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We believe that value opportunities arise

March 07, 2008

HOTCHKIS AND WILEY had a bad year, similar to many other value Gurus. This is their shareholder letter: "Turmoil in the US mortgage and credit markets continued to create a

volatile environment for US equities during the last six months of 2007."

Several banks and capital market firms took write-downs tied to mortgage-backed securities and loans to fund leveraged buyout transactions that were delayed or canceled. Changes in top management personnel often ensued. Indeed, some financial institutions posted the first quarterly losses ever endured in their long histories, and raised capital from outside (usually foreign) sources. With the lending climate nearly frozen, the housing sector worsened still further. Worries about a 2008 recession became prominent in investors’ minds. Financial and consumer stocks took the brunt of this, falling sharply. Meanwhile, hope remained that global economic growth, combined with a very weak US dollar, would pull forward industries and companies with such exposure. Gold hit a 27-year high, and crude oil prices set an all-time record. Stocks in the energy, commodity and global industrial areas finished up a remarkable year.

We believe that value opportunities arise as the market takes the current state of affairs and extrapolates these trends too far into the future. However, over longer periods of time, the laws of economics should come into play. Expectations can be influenced by short-term headline news and emotion, and prices can become inefficient. Over the longer run, stock prices are driven by long-term earnings power and risk. As a manager, it is our objective to improve the valuation of the portfolios during periods of irrational pricing. Over the past months we have shifted the portfolios out of areas that have benefited from price momentum and reinvested into areas that are out of favor. Based on these actions, we feel the Hotchkis and Wiley portfolios currently represent exceptional value.

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