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August 2021 Performance Review

September 3, 2021

The S&P 500 beat 95% of fund categories last month, once again leaving portfolios in the dust as mega cap growth and tech stocks continued to dominate, much like they did in bubbly 1999. With no real standouts other than perhaps utilities, we barely beat bonds last month.

Our Conservative portfolio gained 0.37% , and our Aggressive portfolio gained 0.45%. Benchmark Vanguard funds for August 2021 were as follows: Vanguard 500 Index Fund (VFINX), up 3.04%; Vanguard Total Bond Index (VBMFX), down 0.20%; Vanguard Developed Mkts Index (VTMGX), up 1.38%; Vanguard Emerging Mkts Index (VEIEX), up 2.67%; and Vanguard Star Fund (VGSTX), a total global balanced portfolio, up 1.31%.
The only fund to beat the S&P 500 in our portfolios was Vanguard Utilities (VPU), up 3.7%. This was probably the result of relatively low valuations attracting investors, as well as yields being harder to come by, attracting interest.

Emerging markets have been rocky, with many markets negative in recent weeks and months. This is likely the fear of rising inflation in many of these markets as well as the overall reminder of political risk that appeared seemingly out of the blue in China. Franklin FTSE South Korea (FLKR) was down 2.33% with Franklin FTSE Brazil (FLBR) down 2.8%. Bonds were weak, and only our reduced stake in iShares JP Morgan Em. Bond (LEMB) was up, with a 0.53% return. Interestingly, inflation-adjusted bonds were flat, and precious metals funds were the worst-performing fund category during this era of the highest inflation in over a decade.

At the top of the market in 2000, before the collapse of US tech and growth stocks, tech stocks represented about 33% of the S&P 500. After the 2000—2002 crash—which also took the S&P 500 down by about half, and tech stocks down a whopping 80%—technology was down to just 14% of the index.

Today the tech sector is 27%. While this level seems lower than the past tech bubble, the index creators now count Google, Facebook, and Netflix as communications companies, like Verizon, and Tesla is a consumer discretionary name, like Ford. These high-flying growth stocks are priced as tech stocks, and their value is derived largely from software technology. All in, what could be considered technology shares are pushing half the value of the stock market.

The only reason this is not a completely absurd bubble about to crash 80% (as opposed to an overvalued sector that could fall 25—50%) is that these companies make much of the money in the economy. In 2000 it was a bubble about future earnings, sort of like how Tesla is today. The sector earned 15% of the earnings of the S&P, but was more than 30% of the market value— basically the P/Es were double. Today the tech sector trades at only about 1/3 premium value over the rest of the index. Considering the reliability of the earnings growth, this isn't even out of whack.

In general, being in the most successful and popular area in the market when the economy slides is a bad idea. Financials in 2006 were over 22% of the market—the then #1 position in the S&P 500—as the world was becoming one of finance engineering rather than manufacturing or even tech. After the crash and lackluster years, this sector is now just 11% of the market.

How will the end come for tech leaders? A case could be made that, in the future, most profitable companies will be essentially tech names driven largely by software, and there will be no more epic crashes as in 2000. More likely there will be some hiccups along the way. One path to slowdown is just running out of places to use software to earn high margin profits. More likely the concentration of power will be their undoing, if not from their own competition with each other, then from government intervention as we are now seeing in China.

The top five tech names in the US alone are now around 23% of the S&P 500's market value. Most of them deal in high-margin spaces with few competitors where the buyer has little choice. The price is more about maximizing profit than market share or competition.

The Government has largely ignored tech power because it mostly seems to impact other businesses, not consumers. But input costs don't magically go away. The consumer—or voter, rather—doesn't see the full bill, sort of like Value Added Tax or VAT in Europe. The consumers often just see exciting free or cheap services, or their own behaviors are being sold to the highest bidder.

Tech billionaires also seem to live relatively modestly, at least next to the so-called robber barons of over a century ago, which led to the era of busting monopolies and higher taxation. Sure they have jets and yachts, but you can't really compare the lifestyles of the rich and famous from the turn of the century globally to today. This may have shielded the socialist tendencies of global governments and the public.

These days of relatively low regulation and tax may be coming to a close. They seem to be in China, which also has a high-flying tech sector, unlike most of the world. Europe has little to lose and more to gain as this is barely their own industry getting cracked down on, sort of why adding tariffs to China was popular. Rising regulations and taxes could scare investors out of tech. There even seems to be growing bipartisan support here.

This could take years to play out, but the upside to downside risk from these levels seems skewed to the negative.

Stock Funds1mo %
Vanguard Utilities (VPU)3.70%
[Benchmark] Vanguard 500 Index (VFINX)3.04%
[Benchmark] Vanguard Emerging Mkts Stock Idx (VEIEX)2.67%
Homestead Value Fund (HOVLX)2.65%
Vanguard Value Index (VTV)2.09%
Vanguard Small-Cap Value (VBR)2.08%
Vanguard FTSE Europe (VGK)1.81%
VanEck Vectors Pharma. (PPH)1.58%
[Benchmark] Vanguard Tax-Managed Intl Adm (VTMGX)1.38%
Franklin FTSE Germany (FLGR)1.33%
Vanguard FTSE Developed Mkts. (VEA)1.31%
Franklin FTSE China (FLCH)-0.21%
Invesco CurrencyShares Euro (FXE)-0.54%
Vanguard Energy (VDE)-1.85%
Franklin FTSE South Korea (FLKR)-2.33%
Franklin FTSE Brazil (FLBR)-2.80%
ProShares Decline of Retail (EMTY)-4.37%
ProShares UltraShort QQQ (QID)-8.23%
Bond Funds1mo %
iShares JP Morgan Em. Bond (LEMB)0.53%
Vanguard S/T Infl. Protect. (VTIP)0.00%
[Benchmark] Vanguard Total Bond Index (VBMFX)-0.20%
Vanguard Extended Duration Treasury (EDV)-0.28%
Vanguard Long-Term Bond Index ETF (BLV)-0.36%