Investment Performance
Q2 2024 Report
Thank you for choosing Seattle Foundation as your partner in philanthropy. We know that you share our commitment to creating a region of shared prosperity, belonging, and justice. We appreciate your
confidence in us to manage your assets in service of a greater goal: fostering a community where everyone can thrive. We are pleased to share these results from Q2 and we welcome any questions or feedback.
Market Conditions
The first half of 2024 brought more of the same, as price and earnings momentum continue to drive gains for a small number of dominant businesses that vastly exceed those of virtually everything else across the broader market.
The red font (chart, below) highlights the many instances when the S&P 500 generated double-digit out-performance. Note that the figures in the three-year column are per year; when considered next to core indices that are increasingly and unusually concentrated, the idea that diversification provides a free lunch seems antiquated today, to put it mildly.
Where we are in terms of the cycle’s remaining duration and the degree to which it can become even more pronounced is anyone’s guess. What we do know is that times like these present investors with a set of difficult choices—choices that tend to have unusually large implications for future returns.
This can lead to unfortunate decisions as a cycle’s duration leads to ever-increasing pressure to conform and own more of the current favorites. Notably, while the popularity of many of the S&P 500’s largest names is easily justified, it appears to us that various, rather obvious risks are being ignored. Furthermore, little to no weight is being placed on the lessons of history as it relates to the dominant businesses of other eras, nor on the relative degree to which such names are compelling compared to the thousands of other choices available.
Instead, many investors are focused on both the outsized weighting and return contribution of these leading names,1 having in essence moved relative risk to the front of the line rather than maintaining focus on the absolute returns needed to support one’s long-term objectives. The idea that a trade-off exists is either outright rejected or simply ignored, as the concept appears to have no near-term value. Yet, this is the question we must all carefully consider; one’s views and actions from here could be of monumental importance. Fortunately, history does provide some guidance.
- While the world and capital markets are always changing, human nature is largely a constant. As such, markets can be relied upon to set prices too optimistically for certain stocks around a good story, or too pessimistically when complexity arrives. In our view, today’s markets are particularly susceptible to this issue.
- Valuation inevitably matters but can lie dormant for long periods. However, it can be relied upon to re-emerge unexpectedly to quickly introduce significant price changes. In other words, ignoring valuation seems harmless until it’s not, and it can exact a considerable and permanent toll when its time arrives for the unprepared.
But even though the above is difficult to refute, does it matter if the success dependent upon them requires a seemingly
inhuman capacity for discipline and patience?
In a word, yes, as the nature of investing for a sustainable long-term return demands it. However, to start, we must embrace the fact that all investment strategies are subject to improvement; lessons can and should be learned during all periods. Those that become apparent during unusual periods are both exceptionally important and fraught with potential peril.2 With that very much in mind, we plan to integrate two significant lessons into our thought process and advice moving forward:
- First, as we look back over the last few years, attribution across public-equity portfolio returns demonstrates meaningful and, in some cases, remarkably large levels of out-performance from stock selection. However, this success was often balanced out or even outweighed by other factors, such as the broader market implications of non-U.S. exposure, smaller/mid-capitalization performance, and value tilts. We have been surprised by both the duration and magnitude of these headwinds. While it’s difficult in practice to separate out how much was due to stock selection versus these broader market trends, the truth is that the availability of mispriced stocks allows one to build a strong portfolio with more limited exposure tilts. While a combination of successful exposure tilts and strong security selection would have produced the best outcomes, the associated risks have been too outsized to tolerate relative to the short-term implications.
- Second, we’ve been struck by the market’s tendency towards high levels of short-term efficiency and medium- to long-term inefficiency. In other words, when companies report earnings and overall business strength, prices tend to adjust accordingly very quickly and rationally. But when there are clear signs that a company’s future trajectory might significantly shift in a big way, even just a short distance down the road, the market often doesn’t react at all until the moment of truth actually arrives. This is, of course, a wonderful scenario for a savvy investor whose whole job is centered on underwriting future business conditions. Yet, if the market’s pricing largely ignores anticipated changes or developments, a manager’s track record can become detached from the quality of their underwriting and replaced by its duration. For example, if a manager owns a company nearing a very successful shift in its business two years from now, it is quite likely that such a holding will drag down returns until that time.
Despite that challenges of the first half of 2024, we remain resolutely confident in the value of diversification and the importance of retaining talented, differentiated investors.
Portfolios
The Balanced Pool is the Seattle Foundation’s primary investment pool and is actively managed to deliver returns at 5% plus CPI over a long-term horizon. It maintains a diversified portfolio that includes exposure to global equity markets, alternative investments, and more conservative asset classes such as U.S. Fixed Income. Over the last 10 years, the Balanced Pool has gained 6.1% per annum. The Pool fell 0.1% in the second quarter and registered a 9.3% gain in the last 12 months. The portfolio’s forward returns tend to be highly correlated to complexity of an investment climate—greater challenges translate to higher returns.
In addition to our Balanced Pool, we offer other investment options to meet our fundholders’ needs. Our Socially Responsible Pool, designed to meet ESG (Environmental, Social, and Governance) requirements while also providing competitive economic returns, gained 1.5% for the quarter. Our Intermediate-Term Pool, designed to meet the expectations of donors with a grantmaking horizon in the 2-7-year range, gained 1.2%. The Foundation also manages a Short-Term Pool for donors with very short grantmaking horizons. This pool is intended to preserve capital as best as possible; it gained 1.2% for the quarter. Lastly, the Foundation offers an Index Pool, which is all passive, and a Growth Pool. These pools gained 1.6% and 1.3% in the quarter, respectively.
We are thankful for the opportunity to support you in creating powerful, rewarding philanthropy to make King County a stronger, more vibrant community for all. We welcome your questions and comments about Seattle Foundation.
Sincerely,
Joseph Boateng
Chair of Investment Committee