To Our Investors and Friends,
The S&P 500 ended the first quarter of 2024 up 10.2%, the biggest first quarter return since 2019 and a record high. A narrow group of companies including the Magnificent Seven and AI-associated hardware companies (including many semiconductor and server companies) drove the outsized move. The 10-year Treasury Bond advanced to 4.20%, a 32-basis points increase as the economy proves more robust than anticipated in the face of higher Fed funds rates. The 2-year Treasury ended the quarter 36 basis points higher to end at 4.59%. A stronger US economy also helped crude oil to rise 16.1% to $83 a barrel, adding to fears of an inflation resurgence. All major stock averages started the year on a positive note with large again outperforming small. The Russell 1000 Growth grew 11.4%, the Russell 1000 Value increased 9.0%, the Russell 2000 Growth advanced 7.6%, and the Russell 2000 Value moved up 2.9%.
This emerging bull market is unlike most previous bull markets in that the very largest companies are leading the way higher, and many of the smallest companies continue to struggle, some still unable to move up from low levels achieved more than a year ago. As can be seen in the following chart, Microsoft (MSFT), the largest company in the world, is leading the market recovery, up 27% from the previous market high achieved in October 2021. The Russell 1000 Growth Index, of which almost 50% is comprised of the Magnificent Seven, is up 16% over the same time frame. This contrasts with the small cap Russell 2000 Growth index, 10% lower than the previous market high, and Olo (OLO) – a software company growing quite robustly, but much smaller than Microsoft – trading 80% lower over this time frame.
We believe this noteworthy disparity of performance is a function of the underlying risk aversion bubble, which is causing misallocations of resources everywhere that most likely will be followed by significant reversions in the coming years as the risk aversion bubble deflates. The most obvious bubble is in mega cap companies, with the Magnificent Seven exceeding 30% of the S&P 500 this past quarter. Fueling this bubble is a depletion of many other asset classes including small cap and international stocks, both of which represent historically low levels of asset allocations over several decades. We think a major driver of this risk aversion bubble is the move into passive indexes, that began to gain favor after the financial crisis and now represent more than 50% of all dollars invested in equities.
The risk aversion bubble is also evident in the proliferation of alternative asset classes including private equity, venture capital, and hedge funds. Here, institutions’ attempts to escape market volatility have resulted in a flood of assets into these alternatives that mask volatility by delaying it or hedging against it. These asset classes generally reduce the volatility of current returns but ultimately will realize lower long term returns now that the higher interest rate environment has disrupted their exit strategies. These alternative asset classes have grown from hundreds of firms to thousands of firms since the end of the financial crisis and the beginning of an extended period of low interest rates. We suspect that a reallocation away from these asset classes likely propels unloved asset classes such as small caps in the years ahead.
At Kingsland Investments, we believe in patient, long-term investing in some of the most creative management teams building the best businesses we can find. We think that great businesses are built over decades, and that a long time horizon is necessary to benefit from the miracle of compounding. By sticking to our process of buying and owning these young businesses, we think investors can benefit materially from these dynamic companies over time.
All the best to you,
Arthur K. Weise, CFA