commentators, this is because if the economy is strong, the Federal Reserve will let interest rates rise and investors want the Fed to be supportive. I don’t understand it. It’s like wanting to stay sick so the doctor won’t stop the medication. Sure, bonds will be more competitive if interest rates are higher, but a better economy means higher earnings and ultimately that’s what drives stock prices.
I know that the rising dollar will hurt some companies—foreign and international the most. I know lower oil hurts the oil-related companies. But both of these, I believe, have more positive than negative impact. Why don’t we all take a driving trip through Europe this summer?
Fed action on interest rates still seems aimed at year-end, but the strengthening labor market could move that up. We will have to wait and see.
Our next discussion of the Model Shadow Stock Portfolio will be in the July AAII Journal. In the meantime you can follow the portfolio here.
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