Letters

On average, stocks within the portfolios fluctuated by over 35% during the period, which is actually quite normal. Intrinsic value doesn't normally rise and fall 35% over most six month time frames, which should help you understand just how much the "mood of the market" determines short term prices. And it seems, to us at least, that today's prevalent mood is uncertainty: uncertainty about future growth, future leadership, future regulations, future earnings, and most importantly, yet nearly impossible to predict, future interest rates.

As we've said in prior letters, investors pay a dear price for perceived certainty, typically selling out of position on bad news and buying once the news isn't as bad as feared or after prices have rebounded. This is not a recipe for outsized returns. We don't believe anyone, especially us, can trade the ups and downs with any consistency. Where we can add value is in making intelligent decisions based on valuations.

We continue to focus on the things we can control: businesses with attractive economics, smart, honest and shareholder friendly management teams, and, of course, securities available at discounts to intrinsic value, when conservatively calculated.

We continue to hold roughly 33% of each portfolio's assets in cash equivalents, in our opinion a valuable asset in volatile times. We will continue to turn over stones looking for that next great mispriced business.

We hope this letter finds you and your family safe and healthy.

We apologize for the delay in writing to you. Clear writing requires clear thinking, and given the recent bombardment of information, it has been difficult to think clearly.

A pandemic is upon us. In order to curtail the spread of the virus and the disease it spreads, our government has shut down the economy, all but ensuring a recession. Their plan is to step in and provide capital to those in need, including businesses, so that when the virus is no longer a threat, we will still have an economy. Nobody can compute the consequences of this novel experiment and our guess isn't any better than the next guy's.

People are scared, uncertain and stressed. These three conditions provide the essential ingredients to what behavioral economists call "myopic loss aversion". Loss aversion is the idea that the pain people feel from losing $100 is much greater than the pleasure they experience from gaining the same amount. Myopic loss aversion, though less frequent, occurs when investors focus solely on the short-term, causing them to over-react to bad news at the expense of long-term benefits. Unfortunately, myopic loss aversion is baked into our genes. Evolutionarily speaking, there is a survival benefit to overestimating risk.

From an investor's point of view, however, myopic loss aversion typically occurs at the worst possible time. When prices decline and uncertainty is high, levelheaded thinking and long-term perspective is needed. Temperament is a key differentiator to above-average long-term investment results.

The "shoot first and ask questions later" economic consequences can be significant. From February 19 to March 23, the S&P 500 declined 33.9%, the quickest meltdown in history. Oil has collapsed 68%. High yield bond spreads have widened by 900+ basis points. The Volatility Index hit all-time highs. Treasury yields fell to their lowest rates in history. Nothing was spared.

If you recall from our 2019 letters, we weren't finding many bargains and cash was building. Selling smaller positions and trimming larger positions occupied the bulk of our activity. We haven't added a meaningful position since the last market swoon in December 2018. With the economy closed and the market still trading at a high multiple, we continue to exercise patience.

Despite the panic, life at Firethorn has remained relatively calm. Perhaps the prior four recessions and witnessing our fair share of value destruction has helped. Experience has certainly shaped our investment process: long-term focus, high quality business and management, strong balance sheets, high returns on capital, decent growth prospects in reasonably normal times and a price that provides us with a large margin of safety. More importantly, it's shaped who we are and how we handle adversity. It's served us well in the past, and it will serve us well in the future as we make our way through this pandemic and the economic fallout.