Published on May 27, 2020

If you were unable to join the webinar: Managing Downside Risk in a Volatile Market, during which Larry Cordisco and John Osterweis discussed their perspectives on managing risk in a volatile market, you can now watch the replay.


Shawn Eubanks: Good afternoon and thank you for joining our webinar today on Managing Downside Risk in a Volatile Market. This is Shawn Eubanks and as many of you know, Osterweis Capital has been focused on managing downside risk in all of our strategies across the firm for 36 years, and it's apparent in our year-to-date performance.

Protecting capital in negative markets is core to our investing DNA, since the firm was founded by John Osterweis in 1983. I'm extremely pleased to introduce Larry Cordisco and John Osterweis, the co-lead portfolio managers for the Osterweis Fund and the Core Equity strategy. Please note the questions may be submitted through the chat during the presentation and then we'll address your questions after the prepared remarks.

With that, I'd like to turn the presentation over to Larry Cordisco. Larry.

Larry Cordisco: Well thank you Shawn and I want to extend a welcome to everybody on the webcast and I hope that everyone is healthy and doing well through this volatile period. And if anyone ever has any questions for me, feel free to reach out and follow up directly. And with that I'd like to hand it off to John where he can kick off some introductory remarks.

John Osterweis: Thank you Larry. Welcome everybody. Obviously this has been an extraordinarily volatile and confusing period. It's been that way for people across the economy and obviously people who are active in the financial markets. What we'd like to cover today is to give you some sense of what the volatility has been in the markets, how the markets have responded to the pandemic, and then of course we're going to get into what Larry and I have been doing in the portfolio to try to mitigate downside risk and ultimately capture upside as things recover.

If you look at the market since the onset of the pandemic, we tend to think of it in four phases. The first phase is the shock and panic when people realized that COVID-19 was not just another flu coming out of China but was, in fact, a potentially worldwide pandemic and would require extraordinary measures including basically mandatory shutdown of lots of businesses around the world.

The second phase was a relief, sorry, a relief rally as people began to realize that although this was a severe event, it was not a permanent state of affairs and that ultimately we would recover and we began to see evidence of flattening or a decline actually in the curve of infections. And secondly, as the Fed and the fiscal authorities in the United States started to pour massive stimulus into the economy.

We think we're now in what we call Phase Three, where, even though there's a complete lack of clarity on when the economy will actually recover and what the shape of that recovery will be, we know that there's work on vaccines and cures, et cetera. And so the market is trying to sort this out.

And Phase Four is what we call the resolution. And essentially, we believe that the resolution will be an extended period in which the strongest companies in any particular industry tend to gain market share and get stronger. This is a phenomenon that we have identified several years ago and have been talking a lot about, which is the winner-take-all or the winner-take-most phenomenon in which we have an economy where the strongest companies keep getting stronger.

We think that this pandemic has accelerated and amplified that trend, and we think that that's going to be a major theme going forward. And if there's one message you can get out of today it's that the stronger will get stronger.

So with that I'd like to turn it back to Larry and he and I will play Click and Clack and go through, in some granular detail, what's been going on and of course, most importantly, what we've been doing about it. So Larry.

Larry Cordisco: Thank you John. So if you think visually about the story John just walked us through in the four phases, of course we're all familiar with the stunning correction and relief rally that has already occurred. But what really comes next, and as John mentioned, what we think we are in now, is what we call the "stuttering W" phase of the market. And we think this phase is likely to persist probably for the next 6 to 12 months and really depends on when we get clarity on the resolution to the pandemic and clues as to what kind of economic recovery that we have.

And then as John mentioned, beyond the stuttering W period, at 12-months on, we think the long-term trend here and what we've been observing in the last couple years is probably exacerbated by the damage that has gone on to the economy here, even in the short term, the strong will get stronger and they will expand their competitive advantages.

So with that in mind, and what we think about a lot on managing risk/reward is, what are the market expectations? And basically when we look at what the market is discounting today, we think there are really two big assumptions being built in. And the first is that there will be ... This is a transitory problem. It's not permanent. This is something that we can get through. And the second big assumption is that the Fed is basically, and the federal government, have built a bridge to the other side.

So the combination of being a short-term problem with a bridge to the other side has been a lot of what's supported the market recently. And there is a lot of evidence to support that view. There's, I think actually as many as 110 vaccines in development right now, and we've seen how strongly the market can react when there's good news out of companies like Moderna. And we've also seen the market react quite well to good news around emerging therapeutics that lessen the severity of the condition and that would relate to Gilead a few weeks ago.

Of course whether and ultimately how fast a vaccine will be developed, how effective it'll be, the fact that there won't be any safety signals, and the ability of the industry to produce billions of doses in a short period of time are still unknowns, but there is, as I said, a lot of optimism. And secondly, you can't overstate enough how important the Federal Reserve and the federal government have been to the market's psyche. The word "unprecedented" has been thrown around quite frequently with respect to the size of government actions but we think the speed at which the policymakers have acted is actually as important if not more important.

There was quite a lag in 2008 to responding to that economic crisis and financial crisis and boy this time they jumped in very quickly and I think that was a big part of the market doing better.

And I guess this is the third big thing we've picked up on recently around market expectations, is what the recovery will look like. And we're seeing a lot of optimism. Once we get to the other side as to how strong that economy would be. And there's a couple reasons behind that.

And first of all it's just, the market likes positive rate of change stories. And so there should be a fair amount of improving economic activity for two to three years as different industries come back online. Some with more lag than others. But when you look at just pure economic factors between pent up demand and job creation, consumer spending is probably going to be quite positive for the next couple of years.

We think inventory replenishment is going to be a kicker. Adding a bit to the virtuous cycle that we see coming or the market sees coming I should say. In fact this morning we heard the CEO of Prologis speculate that the combination of eCommerce and the need to plan for future supply chain disruptions could result in the need for 10% more systemic inventory compared to pre-COVID levels.

So this would be a really nice kicker indeed if it materializes. And then there are structural trends that are being discounted in the market. And we've all heard of work from home and eCommerce. And we're all ordering more online. But together, and especially work from home, we're all seeing it and doing it ourselves. More and more companies we see are commenting about how they're being able to manage it better and what that really means is they can access talent all over the country at lower cost.

So better talent at lower cost. And we think that that is a real structural change in the economy going forward. And the last possible thing that we hear a lot, that the market's starting to discuss, is the idea of re-shoring or on-shoring. And this could be a significant driver to the economy as companies invest in the infrastructure and the people and technology, they will be needed to bring manufacturing and supply chains back to the United States.

So those are all, I think, some reasons for optimism that the market has glommed onto, that really is driving what appears to be, recently, a pretty persistent bid underneath the market. So when you transition that to our perspective on this, we have a bit of a balanced view. Because first of all, predicting a timeframe and ultimate resolution is really difficult. Our best guess is that we'll see clarity and have some transparency to a resolution in the next 6 to 12 months, but we really don't know and, as I mentioned, there's a lot of things that could go wrong.

But one thing we do feel very strongly about, and John hit on this with a lot of emphasis in his introduction, we think the strong will get stronger. And as John mentioned this is a continuation of a trend that's been in place for a number of years. These winner-take-most markets are expanding. And the number of industry leaders is concentrated across all industries. And so we think that's a trend that will continue.

And when you look at the relative ability of leading companies to reinvest in efficiency initiatives and new products and people, we think those moats are just going to expand. And from an investor perspective, if you consider the bankruptcies and lack of ability for weaker companies to expand their capacity and operations, that just leaves a lot of market share in play for these leading companies to grab over the coming years as the economy gets better.

When we think about this type of scenario and if we're right or if we're wrong or what happens if we're wrong, we really frame it into two questions. And the first one is: What if we're too optimistic? What if we don't have a resolution in the next 6 to 12 months and this problem lingers for longer than expected?

Well the way we look at it, we still own market-leading companies and companies that actually ... The longer this goes on, the more their relative advantage probably expands because they have the resources and the wherewithal to survive better than their weaker competitors. And on the flip side we think about whether or not we're too conservative. And that would mean if the economy recovers much more quickly that people get back to restaurants and travel and all of these things in a much faster fashion than we think is being discounted in the market.

And I think in that situation, we're certainly at risk of under-performing a near-term rally if stocks that are beaten down the most rally the hardest. But we have a lot of confidence in this longer-term thesis that's been, again, based on a trend that's been in place for a couple years where over the next three-to-five years, basically what I'm saying is for longer-term investors, we think these dominant companies are going to expand their advantages over the competition.

What we thought would be helpful is just a couple slides on how did we get here? And how did we get into this market and what's some recent market history that's informing our view?

So very quickly we'll just talk about the last year or two. And it's been a bit a volatile ride since 2018, where we also saw a significant correction. 2019 was very smooth, all the way through, but earnings didn't grow. That market was fueled by multiple expansions, and that created a very expensive market based on high expectations as we came into 2020 and probably was one of the reasons the market corrected as hard as it did. Basically coming off a very strong rally with high expectations.

And as John mentioned, it was a bit of a surprise. This was not just another virus or flu coming out of China, something that we had seen a number of times before with false starts. We put that market story, again into a graphic, into a visual and you can see the trade drag in late 2018 that gave way to what we call a Fed-induced rally in 2019.

The interesting thing that happened with that rally from our perspective though was that that divergence between large and small cap companies. Especially as the year went on and optimism towards 2020 was increasing, those large cap companies really started to out-perform relative to small caps. And in fact in the corrective part of the market, which was in March, they outperformed significantly on the downside as well.

And it's not really been until recently in the last couple of weeks that we see the small caps starting to make a bit of a recovery throughout all this, as expectations have improved around the economy.

Throughout all of this, volatility has been a really big part of the story. This is the fastest correction of 30% or more since the 1930s, the cumulative volatility as we measure it, and we're going to share this in a second, is about three times the average for any year, and this has all happened in the first couple months.

But we do think that opportunities are born from this volatility. Especially for active managers who are well-positioned, have done their homework, and basically know the fat pitches when they see them coming. We're going to touch on that in a moment.

But the first thing really is how fast this crisis came on. It came on really fast. And just to compare it, 2020 to 2008, we tracked the VIX over a 180-day period and basically you can see in 2008 it was a bit of a, almost like the frog in the slow-boiling pot. The VIX sort of was rolling higher, steadily and steadily and steadily and then really started to take off. And if you measure the time from when the VIX initially crossed 20 to the time it took to peak at 80, it was almost 100 days. And if you do that same measurement in 2020 from the time it broke out over 20 to the time it peaked it at 80, it was only 15 days. So there really wasn't a lot of time to react to this market.

The second point we'd make around volatility is this is the measure that we track. And it's the cumulative volatility, the cumulative contribution of the 10 biggest up days and the 10 biggest down days of any given year. And, going into this year, on average, those days accounted for about 20% moves up and 20% moves down and this is for the S&P 500. This year the 10 best and 10 worst days have contributed to a much bigger impact and drag in contributions in the market. About 60% aggregate moves up and aggregate moves down.

When we look at the selloff in total, it was pretty rational. We looked at it across different industry sectors and what we saw was the sectors that were the most cyclical: energy and financials, performed the worst. And this charted the percent change from a 52-week high to a 52-week low and I think we all can guess when the 52-week lows were.

But there's a couple other things we would note. Besides the cyclicality of this chart, if you look at industries like energy and financials, they're also the most commoditized. Specifically thinking about selling oil and selling money, have become a pretty commoditized business. So, the flipside of this is when you look at other side of this chart there's clearly defenses but information technology held up quite well and historically that's been due to the cyclical and it did not perform as a cyclical, even in the depths of the selloff, here performed much better.

And we think that's because it's benefiting from certain secular trends which we've touched on a bit and will continue to in this presentation. But also the tech companies and especially the large tech companies have very differentiated businesses. So I think they're viewed by investors as being quite insulated. Especially on a relative basis. And so when you look at the post-bounce as we've been sorting through the longer-term winners and losers, you can see that energy and financials have continued to perform quite poorly, even with the rebound in performance. And technology has performed the best as people have continued to gravitate towards that sector for the reasons I just outlined.

And the other problem with energy we point out and with financials is just the duration of the recovery is probably a bit more of an unknown. Credit problems could linger for a while. That's a very hard metric to get your hands around from this point of view today. And in energy a lot of analysts are speculating that even with all the supply cuts the crude oil market probably doesn't come into balance until the third quarter of 2021.

So when you juxtapose that again against technology, you can see where, even after the sorting process and even where you would think there'd be the perception of a lot of value in the market, that's really not the case.

And we have really a strong opinion about the technology sector and how this environment is accelerating the adoption of some of these technology trends. And John, maybe if you wouldn't mind taking a minute just to walk us through a couple of the perspectives you have on that issue.

John Osterweis: I think, thanks Larry, number one, there's an increasing imperative to adopt technology, because well beyond video conferencing, et cetera, it is essential for companies to adopt technology in order to become more efficient and to gain the profitability that efficiency affords them. We also think that given the current slowdown and the mandatory recession that we've had, companies have taken advantage of this, some companies have, in order to upgrade what they're doing in tech and in order to streamline supply chains and certain processes.

And again this plays into our general theme that the strong get stronger because the strongest companies are the most profitable, they have the greatest cashflow, and they have the ability to make the investments that are so necessary at this point. So we think that is a trend that is here to stay.

If we talk about the next slide which is: Why did the market rally? I think it's clear that there are two significant things that sparked the rally. One is, we saw the curve of infection bending and there was considerable optimism that we would find either a cure or a vaccine or eventually we would develop herd immunity that would allow us to get back to work in a more normal fashion.

And the second thing, which is incredibly powerful, Larry's gone into some detail on, is the very rapid and very massive response from the Federal Reserve and from the federal government in terms of both monetary and fiscal stimulus. And if you look at it the combined stimulus of about $7 trillion is a third of GDP, which is absolutely massive. So obviously we're not in a position to forecast the exact shape of the pandemic or the recovery, but clearly our view as is the market's view is that the effects of the pandemic are to some extent finite.

So Larry maybe you can give some detail on this.

Larry Cordisco: Yeah, thank you John. So number one is, the curve is bending. And what we track is the John Hopkins University website, which has a rolling average of the five-day number of new diagnoses. And you can clearly see in the U.S. with the green curve at the top there, you can clearly see a rolling, peaking process and downward slope to that. That was probably one of the most important elements that got the stock market back on track.

And in fact you see that curve really bending in the second half of March. That really coincides with when the market selloff really ended. And we started getting a little bit more optimism about a recovery.

Shawn Eubanks: John and Larry, I get a lot of questions about this from advisors and: How is your team looking at kind of where we are in the current COVID situation and where does the bull-bear debate stand at this point?

John Osterweis: I would just make one quick comment, which is that this curve that Larry's showing is for the entire U.S. But a lot of that is driven by the decline in New Jersey and New York, which implies that outside of New Jersey and New York, actually some regions are seeing a pick up. So it's not going to be a straight line by a long shot. Larry you want to give some detail on that?

Larry Cordisco: Yeah. And that's right, John, in fact I believe Florida today reported the highest number of diagnoses of any day in Florida. So to your point it's not bending everywhere and in fact it's accelerating in other places, and there's always the threat of a second wave, right? And that is really where the bear argument around the pandemic is. Is that this will come back in the fall and the winter. There is sort of rolling regulations around different states and communities, which means that we may have a whack-a-mole situation of the virus appearing in different spots. And that's concerning.

On the bullish side, however, and this is really hard to wrap your brain around at times, what I just said is very well-known, and it appears to be highly discounted in the market. So either the market is saying, "We're going to be getting a solution to this much more quickly than people think." Or, and/or possibly the market's saying that this threat of a second wave and rolling communities of COVID outbreak really is not something that's going to destroy the economy. Now the market could be wrong. A second wave could be much more devastating. But to us that's what appears to be the discounting mechanism right now.

And then of course, as we mentioned a couple times, when you look at the Federal Reserve, I won't belabor this because we've thrown these statistics at you a few times and you read them in the papers probably quite frequently. But when you see it on a graph and you see how extensive the balance sheet expansion is for the Federal Reserve and on top of that what the dotted line represents, the amount of spending that's been delivered through the CARES Act, you really do get a sense for the amount of money that's come into the market. Especially when you compare it to the amount of money that came into the market in 2008. Now the Fed balance sheet expanded over time, but the initial reaction of the Fed was much more muted compared to what we've seen recently.

We think this is interesting from a technical standpoint, the next slide. And that is even with the big correction in the market, the Fed has held, sorry, the market has held its long-term trend line. And we're not charters, so this isn't something that we spend a lot of time on. But if you ask a technical analyst to boil down the entire market into one chart or one explanation as to why they think the market is going to remain stablish-to-improving from here, this is the chart that we get when we ask this question.

And since 2009, through a number of different markets and corrections, the S&P has held that support line and it pretty much held that support line through this correction as well.

Shawn Eubanks: Larry what does it mean? I can see on this chart that the line didn't go through the trend line. What are we to make of that?

Larry Cordisco: Yeah we've asked a number of people about that. And uniformly, very consistently, what we get back is as long as that piercing of the trend line is a single event, as it would appear on this chart, and happens in a really exhaustive sort of panicked market, when you return the trend line and begin to hold the trend line, then the long-term trend is still intact. And that is exactly what's happened in this market. So again, it's just more evidence that the market, in its collective wisdom, is forecasting this to be something that we can get through.

When we look at the economy and the economic impact, and it's a bit scary when you look at it from a GDP basis in 2020 compared to 28, 2020 is a very different economy and a much more drastic selloff than 2008. But this is actually a good thing. 2008 was a long, drawn out, balance sheet financial crisis sort of recession that took 8 to 10 quarters for us to get back to trendline. To get back to our previous economy.

This is an exogenous event. This graph represents a very sharp decline in the current quarter with a rebound expected in the next quarter, in the third quarter. And in fact that rebound takes us to what really is the ongoing unknown, which is what is going to be the shape of the recovery?

The things we don't know is: How much weaker is the consumer? How quickly will jobs come back? How quickly will people go back to malls, movies, restaurant, and travel? We don't know what the actual decline in GDP is going to be. This slide was created when a lot of the estimates were around 25%. A lot of the estimates now are around 30% to 35% decline.

The decline probably doesn't matter as much as the recovery from the bounce back. So expectations are that the economy will recover, and there are quotes, there to a 10% decline year-over-year or so in the third quarter and then we're sort of in an unknown world. Is it a V-shaped recovery? Is it a U-shaped recovery? Is it an L-shaped recovery? At current levels, we think the market's somewhere between a V and a U. There's probably that swoosh sort of story we talked about earlier and, increasingly, we're sensing a lot of optimism that that recovery could be quite strong once momentum gets going.

And with that, John I'll let you talk about the overall, the broad Osterweis market view, and how we're responding.

John Osterweis: Yeah I mean the broad market view is, as Larry said, and we've said a couple of times already today, we don't really know what the shape of the recovery will be but we do think there will be a recovery, and it will be occasioned by some combination of a vaccine, a cure, herd immunity, whatever. We obviously, and endlessly, at this point, believe that in this environment the strong companies will continue to get stronger. And we're going to talk actually in some specific way about this in a second.

So what we've been doing, as I think you all sense, is using market dips to opportunistically accumulate positions in these leading dominant companies or these major disruptors, because we think this is the place to be now and going forward. Larry back to you.

Larry Cordisco: And so we were very active, or much more active than usual, during the first quarter. And what we were doing is selling companies that had some combination of leverage, longer-shaped recoveries, and potential exposure to diluted capital raises and possible government bailouts. And what we really wanted to make room for was companies that were established share leaders that were likely to accelerate those market share gains.

And all these companies that we are about to discuss have capital to get to the other side, many have very good dividends and growing dividends. And in fact, John, why don't you, on the next slide, talk us through the common attributes of our investment approach in how we look for companies and conceptually the types of companies that we're looking to invest in?

John Osterweis: Yeah. It's very easy. So number one, we're focused on market leaders or major disruptors. These are where we find companies with higher margins, greater cashflow, greater ability to reinvest, et cetera. Secondly, we want to focus on companies where there is identifiable, sustainable, and hopefully accelerating growth opportunities. Because obviously if a company is growing and you buy that stock at a reasonable price, it becomes hard to lose money as a company's growth ultimately makes the stock cheaper and cheaper relative to what one paid for it.

Third, we try to identify areas where we may have a variant view, a view that is more optimistic than the markets. And that's because the market often focuses on short-term problems or problems generally, and if we deem those problems to be short-term in nature and solvable, we can identify companies that have a higher actual growth rate than the market is expecting.

We also, in looking for these companies, want to focus on companies where there is a secular tailwind. Where we don't want to buy the best coal company, because coal is a declining industry. We want to find companies in industries that are, in fact, growing. And then finally we tend to concentrate our portfolios in the belief that there are only so many really great ideas out there, and there's no sense diluting a portfolio with a bunch of also-rans.

So that should give you a very clear idea of what we're doing, and we really are focused through this process on companies that have a measurable competitive advantage, and that we can buy at attractive valuations. And Larry maybe can amplify that a little bit.

Larry Cordisco: Yeah when you put that together, what we really like about this strategy is it creates across a portfolio, an asymmetry to the performance. The upside opportunities that we're focused on are typically multiples of what the downside risk is and that's because, as John said, our starting point is a universe of industry leaders and disruptors.

So basically you're starting with high quality companies. Within those companies you're looking for growth initiatives that aren't properly discounted in the share price. And therefore, if our growth thesis is wrong, we still own a very good company. And that's a lot of protection on the downside. And when you get the upside opportunity correct, you typically have multiple years of compounding the benefit of that growth initiative.

And that's why we typically have, and this year is a good example, have held up much better on the downside and we can participate on the upside. More specifically, if you want to look at the new positions we've put into the portfolio during the crisis, you'll see the consistency of the stories here with these companies being market leaders that were put on sale. And basically we saw a number of fat pitches that we decided to take a swing at.

What you see here is a framework, a window into our decision framework that we apply to all of our positions, but it's highly relevant to these ones. All of these are industry leaders, all are positioned well for shared gains, all have secular tailwinds to one degree or another. We spend a fair amount of time looking at balance sheet strength and ability to get to the other side, especially in March, when it wasn't, and it isn't, clear how long this will persist.

And we got a lot of these names at really attractive dividend yields. And we're not overly focused or primarily focused on dividend yields, but when you look at the balance sheets of these companies and the dividend yields, we saw a really strong margin of safety underneath our stock prices, part of the asymmetrical setup. And all of these companies are very well-positioned to grow these dividends over time. And then especially if you compare those dividend yields to the 10-year Treasury it's a very attractive yield.

Shawn Eubanks: Larry, you've obviously been talking a lot about market leaders, and this framework that you're showing here is really helpful in terms of showing how you identify these companies. But why is that attribute so important in terms of managing the downside risk and the portfolio overall?

Larry Cordisco: Well, all these companies, and we're a broken record on this but it's important, because these companies will grow faster, they have higher margins, they're more efficient, which basically means they have more money to reinvest in their business. And that more money goes to further operational improvements that further improve efficiency. Research and development for new products, the ability to hire the best people, it's a virtuous cycle that we think will continue to compound.

And so when you look at a great company's ability to sustain these investments versus a weaker competitor who can't, that's why we think the moats will expand over time and that's why we think that even with a transitory problem, which is basically one year of disruption to the economy hopefully, and again, if the market's correct, then even that one year disruption will have a meaningful impact to accelerating this trend.

And one thing, one area that we also think, this isn't a base case assumption for us, but one area where we think there's a lot of optionality is when you look at the leading company in any given sector, we think there's a lot of opportunity for multiple expansion over time as the moats widen. And John maybe this'll be a good opportunity to discuss that thesis and how we think about that opportunity.

John Osterweis: Well this is a trend that I think has been at work quietly over several years now in the market. And that is that these leading dominant companies have been trading at increasing valuations over time. For one thing, there's a scarcity value, there's only one or two leaders in any industry, and because they're such special companies, people want them and there is a scarcity value and so they get valued more highly.

There's a more technical explanation for that, and that is if you go back to the dividend discount model, the capital asset pricing model, the two things that are most important are: One, the growth rate of a company; and two, interest rates. If interest rates, as you know multiples, work inversely to interest rates. So the lower interest rates, the higher a multiple should go. Assuming that you've still got growth.

And so if you can identify a subset of companies that have sustainable and maybe even accelerating growth in an environment in which interest rates remain very low, that subset of companies should be trading at fairly high multiples. And we are talking a lot internally about whether in fact the market is heading towards another NIFTY 50 kind of era where the great companies really do stand out both operationally and fundamentally but also in terms of valuation. And if that is the case that that's where we're heading, to put it mildly, "You ain't seen nothing yet."

A multiple interest rate environment could be significantly higher than they are today. So I would stay tuned on that. I think that's going to become a major theme.

Shawn Eubanks: Thank you John. That's really interesting. Larry do you have any examples of where you see these kind of differentiations in the portfolio currently?

Larry Cordisco: Yeah. For the sake of time, Shawn, I'll only discuss Home Depot, but certainly we have, every single name in our portfolio has been designed with this kind of analysis, and that's a recent purchase of ours.

So Home Depot, everyone's familiar with it, and there aren't tons of options for hard line goods like that. But one of the big differentiators in their business is they always have emphasized better real estate locations. It's a more convenient store to get to. And now that they are investing pretty significantly in eCommerce, which has been a nice accelerator for their sales growth, about 30% of customers want to pick up in-store. Which basically widens the moat on their real estate position.

So as eCommerce takes off for Home Depot, a flavor of eCommerce for them is in-store pickup, and that's a moat expander and we would expect Home Depot to outperform the industry. That's a big part of our thesis going forward. So that's just one example. But every single name in our portfolio has some sort of story like that where we can link business fundamental outperformance to a competitive advantage.

And finally, the last slide here, we just wanted to touch on this in a little more detail, that the Osterweis portfolio, Osterweis Fund, outperformed very nicely during this correction. And this is as of April 30th, the performance date. A lot of this recent outperformance was generated through better downside capture and that ties directly to what we've been talking about with asymmetric positioning. Although we performed a bit better in the market in 2019, we are very happy with that, and it basically reinforces our goal of performing with the market on the upside and outperforming on the downside.

And with that, Shawn I can hand it back to you to take any questions in the webcast.

Shawn Eubanks: Okay. Thank you Larry. We do have a couple questions here. One, based on kind of the outperformance especially in the down markets year-to-date, we have a question here about the cash levels of the Fund. How important has that been or not been to kind of the outperformance on the downside?

Larry Cordisco: So I guess I'll take that. It has not been a big contributor. I mean certainly there were certain days and periods as we were re-jiggering the portfolio where cash got higher than it is now, and I think it's around 3.5% to 4% right now. I don't think it ever got above 11% if I remember that was the peak. And it was not at that level very long and we did not have some view of impending doom that got us to that level at the beginning of the correction.

So generally speaking, the downside protection that you can see is far more a function of the portfolio holdings themselves than any sort of bet on the market or cash position.

Shawn Eubanks: Thank you. Thank you. And have you seen any, I guess, significant redemptions in the mutual fund or the strategy throughout this volatile period?

Larry Cordisco: No we haven't. I think things have been very steady actually. I can't think of any large trades or anything that's out of the ordinary.

Shawn Eubanks: Okay.

John Osterweis: My sense is we're starting to see a few inflows actually so it's been a fairly stable strategy and getting inklings of inflows at this point.

Shawn Eubanks: And I have one last question, I know we're getting close to the hour, but any thoughts on inflation versus deflation going forward?

Larry Cordisco: John I'll let you handle that.

John Osterweis: We actually think a lot about this, and, as I think you know who read our stuff, we have been saying for some time that there are very strong deflationary forces within the economy. The two most obvious are globalization and the application of technology and technology itself. I think that the force of technology remains very, very strong and, as technology becomes a bigger and bigger part of the economy, it will certainly keep inflation down and may actually lead to some deflation.

I think short-term, the bet probably should be on deflation. Because, in order to get the economy rolling again, a lot of industries are offering discounts. I can think of hotels where you can get rooms for $99 that used to be $250 a night. I'm hearing about airplane seats, $300 to fly first class to the East Coast. So obviously there are "for sale" kind of prices in a number of parts of the economy at this point. Whether prices rebound and that causes a bit of inflation as a carry-on or carry forward, it's not clear.

But I think our fundamental bet here would be that inflation does not become a problem. That probably this era of relatively low inflation endures but I think very short term I think it's pretty clear we'll probably have some deflation.

By the way that means-

Shawn Eubanks: Thank you John.

John Osterweis: Oh that means interest rates stay low and multiples can remain high.

Shawn Eubanks: Good point. Okay thank you John and Larry. Any final comments?

John Osterweis: No I think we were pretty clear on the message. But we're both here if any of you have specific questions.

Larry Cordisco: Yeah I'd echo that. Any questions we're always available.

Shawn Eubanks: Sounds great. Thank you. And thanks everyone for joining us today.

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Osterweis Capital Management is the adviser to the Osterweis Funds, which are distributed by Quasar Distributors, LLC. [45534]