A Blessing in Disguise
There are two kinds of forecasters: those who dont know, and those who dont know they dont know. This Ken Galbraiths quote cant be more relevant when it comes to many stock investors obsessed with macro news recently (think inflation, interest rate, recession). We at Hillside belong to the former group (i.e., those who dont know), and we think it is advantageous to stay away from forecasting the economy and have a laser focus on uncovering those rare high-quality businesses across the globe.
Someone may start to wonder shouldnt tough economic conditions impact our investment in stocks? On the contrary to common sense, we believe in terms of high-quality businesses, the impact would be more on the upside for long-term shareholders than on the downside over the near term. To illustrate, let us take you through one of our portfolio companies, Credit Acceptance (NASDAQ:CACC).
Credit Acceptance is the leading subprime auto loan lender in the U.S. and is well-known for its disciplined underwriting and conservative capital allocation in the industry. That is to say that the company may forgo some businesses that deliver low long-term shareholder return on capital during good times as peers are relatively aggressive in lending. At the same time, it could harvest more highly profitable businesses when the economy turns south why? Financially weak competitors simply retreat, leaving a bigger slice of the pie to Credit Acceptance.
Last year, the management at Credit Acceptance had the following comment during one of the earnings calls: "You've also had what appears to be somewhat of an improvement in the competitive landscape, which generally seems to increase dealers' interest in our program as well."
What exactly drove the improvement in the competitive landscape here? The management went on:
It seems like the competitive environment has improved some, exactly why it's difficult to say, but I think likely candidates are increases in interest rates, the choppiness in the capital markets that we discussed earlier, and potentially operators being concerned about future trends in credit due to things like inflation and potentially declining used car prices.
You heard that right high interest rate, poor capital market condition and rising inflation none of these sounds favorable to a business owner in a traditional sense. But Credit Acceptance has been actually growing its loan volume at a double-digit percentage rate since last year, literally turning the industry headwind into a tailwind for itself.
All in all, although seeing no one (including ourselves) in the position to consistently make accurate predictions of the economy, we do regard any economic downturn as a likely blessing in disguise for good companies only.
Disclosure: The mention of any security in this article does not constitute an investment recommendation. Investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. I/We have position(s) in any of the securities referenced in this article.
This article was written by the author and first appeared in Hillside Wealth Management's monthly newsletter.
This article first appeared on GuruFocus.
