Compass January 2015

In this issue:

Compass is the quarterly newsletter of Creekside Partners. All information is obtained from sources deemed to be reliable, but is not guaranteed as to accuracy. Nothing in this newsletter should be construed as financial or investment advice to any reader. All material herein is the copyright of Creekside Partners.

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Oil Prices & Interest Rates

What else is there?

The overwhelming investment themes in 2014 were the twin stock-market stimuli of collapsing oil prices and continued Fed accommodation. After peaking in June, oil prices have fallen by half — with most of that coming in the fourth quarter alone.

Some analysts have likened declining oil prices to a tax cut: it puts more disposable income in peoples’ pockets. But it’s not like a tax cut — a tax cut puts money in household pockets (like falling oil prices do), but a tax cut also decreases public sector spending by the same amount. It’s not necessarily a stimulus — at the margin, it’s a wash.

A drop in oil prices is more like getting a raise — the household (or business) just suddenly has more money. There is no meaningful downside to offset this raise. Sure, there might be some layoffs in the shale oil regions. But for the most part, falling oil prices are an immediate increase in a household’s standard of living, and an immediate boost to corporate profits in almost every sector of the economy.

Perhaps the only downside to collapsing oil prices is that it slightly increases the risk of deflation. Despite the continued improvement in the economy, overall inflation signals remain muted. Hourly workers and middle-management types aren’t getting raises. Until that happens, inflation just isn’t a big worry.
Which brings us to the second huge tailwind for stocks last year: Fed policy. A year ago, it was hard to find a pundit that didn’t expect the Fed to raise rates in 2014, or expect bond interest rates to rise as the Fed stopped its bond purchasing program. Well, that program came to an end…and bond prices went even higher (and yields lower). As we write this, the 10-year Treasury bond is yielding just 1.95%; a year ago, it was yielding 2.85% and widely considered to be headed higher.

But the Fed knew what it was doing, and stopping its bond purchases did not “take away the punchbowl” as they say. We went into more depth on this point in our July 2014 commentary. For, as the Fed was winding down its buying, the Treasury was slowing its selling even faster. This drop in bond supply more than made up for the fall in demand.

We could go into endless detail and speculation about “why” oil prices have fallen so sharply. The bottom line is…there is a widespread expectation of slowing oil demand growth globally. This is driven by moderation in the growth rate of emerging economies, and relentless efficiency gains in the developed world. Admittedly, this moderation in demand is slight — on the order of a percent or two. Clearly not enough to drop prices by half.

The bigger story is the increase in supply. The Saudis have decided, for reasons known only to them, to open the spigots and keep the world market supplied with all the oil it could possibly want. Other OPEC producers have had little choice but to keep selling in order to keep government coffers filled with oil cash. Speculation on their motives range from simple market share gain, to crashing Putin’s government, to shutting down shale production in the US. It doesn’t really matter. All that matters is the price.

Given that the Saudis almost single-handedly dropped global oil prices by half, we are quick to admit that they could just as readily send them the other way. Hence, we have no plans to make big investment decisions wrapped around the notion that oil prices will stay this low forever. They might, and that would be great, but history has shown such expectations to be risky. Even prior to this price drop, we had made a decision to continue to add energy and natural resources holdings to core equity portfolios.

We will continue to do that, as the prices of some of our favorite ETFs have fallen.

The fourth quarter saw the return of significant volatility to stocks. But none of the selloffs gained momentum; recovery came quickly each time. For the third year in a row, the big-cap stock indexes avoided even a 10% correction. The average market rally without a 10% correction has lasted 346 days; the current rally stands at 1,172 days without a 10% correction…and counting. The average gain during these unbroken rallies is 38%. The current rally has run for an 88% gain. (source: Litman/Gregory and Ned Davis Research).

As was the case in 2013, the US big-cap stock market was about the only stock market or sector in the world to have a good year. Developed international stocks lost almost 5%; emerging markets dropped 2%. Even in the US, small cap stocks fell 13% from summer peaks to finish the year up just 5%.
On the next page, we will talk more about the implications of this two-year run of overwhelming outperformance for US large-cap stocks. Teaser: If something can’t go on forever, it won’t.

Concluding — this January letter reads like a repeat from a year ago: The only global stock category that performed well was the US big-cap market. Stock price growth has outpaced earnings growth nearly 10 to 1 over the past two years. 2015 will tell us whether this can go on forever.

Why Go Global?

As mentioned to the left, the big-cap US market has sharply outperformed the rest of the world’s stock markets for the fourth time in the last five years. Like any bit of sustained momentum in the investment markets, such a run can start to lead people to think the trend is permanent, and that assets should be shifted toward what is “clearly” the best-performing sector.

Surely some of us recall the horde of investors who, having missed much of the late ‘90s run-up of big-cap and tech stocks, finally gave in and threw all their money at these two sectors in about 1998-99. Because, at the time, foreign and emerging stocks were doing relatively poorly. We all know how the late 90’s

Similarly, from 2002 to 2007, international stocks outperformed US stocks by more than 20 percentage points — annualized! Near the end of that cycle, investors were wondering why anyone would own anything but foreign stocks.

These things run in cycles. Can we predict the exact timing of the turns? No, we can’t. But we can know with some confidence that, every day a cycle runs in one direction is one day closer to the turn.

From 1970 (when good foreign index data became available), a mix of 60% US and 40% foreign stocks has delivered higher returns, with lower annual volatility, than a portfolio of US stocks alone. Over that time, rolling 10-year returns for the blended portfolio have beaten the US-only portfolio 70% of the time. We happen to be in a cycle where the US-only portfolio is outperforming. This will not go on forever.

We will continue our underweighting to US stocks. Yes, we wish we had owned more of these in 2014. But we don’t invest in the past — we invest for the next 5-7 years. Looking forward, the historic returns to US stocks when starting out at today’s high valuations are firmly in the low single digits.

We have been adding slowly to emerging markets and natural resource positions. As discussed in the main article, those two sectors got hammered in the fourth quarter. While this timing hurt our purchases made earlier in the quarter, those stocks are now even cheaper.

The bond markets were strong in 2014 as interest rates fell. Our largest bond sector, by far, is California muni bonds. Muni bonds had one of the best years in recent memory, with most portfolios achieving total returns in the high single digits. Our overweight to muni bonds in taxable accounts added significantly to

The biggest risks we see going into 2015 are oil prices — will they stay steady? — and US stock valuations — will investors decide to stop paying 25x sustainable earnings?

We will continue to watch for value opportunities, while maintaining a relatively defensive posture overall.

We’ve Grown

We are pleased to announce a significant addition to our team. As familiar readers might have noted, we have two company names and logos on the front of this quarter’s newsletter.

Creekside Partners and Wiiken & Gorman have joined forces to create a single firm. Where each firm consisted of two partners, we now have five. Rick Ashburn and Andy Hempeck of Creekside are thrilled to welcome Paula Wiiken and Mike Gorman of Wiiken & Gorman to the team. Wiiken & Gorman was founded in 1992, with its office in Petaluma, CA; Creekside was founded in 2003, with its office in Lafayette, CA.

As part of this combination, we are also pleased to introduce Teresa Coleman, formerly of Charles Schwab. Teresa will be working mainly out of the Petaluma office. This new and larger team will allow us to make additional investments in technology for improved portfolio management efficiencies, client reporting and communications. The team also strengthens our capabilities in comprehensive financial planning. We will update our websites in the next few weeks with more details about our expanded team.

We have also expanded our capacity for new clients, while maintaining our long commitment to individualized, specialized service. Over the next year, both our offices will adopt the name Creekside Partners.

Meet the new team:

Andy Hempeck, Paula Wiiken, Rick Ashburn, Teresa Coleman, Mike Gorman

Year-to-Date Index Returns (ending 12/31/14)

Total Market U.S. Stocks

Foreign Stocks (Developed)

Emerging Market Stocks

Muni Bonds

Taxable Bonds

Inflation (year-over-year)







Wherever possible, we use the returns on
Vanguard Index Funds as the benchmark
figures for various asset classes.

Readers wishing to review the actual performance
record of a composite of our client portfolios
should call or email us at