TAGStone Capital – Second Quarter 2024 Newsletter

The first six months of 2024 can be distilled into two key observations:

• Modest Economic Growth: The U.S. economy has continued to grow, albeit at a measured pace.
• Strong Equity Market Performance: The equity market has delivered impressive gains, driven by earnings growth and rising dividends.

We have seen steady economic growth, avoiding the feared recession, and job growth has held firm. Inflation has begun to ease, allowing the Federal Reserve to hold off on immediate rate cuts, although some are expected later this year. The Fed remains committed to its 2% inflation target.

Even with record-high cash dividends, large U.S. companies are paying out a smaller share of their earnings—about 37%—compared to the 30-year average of nearly 46%. This signals substantial potential for further dividend growth in the coming years.

Ultimately, the long-term value of our core investments—ownership in a diversified portfolio of successful companies—hinges on earnings and dividends. While external factors like national debt, elections, or geopolitical events can make headlines, the true drivers of value are the fundamental performances of the companies we invest in.

Since the close of the second quarter, we have seen the stock market go through one of its periodic bouts of volatility, almost dipping into correction territory after peaking on July 16th. A correction is typically defined as a decline of 10% or more from a recent high. While often unsettling, these events are hardly unusual—they happen roughly once a year. Our investment strategy, grounded in the principles of long-term value creation, is built to withstand these inevitable fluctuations.

Historically, the average intra-year decline—the drop from the highest point to the lowest during any calendar year—has been 14.2% since 1980, reminding us that volatility is the price we pay for long-term gains.

While it's possible that this correction could deepen into a bear market (defined as a 20% decline or more from the peak), predicting the extent of a decline is a fool's errand. Historically, bear markets have occurred about every four years since World War II, with the last one ending in October 2022.

No matter what happens next, our long-term equity plan has proven its worth time and again. Here are the bedrock principles that guide our approach:

1. Investing for the Growth of Purchasing Power: Our focus is on investments that grow wealth over time, even if they come with perceived risks. Holding cash may feel safer, but it’s a surefire way to lose purchasing power. The best tool for growing wealth is owning a diversified portfolio of successful companies for the long term.
2. Avoiding Market Timing: Trying to outsmart the market by timing one’s entries and exits is a losing game—especially after accounting for fees and taxes. The most reliable way to harness the full power of compounding is to stay fully invested.
3. Seizing Opportunities in Market Downturns: We see market dips as opportunities, not causes for panic. Our strategy continues to work during temporary declines by reinvesting dividends and letting the power of compounding do its job. By purchasing more shares at lower prices, we amplify the powerful long-term benefits of compounding.
4. Understanding Market Fluctuations: It is crucial to recognize that temporary declines in account value are not permanent losses of capital. They only become permanent when an investor sells out of fear.
5. Rebalancing Periodically: Rebalancing involves trimming back asset classes that have grown beyond their target weight and reinvesting in those that have lagged, ensuring that your portfolio remains aligned with your long-term goals.

It is natural to feel a bit on edge during an election year, with the usual mix of rhetoric and alarmism dominating headlines. With significant global tensions and nearly half the world’s population heading to the polls this year, the noise can seem even louder. However, history tells us that election outcomes have little to no meaningful impact on your long-term investment results.

One of the most persistent myths in investing is the belief that the outcome of the next presidential election will dictate market performance. Many people make short-term decisions based on election predictions, but countless studies have shown that neither the election result nor the occupant of the White House significantly impacts the long-term direction of the stock market.

Let us keep things in perspective with three key points:

• It does not matter much who the president is.
• The broad equity market goes up most of the time, regardless.
• The best course of action is to remain invested.

The late Charlie Munger’s wisdom rings true as ever: “The first rule of compounding is never to interrupt it unnecessarily.” There is no greater unnecessary interruption than selling in anticipation of a presidential election. With election outcomes and the events of the next hundred days uncertain, our course remains clear:

None of this should concern lifetime investors. The strategy that has always worked is to follow a consistent, long-term plan. Presidents and their policies will come and go, as they always have. But through it all, superior companies continue to serve their customers, grow their earnings, and increase their dividends. At its core, investment success is almost entirely a matter of behavior.