Broad uncertainty about economic growth – in the U.S., China, and most prevalently in Europe – weighed down global stock markets over the last three months. The S&P 500 was down 2.8%; the Russell 2000 lost 3.5%; and non-U.S. markets took a bigger hit as EAFE declined 7.1%. While the Small-Cap Fund appreciated in the quarter, Partners and International declined. These results reversed the relative standing of each Fund for the year-to-date, leaving Small-Cap ahead of the Russell 2000 but Partners and International behind their benchmarks.Within the indices and Southeastern's portfolios, stocks tied to broad economic expansion such as commodities,materials, and industrials suffered. However, most of our holdings' appraisals grew or were little changed, because our models already assumed slow growth over the next few years and revenue declines in Europe through 2014. With the recent market schizophrenia, we trimmed holdings that had approached their values or become overweight. Conversely, as certain stocks declined relative to their appraisals, we added, as did a number of our management partners. We also identified a few new qualifiers, primarily in names we have previously owned, where we typically have a deeper knowledge.
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Portfolio Discussion Norms Volatile quarterly performance often accompanies concentrated investing. Over Southeastern's almost four decades, the twenty or so positions we have owned at any given point have fallen into three categories in client discussions. The first are those holdings that are rarely mentioned because their gains make them obvious winners such as DirecTV (DTV), FedEx (FEDX), DineEquity (DIN), tw telecom (TWTC), Fairfax (FFH), or Vodafone (VOD) today. Most names fall into the second category, which also receives little attention. These companies generally are meeting operating expectations, but their stocks have not appreciated significantly. The large majority of discussion focuses on the third category, the few names that are in the penalty box at the time either because of real or perceived business challenges or management issues often highlighted in headlines. We expect and welcome discussing holdings that are most out of favor. We think it is important, however, to put those names in the context of what is normal within our investment approach. We will not be right on every investment. Over the long run if we are right on two-thirds of our picks, and wrong without losing substantial permanent capital on the other third, we can achieve our inflation plus 10% goal as long as we adhere to our margin of safety discipline. Given portfolio discussion norms, we will not elaborate here on Disney, Travelers, Abbott, Texas Industries, tw telecom, Vail Resorts, Scripps Networks, and Henderson Land – the largest contributors to second quarter performance. Instead, we review the recent events, investment case, and broader lessons from our most controversial name. Although Chesapeake Energy is only in the Partners Fund, its recent visibility has generated discussions with shareholders across the three Funds. Continue Reading »