If you are beginning to feel the stock market has seasons as predictable as the weather, there is a reason. For three years running, the broad U.S. market has seen winning winters followed by spring to summer swoons. In the first four months of 2010 and 2011, the market gained +7% and +9% but gave it all back and more by fall, declining -11% and -16%. This year, once again the market started strongly before stumbling, rising +13% in the first three months of the year before giving half of those gains away in the next two months. (In 2012, the market stanched its losses with solid June returns.) Two prevailing explanations for this market history exist. The first is the market has been very sensitive and attuned to a volatile world economy, where strong signs of growth have appeared in the winter before troubles from Europe—and this year China—have caused a rational ratcheting down of expectations. We prefer the other explanation: the fundamentals of American companies are strong—even if growth is a bit tepid—but the unknowns and negative possibilities overseas have turned into outright fear each of the last three years. It seems a bit of a stretch to us to believe the value of U.S. businesses in aggregate has increased by a bunch early each year and then decreased so much three years in a row. All told, we think sentiment has been outdoing reason with odd regularity lately. In the second quarter of 2012, Ariel Fund returned -5.40%, trailing the Russell 2500 Value Index and the Russell 2000 Value Index, fell -3.02% and -3.01%, respectively.
Despite the negative quarter, we had some holdings that fared well in the last three months. Medical device manufacturer Symmetry Medical Inc. (SMA) leapt +21.36% due to improving fundamentals and a pair of new distribution agreements. First and foremost, the company announced its first quarter revenues had climbed 5% over last year's to $100.7 million, while simultaneously its debt had dropped from $274.2 million to $262.8 million. The company also announced its Symmetry Surgical subsidiary had completed agreements in Australia & New Zealand as well as Japan to distribute its leading medical device brands. Taken all together, we see a bunch of good news at a welcome time. Since the company appointed a new CEO in 2011 it has charted a slightly different course than it had previously—and that meant uncertainty for us as well as other investors. The stock remains inexpensive, so we are holding patiently to see what the new direction means for the company's long-term future. In addition, sports and media franchise Madison Square Garden Co. (NYSE:MSG) rose +9.47% as sentiment turned sharply in its favor. In 2011, the company had been under a dark cloud, largely due to the uncertainty of its television deals and the expensive transformation of its eponymous arena. Since it settled the television controversy earlier this year, the stock has climbed fairly steadily. The company's two major sports franchises, the New York Knicks and the New York Rangers, made the playoffs–and the Rangers made a deep run to the Eastern Conference NHL finals. The company did not make a huge amount of money off the extra games, but the unexpected post-season berths did give investors greater confidence that the teams were in good shape and could continue to serve as a powerful engine for future growth. We continue to believe the company is a bargain, especially on the basis of its unique assets.
Some of our positions struggled to keep pace with the market during the quarter. Commercial real estate specialists Jones Lang LaSalle Inc. (NYSE:JLL) and CBRE Group, Inc. (NYSE:CBG) fell -15.32% and -18.04%, respectively, in sympathy with the broad market. Over our long ownership of these stocks we have become well accustomed to the recent pattern. That is, these companies occupy an important, specialized niche in a global, secular growth area. Businesses increasingly prefer to outsource their real estate management, and Jones Lang LaSalle and CBRE are two of the very few companies equipped to handle the needs of multi-national companies. When short-term negativity takes hold, however, investors treat them simply as a proxy for the financial services sector. Lately, as gloom surrounding European sovereign debt and the banking system has spread, the stocks have fallen in concert with the market—but to a greater extent. We take a longer and more specific view. We have not seen any material signs of weakness in the businesses warranting the sell-off and see no evidence that the secular shift toward allowing experts to focus on corporate real estate is abating.
During the quarter we purchased two new companies and eliminated two positions in Ariel Fund. We purchased International Speedway Corp. (NASDAQ:ISCA), the leading promoter of motorsport events and activities in the U.S. A current holding in Ariel Discovery Fund, International Speedway has an unparalleled portfolio of racetracks across the country and the vast majority of its revenues come from NASCAR-sanctioned races, making the firm closely linked to the second-most watched sport in the U.S. The company recently opened a casino in Kansas City, which also highlights the value of its underappreciated assets, such as land holdings. We also initiated a position in Snap-On Inc. (NYSE:SNA), the leading manufacturer of tools and equipment for independent auto repair centers. We currently hold this company in Ariel Focus Fund and a temporary drop in price allowed us to add it to this portfolio. We exited our positions in battery maker, Energizer Holdings, Inc. (ENR) as well as global security provider Brink's Co. (BCO), in order to pursue more compelling opportunities.
While the markets have been fixated on the European debt crisis, we think they have been underemphasizing a much bigger shift: energy commodity supplies and prices. As Morningstar's Heather Brilliant points out: "changes in the price of gasoline are more likely to have a material impact on U.S. GDP than what happens with European or Chinese demand for U.S. exports." As you know, gasoline prices fell considerably this quarter, from an average of $4.00 per gallon to $3.50 per gallon. A one-cent change in the price of a gallon of gasoline means $1 billion in consumer spending over the course of a year. So expectations for consumer spending are now $50 billion higher than they were just three months ago. On its own, that is significant. What we find even more interesting and exciting is the falling price comes partially from enormous recent changes in petroleum supplies— specifically in the United States. A recent Wall Street Journal story began: "America will halve its reliance on Middle East oil by the end of this decade and could end it completely by 2035." A lot has changed
since 2009 when alarmists predicted $250 barrels of oil, rapidly falling production, and a complete lack of petroleum just a few decades in the future. Again and again over the course of human history, technological change has led to the discovery of new sources of energy. Currently, new drilling techniques mean we can extract natural gas and oil from fields that were once too difficult or prohibitively expensive to drill. The shift has been enormous. For instance, the Bakken Shale field in North Dakota is far more productive, catapulting the state from the ninth biggest oil-producer in the union in 2006 to the number two slot today— surpassing Alaska but still behind Texas. Similarly, we are also starting to experience a potential seachange as low natural gas prices and huge supply are prompting many to consider swapping it for petroleum. Underlying Ariel's optimism are two key truths. First, an expanded supply is a long-lasting change unlike the constantly shifting demand picture. Second, when on the cusp of a transformative energy breakthrough, human beings have tended to underestimate the positive change rather than overestimate it. As long-term investors who focus on intrinsic value, we are pleased with the opportunities the current imbalance produces: namely, today's negative sentiment stems from fluctuating short-term factors, while the multidecade fundamentals for economic growth are improving rapidly and significantly.
This commentary candidly discusses a number of individual companies. These opinions are current as of the date of this commentary but are subject to change. The information provided in this commentary does not provide information reasonably sufficient upon which to base an investment decision and should not be considered a recommendation to purchase or sell any particular security.
As of 06/30/12, Symmetry Medical Inc. comprised 1.5% of Ariel Fund; Madison Square Garden Co. 2.3%; Jones Lang LaSalle Inc. 3.3%; CBRE Group, Inc. 2.9%; International Speedway Corp. 2.0%; Snap-On Inc. 1.0%; Energizer Holdings, Inc. 0.0% and Brink's Co. 0.0%. Portfolio holdings are subject to change. The performance of any single portfolio holding is no indication of the performance of other portfolio holdings of Ariel Fund.
One of Ariel Fund's benchmarks has been changed from the Russell 2500 Index to the Russell 2000 Value Index as the Adviser believes the new index is more indicative of the market capitalization and style profile of the fund. The Russell 2500™ Value Index measures the performance of the small to midcap value segment of the U.S. equity universe. It includes those Russell 2500 companies with lower price-to-book ratios and lower forecasted growth values. The Russell 2000® Value Index measures the performance of the small-cap value segment of the U.S. equity universe. It includes those Russell 2000 companies with lower price-to-book ratios and lower forecasted growth values.
Investors should consider carefully the investment objectives, risks, and charges and expenses before investing. For a current prospectus or summary prospectus which contains this and other information about the funds offered by Ariel Investment Trust, call us at 800- 292-7435 or visit our web site, arielinvestments.com. Please read the prospectus or summary prospectus carefully before investing. Distributed by Ariel Distributors, LLC, a wholly-owned subsidiary of Ariel Investments, LLC.