The Fund increased 3.74% (Class I) during the quarter, compared to a 4.87% increase in the Russell 3000 Index.
During the quarter, the Fund’s holdings in the energy, financial, and industrials sectors provided the largest contribution to absolute return. Holdings in the health care and consumer discretionary sectors detracted from return.
The Fund’s underperformance relative to the Russell 3000 Index was primarily the result of security selection in the health care and consumer discretionary sectors. Security selection in the industrials and energy sectors contributed to relative return.
Best Performers
•Oil and gas exploration and production company Cimarex Energy Co. (XEC) rose as a result of an improving outlook for domestic oil prices as well as continued strong operational results in core areas. In addition, the company continued to see strong results as it tests the resource potential associated with its acreage position in the Delaware Basin.
•Freight transportation management company Hub Group, Inc. (HUBG) rose as investors began to focus on margin improvement opportunities due to indications of improving intermodal pricing as well as company-specific cost improvement initiatives.
•Mobile communication and media device company Apple, Inc. (AAPL) reported strong earnings with revenue growth and healthy gross margins, primarily as a result of better than expected iPhone sales.
•Networking and communications company Cisco Systems, Inc. (CSCO) outperformed as it reported earnings and guidance that were better than consensus expectations. The company’s gross margins improved, which we believe is a sign that the business is stabilizing.
•Oil and gas exploration and production company EOG Resources, Inc. (EOG) rose during the quarter as a result of an improving outlook for domestic oil prices as well as continued strong operational results in core areas. In addition, EOG announced encouraging results from new oil projects in the Rockies, which we believe will add resources and lend confidence in sustainable strong growth rates.
Worst Performers
•Discount apparel retailer TJX Cos., Inc. (TJX) declined after mixed results from the first quarter. Sales grew 5% year-over-year and inventory was well controlled, but North American store traffic was weak, and the company’s merchandise margin contracted. Despite near-term headwinds, we continue to believe that the company remains well positioned given the value, branded product offering, and convenience it offers customers.
•Shares of diversified information technology company International Business Machines Corp. (IBM) declined during the quarter as investors continued to worry about the company’s ability to grow revenue, particularly in China and other emerging markets. We continue to have a favorable view of the company’s long-term competitive position.
•Medical device manufacturer Boston Scientific Corp. (BSX) reported solid earnings for the first quarter but investors focused on near-term headwinds in the cardiac-rhythm management business. The company also announced a delay in potential approval for its Watchman’s heart device. Given the breadth of the company’s pipeline, potential for margin upside, and attractive valuation, we continue to like the outlook for the shares going forward.
•Shares of pharmaceutical company Pfizer, Inc. (PFE) declined after multiple attempts to merge with UK competitor AstraZeneca ultimately failed.
•Household durables manufacturer Whirlpool Corp. (WHR) struggled in the quarter as the company made some cautious comments regarding volumes for the period pushing growth into the second half of the year.
New Positions
We initiated new positions in several companies during the quarter.
Global life insurer MetLife, Inc. (MET) was trading at a significant discount to our estimate of its intrinsic value due to uncertainty regarding capital requirements that may result from MetLife being designated as a non-bank “systemically important financial institution” (SIFI). In addition, the stock price did not seem to reflect the steady improvements in MetLife’s risk profile since CEO Steve Kandarian took over in 2011. We purchased shares of Twenty-First Century Fox, Inc., (FOXA) a global media content company that monetizes a variety of sports and general entertainment content via a number of different global channels including broadcast TV, cable TV and movies. Fox split from News Corp in 2013 making it a pure play TV and movie content company which we believe deserves a premium valuation due to its future growth prospects. Fox is well positioned to expand its sports and general entertainment content in the U.S. and in international markets which should lead to higher revenue growth and an increase in operating margins going forward. We also believe Fox’s management will be prudent with its capital allocation strategy and will use its free cash flow to repurchase shares and invest in secular growth opportunities. We initiated a position in Valeant Pharmaceuticals International, Inc., (VRX) a specialty pharmaceutical company that is a leader in eye care and dermatology. Unlike most in the pharmaceutical space, Valeant has a very lean cost structure and a much more targeted focus for internal research and development. Instead, the company has been very successful in acquiring proven products. Management is among the best in the business, making every decision through the lens of shareholder value creation.
Eliminated Positions
We eliminated our position in investment brokerage firm Morgan Stanley (MIDZ) as the price neared our intrinsic value estimate to fund the purchase of more attractive opportunities. We sold our shares of medical supply manufacturer Baxter International, Inc. (BAX) after we marginally lowered our intrinsic value estimate to reflect an increased likelihood of more meaningful competition for its Hemophilia franchise. This resulted in an insufficient discount to our estimate of intrinsic value, and we exited the position. We eliminated our position in consumer products manufacturer General Mills, Inc. (GIS) as we were disappointed with challenging industry conditions in several of General Mills’ categories.
