pvs quarter ending june 2010 investor letter

8/9/2019 PVS Quarter Ending June 2010 Investor Letter

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PV Strategies LLC June Quarter Update 2010

1 Contact: Bill Miller, Managing Partner, Email: [email protected], Phone: (719) 473-6876

Equities prices were pressured again in June by investor’s concerns with slowing growth, the

weight of sovereign debts, the possibility of a double-dip recession, and the risk that deflation

could take root. The second quarter produced the first full quarter of declining stock prices in

the past five, and the decline was substantial. The S&P 500 Index fell (11.9%) in the second

quarter; finishing down (7.6%) year to date. PV Strategies suffered a bit less than the Index,down (8.1%) in the second quarter and finishing down (3.6%) year to date; or roughly half of

the loss suffered by the Index.

Figure 1

The market’s focus on Europe’s sovereign

default risk softened a bit in June, but was

replaced with concerns that the recovery might

be stalling, which were fueled by disappointing

economic data. There is increasing talk about

deflation risk and the possibility of a “double

dip” recession. Job growth, consumersentiment, and manufacturing activity data

came in below expectations. The CBOE

Volatility Index remained elevated, surging

again as stock prices tumbled at month end.

Figure 2 - CBOE Volatility Index





Many of the bottom-up forecasts of forward corporate earnings were revised lower in June as

analysts took account of slower than expected growth, as well as foreign exchange rate effects

due to the short term appreciation in the relative value of the US Dollar. Even given these

downward revisions, the S&P 500 continues to trade below historical multiples based on

current forward earnings outlooks. It can be argued that higher levels of uncertainty created bythe unwinding of unprecedented levels of government stimulus, unsustainable government

debts and structural deficits, and new government regulations do warrant lower than

historically average multiples on earnings. Even so, given my expectation of a slowing yet

sustained global recovery, I continue to think that the probabilities are weighted to equities

prices moving higher rather than lower. Our portfolio was somewhat better hedged against

further declines in equities prices in June versus May, although not enough to prevent suffering

further losses. Given the significant, unprecedented, and complex risks that the global

economy is facing, and given that the recovery and the markets remain fragile, I think we would

be better served with more insurance than I currently have in place; even though this maycause us to under-perform the equities indices should markets again move higher. I have

exposed us to somewhat more risk than is likely prudent in the current environment by waiting

for better entry points to open hedge positions. I have actually closed some short positions that

help protect the portfolio during June; because my short target exit prices were reached.

Despite investor fears of a stalling recovery, I expect July’s second quarter earnings reports will

continue to show strong business performance and perhaps fuel a market bounce; which may

provide those better entry points for building planned hedges. A further discussion of my

outlook and forward strategies appears in the “Outlook” section below.

Second Quarter 2010 Fund Performance Metrics

The value of the Fund - net of capital contributions and distributions, fees, and expenses – fell

($186,564) or (2.5%) during June versus a (5.4%) decrease in the value of the S&P 500 Index.

For the full second quarter the net value of the Fund fell ($646,918) or (8.1%) versus a full

quarter decrease of (11.9%) in the S&P 500 Index. At quarter end the net value of the Fund had

fallen (3.6%) year to date versus a decline of (7.6%) for the S&P 500 Index. The Fund’s average

net contributed capital during June was $6,478,793; resulting in a net loss on contributed

capital of (2.9%). The total value of the Fund at month end was to $7,919,295 with total net

contributed capital of $6,798,793 and total gains net of fees, expenses, and distributions of $1,120,502.

We closed the month with $4,841,187 of net long equities and ETFs (61.1% of the Fund’s

capital), $330,723 of foreign currency denominated bonds, and $2,747,385 of cash and

equivalents. The market value ratio of long to short positions was 11 to 1. At quarter end





$1,553,027 of our cash was reserved to back options contracts and short exposure. The net

value at risk in our investment operations at quarter-end was $6,051,147 (76.4% of the Fund’s

capital) with unallocated cash reserves of $1,771,963 (22.3% of the Fund’s capital).

Our options trading operations produced income of $51,420 on positions closed during June

with net exposure of $1,199,750 for a nominal return of 4.3%. The average exposed period on

closed positions was 39 days for an IRR of 40.4%.

Fund Performance History





Fund Allocation History

Options Trading Operations Performance History





Current Equities Portfolio Sector Allocations as of 7/7/2010

Top Ten Long Equity Holdings as of 7/7/2010 (symbol, % of the Fund’s capital)

Blackstone Group LP BX 3.6%General Electric Co GE 3.2%

Enterprise Products Partners LP EPD 2.7%

Verizon Communications Inc VZ 2.6%

Hewlett-Packard Co HPQ 2.6%

Halliburton Co HAL 2.6%

AT&T Inc T 2.4%

Analog Devices Inc ADI 2.3%

Pfizer Inc PFE 2.0%

Occidental Petroleum Corp OXY 2.0%

Top Short Equity Positions as of 7/7/2010 (symbol, % of the Fund’s capital)

Sprint Nextel S (2.7%)

Boston Scientific BSX (0.5%)




6 Contact: Bill Miller Manager PV Strategies, LLC 719.473.6876 [email protected]

Outlook

The S&P 500 Index is now priced at about 12x forecast next twelve months earnings for

component stocks; even after forecasts have been revised downward in recent weeks as

analysts accounted for slower growth and the foreign exchange rate effects of a stronger US

Dollar and weaker Euro. The current P/E appears low relative to its long term ten-year movingaverage of about 15x. The lower multiple may be appropriate given the uncertainty of a

turbulent backdrop; however it has generally trended higher during periods of lower interest

rates. In any case, it points to probabilities being weighted toward stocks trading higher rather

than lower; barring “black swan” or “tail risk” events. I continue to expect that the most likely

case in the mid-term is a slowing but continued economic recovery and generally rising

markets; punctuated with periods of significant volatility given greater risks (a “fatter tail”).

I often re-read some of my earlier editions as I write these monthly reports, which helps me to

internalize the lessons of past misjudgments; which is sometimes a little painful. What I findmost painful is having made the right call, but failed to act on it; at least failed to act quickly

enough or with sufficient resolve. In the March 2010 edition I wrote:

While there is likely a bit more room to the upside, gains from equities may soon become

harder to come by. Should the market reach yet higher, I anticipate adding more

hedging strategies into our mix; likely by increasing use of market neutral long-short

paired asset strategies.

With the benefit of hindsight, I called it right but acted too slowly and with too little resolve;causing the value of our portfolio to suffer more than it should have as markets fell.

In my May 2010 letter I included a discussion of some of the risks and headwinds facing a

continued recovery. The market’s sell-off has been largely driven by investor focus on these

macro risks. Government policies play a significant role here. While oversimplified, the

possible outcomes might be viewed as:

Too much government stimulus and debt (“too hot”) - If concerns about the growing the

debt loads in the US and Europe result in slowing demand for sovereign debt and risingrates while the economy continues to struggle with slow growth and high

unemployment, it is possible that the Federal Reserve and the European Central Bank

will increase use of “quantitative easing”, effectively printing money to purchase debt, or

“monetizing the debt.” Too much of this could push private buyers from the markets and





ultimately produce rising inflation, slower real growth, and ultimately higher rather than

lower interest rates.

Too little government stimulus withdrawn too soon (“too cold”) - Concerns about the

rising debt and shifting political winds might result in governments pursuing significant spending cuts too soon. While getting government spending under control would be a

good thing in the long run, too much austerity implemented too soon, or reluctance to

step in to prop up the credit markets if they again begin to seize, might produce enough

of a headwind to result in a double-dip recession, deflation, and a long period of

economic stagnation.

A Goldilocks scenario (“just right”) - Policies which enable a continued recovery followed

by well timed and managed reductions in government entitlements and debts might

produce low and steady inflation, low or slowly rising interest rates and sufficient credit availability, a slow decline in relative value of the U.S. Dollar versus emerging market

currencies so as to enable rising exports and falling imports in the U.S. and Europe while

emerging markets also increase consumption, and producing steadily accelerating global

growth and slowly declining deficits and debt burdens in developed nations.

So, too hot? Too cold? Or, just right? While oversimplifying what is in fact a very complex set

of policy questions, this summarizes the big question facing the markets.

I am maintaining net long exposure to equities using a “total return” strategy that combines abasket of high dividend-yield equities with selling covered calls to boost returns. I also plan to

add more hedging into our strategies by increasing use of market neutral long-short pairings.

The few long/short pairings that I had added earlier helped to limit the losses on our equities

portfolio during the market’s recent sell-off.

I am resolved to act more aggressively in adding hedges to our portfolio as markets again move

higher, including strategies that provide “tail risk” insurance against unusual market-disrupting

events. The current uncertainty and turbulence likely increases the probability of such events.

Hedges that provide portfolio insurance come at a cost, no matter what ingenious and efficient

strategies are invented and employed to implement them. These costs will likely cause us to

underperform the S&P 500 Index in periods of strong gains, but should allow us to suffer far

less when markets fall; and I suspect that we will outperform the markets when measured over

longer periods of time given expected continued volatility.





I also plan to continue to hold a significant allocation of cash for use in options trading

operations, writing puts on a target basket of equities and ETFs during periods of higher

volatility; and have resolved to be more patient in committing that cash to trades than I was in

late April and early May. The markets will very likely continue to provide opportunities for this

strategy to produce good returns.

Finally, I continue to believe that some combination of a weakening US Dollar and higher US

interest rates are necessary outcomes to the rebalancing that must take place between

emerging and developed economies, and to the need for the US to eventually deal with its

structural deficit and growing debt. The recent appreciation in the Dollar is actually a headwind

that only delays this necessary transition. The longer that government policies and market

dynamics delay this necessary transition, the more painful it is likely to be. I am continuing to

slowly add to investment positions that I believe will benefit from the eventual course of global

rebalancing while providing current income; including allocations to bonds denominated in aselection of emerging market and emerging market proxy currencies, which now account for

about 5% of the value of our portfolio.

There is an archive of these monthly updates on our web site at www.pvstrat.com, as well as a

blog containing some of my day to day thoughts, ideas, and research.

We did some research at the request of an investor into the requirements and mechanisms for

establishing Self-directed IRA accounts that can be invested in our Fund. If interested, contact

us and we’ll get you that information. As always, feel free to call me with any questions or if you wish to further discuss anything covered.

Bill Miller

719 473-6876 or [email protected]

PV Strategies, LLC

PV Strategies, LLC is an open-ended hedge fund that employs a multi-strategy approach intended to

achieve long term capital appreciation and income while limiting the risks of market exposure. In order

to contain risk to capital, the fund does not employ significant leverage. The fund invests globally,

primarily in liquid, exchange traded securities, including long and short equities, options, Exchange

Traded Funds (ETFs), and bonds. The Fund began investment operations in September, 2008. In the

intervening period, during which the S&P 500 index has suffered a (20.8%) loss and fell to a month-

ending low of a (43.5%) loss, the fund’s strategies have achieved a 31.0% gain, for a 16.9% Annual Rate

of Return, while the fund’s month-ending value at no time fell below 93.4% of contributed capital. PVS

is open to new investments from accredited investors.

pvs quarter ending june 2010 investor letter

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