Market Overview
In the third quarter of 2015, the MSCI EAFE Index declined 10.23%. In Europe, the German DAX dropped 11.57% and the French CAC 40 Index fell 6.82%. In Japan, the Nikkei 225 Index decreased 12.21% over the period. Crude oil fell 24.18% to $45.09 a barrel, and the price of gold fell 4.78% to $1,116 an ounce. The U.S. dollar weakened 2.17% against the yen and weakened 0.18% against the euro. Longtime investors in our portfolios know that we have been concerned for years about the financial repres-sion by central bankers as well as the long-term impact of artificially low interest rates. We have recently seen signs that others are beginning to focus on these matters.
In recent commentaries, we’ve written extensively about China, which continues to have a major impact on the global economy. During the third quarter, Chinese policymakers started to exhibit behavior that concerned us. When China’s equity market col-lapsed, policymakers tried to prop it up at high valuations. Then they let their currency devalue. And then, out of fear that they were losing control of market perceptions, they stepped back in and tried to support their currency to the tune of $100 billion in a month. This was really the first time that we have seen a material drawdown in China’s foreign exchange reserves.
People talk about a transition to consumer-led growth in China, but in a period of falling company profits, where will this growth come from? If wages are raised, the pressure on margins can only increase. The sole way to fund greater consumer spending will be more debt, whether at the household level or at the central government level. The Chinese face a difficult choice between undergo-ing a deflationary contraction and taking on leverage in other sectors of their economy. Now that China has built its cities, there’s a distinct risk that it will shift to more populist policies.
Commodity prices fell in the third quarter, and U.S. long-term inflation expectations came down to levels we haven’t seen since 2009. Clearly, the bond market is not buying the story of an acceleration in growth and inflation in what is viewed as the world’s most resilient economy. And if inflation expectations are falling in the United States, the picture for the world outside the U.S. is pretty bleak.
There are also growing challenges from ISIS. Europe faces the prospect of millions of immigrants—a huge policy dilemma for a group of countries that does not have a coordinated foreign policy. The instability we see in the Middle East may still be in its early days. Looking ahead three to five years, the ramifications for energy markets could be dramatic.
There are also some brighter spots in the world, such as Latin America. Brazil has been in a serious decline for some time, but its currency and its bond market are getting to levels where they may start to present opportunities. We have talked in the past about the appeal of Mexico. So we are spending a bit more time on Latin America, even though it hasn’t really surfaced in the portfolio yet.
Portfolio Review
For us, the third quarter was satisfying in the sense that we saw a bit of risk aversion coming back into the markets, but it was also somewhat frustrating. Although the portfolio held up well in relative terms, our absolute returns were weaker than we would have liked. That’s largely because we remained in a late-cycle equity market environment that was quite narrow. In this kind of market, what has momentum generally doesn’t have a lot of value, and what has value generally doesn’t have a lot of momentum.
The five leading contributors to performance in the third quarter were Italcementi (MIL:IT, Financial), KT&G Corporation (XKRX:033780, Financial), Deutsche Wohnen (XTER:DWN, Financial), KIA Motors (XKRX:000270, Financial) and Italmobiliare. Shares of Italy’s Italcementi advanced on news of the company’s acquisition by Germany’s HeidelbergCe-ment. In the case of South Korea’s KT&G, investors gained confidence that the company’s earning power would not be reduced by a higher government cigarette tax. Weakness in the South Korean won was favorable for the country’s exporters because it may lower the prices buyers in overseas markets pay for their products. Hence, the uptick in the shares of Kia Motors.
The most material negative contributors during the quarter were Grupo Televisa, FANUC, SMC, Potash Corporation of Saskatch-ewan and Sompo Japan Nipponkoa Holdings. Mexico’s Grupo Televisa was a security that held up in local-currency terms but lost ground in dollar terms because of weakness in the Mexican peso. FANUC and SMC are Japanese industrial automation companies that have been very good for the portfolio since we invested heavily in that space during the credit crisis. The companies are per-ceived as economically sensitive and, not surprisingly, their shares were weak during the quarter. Lower commodity prices took a toll on Canada’s Potash Corporation, and Sompo, a Japanese insurer, sold off because of the equities it holds on the asset side of its balance sheet.
We appreciate your confidence and thank you for your support.
Sincerely,
First Eagle Investment (Trades, Portfolio) Management, LLC
The performance data quoted herein represents past performance and does not guarantee future results. Market volatility can dramatically impact the fund’s short-term performance. Current performance may be lower or higher than figures shown. The investment return and princi-pal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Past performance data through the most recent month end is available at www.feim.com or by calling 800.334.2143. The average annual returns for Class A Shares “with sales charge” of First Eagle Overseas Fund give effect to the deduction of the maximum sales charge of 5.00%.
Effective close of business on May 9, 2014, the First Eagle Overseas Fund is closed to certain new investors. Please see the prospectus for more information. *The annual expense ratio is based on expenses incurred by the fund, as stated in the most recent prospectus.
There are risks associated with investing in funds that invest in securities of foreign countries, such as erratic market conditions, economic and political instability and fluctuations in currency exchange rates.
Investment in gold and gold related investments present certain risks, and returns on gold related investments have traditionally been more volatile than investments in broader equity or debt markets.
The principal risk of investing in value stocks is that the price of the security may not approach its anticipated value or may decline in value. All investments involve the risk of loss.
The holdings mentioned herein represent the following percentage of the total net assets of the First Eagle Overseas Fund as of September 30, 2015: Grupo Televisa 1.81%, Fanuc Corp. 1.76%, SMC Corp. 1.40%, Potash Corporation of Saskatchewan 1.06%, Italcementi 0.56%, Kia Motors 1.08% and KT&G Corp. 1.50%, Sompo Japan Nipponkoa Holdings 1.58%, Deutsch Wohnen AG 1.00%, Italmobilaire 0.25%, HeidelbergCement AG 1.77%. The portfolio is actively managed and holdings can change at any time. Current and future portfolio holdings are subject to risk.
The Fund may invest in gold and precious metals through investment in a wholly- owned subsidiary of the Fund organized under the laws of the Cayman Islands (the “Subsidiary”). Gold Bullion and commodities include the Fund’s investment in the Subsidiary.
The commentary represents the opinion of the Global Value Team Portfolio Managers as of September 30, 2015 and is subject to change based on market and other conditions. The opinions expressed are not necessarily those of the entire firm. These materials are provided for informational purpose only. These opinions are not intended to be a forecast of future events, a guarantee of future results, or investment advice. Any statistics contained herein have been obtained from sources believed to be reliable, but the accuracy of this information cannot be guaranteed. The views expressed herein may change at any time subsequent to the date of issue hereof. The information provided is not to be construed as a recommendation or an offer to buy or sell or the solicitation of an offer to buy or sell any fund or security.
The MSCI EAFE Index is an unmanaged total return index, reported in U.S. dollars, based on share prices and reinvested net dividends of approximately 1,100 compa-nies from 21 countries and is not available for purchase.
The Index is unmanaged, and the results include reinvested dividends and/or distributions but do not reflect the effect of sales charges, commissions, account fees, expenses or taxes.
Investors should consider investment objectives, risks, charges and expenses carefully before investing. The prospectus and summary prospectus contain this and other information about the Funds and may be obtained by contacting your financial adviser, visiting our website at www.feim.com or calling us at 800.334.2143. Please read our prospectus carefully before investing. Investments are not FDIC insured or bank guaranteed, and may lose value.
