About Henry Van der Eb, CFA
Henry Van der Eb, CFA joined Gabelli Asset Management in October 1999 as President and Portfolio Manager of The Gabelli Mathers Fund. Prior to joining the Gabelli organization, Henry was the owner and President of Mathers & Company, a Chicago based investment advisory firm, and Chairman of the Mathers Fund, which he has managed for over twenty years. Henry served as President of The Investment Analysts Society of Chicago for 1979-1980, is a Chartered Financial Analyst (CFA), a Chartered Investment Counselor (CIC), and a member of the Association for Investment Management and Research (AIMR). He received an MBA with honors from Northwestern University Graduate School of Management and a BA from Vanderbilt University.
Creating The "Wealth Effect"
The rippling "wealth effect" from excessive stock and real estate valuations has overstimulated U.S. consumer spending and pushed the savings rate below zero. This has shifted the Fedıs focus to an "inflation alert" with concerns over labor shortages, rising wages, commodity inflation, and slowing productivity. As a result, the Federal Open Market Committee raised short-term interest rates on June 30th to prevent the inflation on Wall Street from moving to Main Street. Additional rate increases are expected unless potential inflation is quickly defused by an economic slowdown. Mr. Greenspan is now center stage with the most difficult balancing act of his career. By gradually raising interest rates, he is attempting to gently deflate the largest stock market balloon in financial history in order to cool consumer spending, slow the economy and prevent inflationary pressures from building. Complicating this task is a burgeoning U.S. trade deficit, a weak dollar, and Y2K uncertainties. Only twice this century has a central bank tried to restrain stock market speculation that had become a national obsession. In both cases, the U.S. in 1929 and Japan in 1989, interest rates were raised, stocks topped and no one worried about inflation for a long time.
Are We At a Market Top?
Over the last few years, the unprecedented divergence between the S&P 500's earnings growth rate and other fundamentals has continued to widen. For example, during the 3½ year period from 12/31/95 to 6/30/99 the S&P 500 has increased an amazing 7.3 times the percentage increase in reported earnings and 6.2 times faster than operating earnings. The compound annual increase in reported earnings for this 3½ year period was 4.6% and 5.4% for operating earnings. During this period the annual growth rate in earnings has actually been decreasing. In fact, S&P 500 reported earnings for '98 declined 5.1% and operating earnings were flat.
Clearly, a price to earnings ratio of 37 times is a very high price to pay for mid-single digit earnings growth, even without dubious accounting practices which overstate and artificially smooth out quarterly earnings reports. Straight shooter Warren Buffett, in his March '99 annual letter to Berkshire Hathaway shareholders, presents a revealing analysis that bluntly criticizes corporate "earnings manipulation" techniques which are often "auditor blessed." SEC Chairman Arthur Levitt wants "earnings management" stopped, stating, "Too many corporate managers, auditors and analysts are participants in a game of winks and nods." Most major corporations play the cynical game of "beating" Wall Street's consensus quarterly earnings estimate by 1˘ and then watch CNBC hype the stock by ballyhooing the number as "better than expected," while downplaying the comparison with the prior year's comparable quarter. At year-end 1995, the yield on the 30 year U.S. Treasury bond was 6% vs. 6.1% now and the yields on 2, 5 and 10 year U.S. Treasury notes are also currently higher as well. Additionally, both stock dividend and earnings yields are at historic lows relative to bond yields. The 'New Era' rationale that the S&P 500 has zoomed up over the last 3½ years due to strong earnings growth and declining interest rates is not supported by these facts.
"Don't Fight the Fed."
There are numerous analytical approaches which can be used to quantify the downside risk in today's stock market. The Federal Reserve's own internal stock market valuation model, which uses the S&P 500 consensus forward estimate of operating earnings divided by the 10 year U.S. Treasury note yield, put the S&P 500 at 50% overvalued on July 9th compared to 33% prior to the '87 Crash. Using regression to the long term means and medians, for the various data series shown in Charts 1, 2 & 5, gives an average downside projection of 64%, and a move to historical undervaluation, a loss of 76%. At the moment, there is great complacency regarding the analogy between the Fed raising rates in August of 1929 and the June 1999 increase. The following is a 9/1/29 quote from the New York Times: "One of the most striking features of the present chapter in stock market history is the failure of the trading community to take seriously the portents which once threw Wall Street into a state of alarm." History tends to repeat when it is least expected.
Our Strategy
In an effort to increase returns and minimize the risk of loss, the Fund has been conservatively managed for many years using the discipline of historical precedent valuation analysis. This approach is based on the long-term statistical record of numerous traditional fundamental stock valuation benchmarks which show that stocks fluctuate from overvaluation (high risk) to undervaluation (low risk) over varying time periods. Central to the success of this approach are the assumptions that stock valuations are unlikely to significantly overshoot and/or stay at historical extremes for an extended period, and that portfolio risk levels should be periodically adjusted to take more risk when stocks are undervalued and less risk when stocks are overvalued. To assume that virtually all traditional fundamental valuation benchmarks would substantially exceed their 73-year old upper limits, for more than a short time, would seem imprudent based on historical analysis. However unlikely, over the last several years these measures have far surpassed all previous levels, setting all-time records for both degree and duration. Despite this recent experience, investing for the long term does not necessarily mean buying or holding stocks whose prices far exceed their intrinsic economic worth. If you are an investor who is skeptical that a buy and hold equity strategy will be appropriate for the future and would like a Fund that has the potential to take advantage of a bear market, then the Gabelli Mathers Fund may be a timely investment. Past performance is no guarantee of future results. -0.32%, 0.83%, 2.94% and 11.44% were the average annual returns as of 9/30/99 of the Gabelli Mathers Fund for the one, five and ten-year periods and the period since inception on 8/19/65, respectively. The returns shown above are historical and reflect changes in share price, reinvested dividends and capital gains, and are net of expenses. Investment returns and the principal value of an investment will fluctuate. When shares are redeemed, they may be worth more or less than their original cost. The S&P 500 is an unmanaged index, generally representative of the U.S. stock market. Following are the one-year average annual returns of the Gabelli Mathers Fund and the S&P 500:
The prospectus contains more complete information, including fees and expenses, and should be read carefully before investing or sending money. This information is not authorized for distribution unless preceded or accompanied by a current prospectus.
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