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Horizon Kinetics has stood out in what has been a brutal year for stocks – boasting several mutual funds that returned more than 40% in 2018. Four of the five under-the-radar stocks on the 2022 list of best-performing equity mutual funds are New York City-based stocks, according to Morningstar. The firm’s flagship Kinetics Paradigm fund, which has $1.2 billion in assets under management, is up 40% this year and has averaged an annualized return of 9.7% over the past 15 years. James Davolos, a portfolio manager at Horizon Kinetics with an MBA from the NYU School of Business, says the secret to market volatility is finding “strong assets” that can benefit from inflation, such as energy, real estate and precious metals. For example, the Kinetics Paradigm Fund, under the Canadian energy name Tourmaline Oil, has increased by 80% this year. A hard security “provides a tangible, finite inelastic asset of demand … it has a really strong demand profile throughout the entire market cycle,” Davolos said. “When you have an inflationary market, especially supply-driven and in this case money-driven, these assets tend to perform better.” Investors have struggled with rapid inflation since the early 1980s, although the fever has finally shown signs of breaking recently. Meanwhile, the Federal Reserve has launched its most aggressive tightening policy in 40 years to drive down interest rates, putting more pressure on risk assets, particularly high-value growth stocks. The S&P 500 is down about 19 percent this year, excluding reinvested dividends. Kinetics of Royalty Companies focuses on solid assets, but that doesn’t mean every candidate will appear in Kinetics’ portfolio. Davolos said he tends to stay away from companies that require a lot of capital. For example, a gold mining company spends a lot of money to develop its resources. Instead of buying a miner, Kinetics supports royalty companies for precious metals that collect a portion of the revenue from the resources the miner develops. As a result, Kinetics owns a large stake in the valuable metals royalty company Franco-Nevada. “We layer a quality business model on top of solid asset exposure,” Davolos said. “All these companies use the underlying market…[and] They have a much better business model and unit economics.” Paradigm Fund’s largest position is in Texas Pacific Land, one of the largest landowners in Texas. The company, which Kinetics has owned since 1995, is exposed to two types of solid assets. – Land and oil and gas. Royalties. Raw, undeveloped land has been an extremely appreciative asset for hundreds of years of inflationary cycles, Davolos said, and I think that’s an underestimation because he has about a million acres of surface land. Revenue from oil and gas production is in addition to his mineral acres. Berkshire Road At its core, Kinetics is a long-term value investor. But instead of using traditional value indicators like the price-to-earnings ratio, Davolos chooses companies with high earnings. But set value is a “capital light” business. “You have high operating margins, and the business is going to grow in size.” “That way, in tough situations like this year’s inflation, you’ll see an improvement in profits,” Davolos said. When the manager first joined the firm 15 years ago, he was introduced to the book by Benjamin Graham, widely known as the “father of value investing,” and a mentor to Warren Buffett. Davolos said Berkshire Hathaway’s value investing philosophy is ingrained in Kinetics’ DNA. We will,” Davolos said. Kinetics’ high performance comes at a high cost. The Paradigm Fund and the Small Cap Opportunities Fund both charge an expense ratio of 1.64%. Morningstar called Kinetics’ fee weakness and a “significant obstacle to clearing.”
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