The Dodge & Cox Stock Fund had a total return of 1.8% for the second quarter of 2017, compared to 3.1% for the S&P 500 Index. For the six months ended June 30, 2017, the Fund had a total return of 6.8%, compared to 9.3% for the S&P 500.
Investment Commentary
The U.S. equity market continued to climb during the second quarter: the S&P 500 reached an all-time high in mid-June and ended the period up 3%. For the first six months of 2017, the S&P 500 posted its strongest first half since 2013—up 9%. Solid U.S. corporate earnings growth combined with expectations of improved economic growth have boosted equity market returns and propelled U.S. equity valuations toward the high end of the historical range. While we have adopted a more tempered return outlook for the overall market, we remain optimistic about the long-term prospects for the Fund’s portfolio, which is value oriented and trades at a discount to the market (15.4 times forward earnings compared to 18.6 times forward earnings for the S&P 500 as of June 30) . As a result of individual stock selection, the Fund holds 63 companies across nine sectors and has an emphasis on Financials, Health Care, and Information Technology.
Despite higher market valuations, we continue to find pockets of value offering attractive long -term investment opportunities. For example, we recently added to several Health Care holdings in the Fund, including Express Scripts (the largest pharmacy benefit manager in the United States). We also added to selected Energy holdings amid lower valuations in that sector. Over the past six months, oil prices dropped 16%, weighing heavily on the outlook for profitability and growth for the Energy sector. Thus, it was the worst performing sector of the S&P 500. However, while the short-term direction of oil prices is difficult to forecast, we believe the long-term fundamentals of supply and demand point to higher prices. We added to the Fund’s holdings of Anadarko Petroleum (an independent oil and gas exploration and production company) and Schlumberger (the world’s leading provider of oil services for drilling, production, and processing), among other holdings.
At Dodge & Cox, we make high-conviction investment decisions and portfolio changes gradually and deliberately based on our three- to five-year investment horizon. We approach each investment from the perspective of being a long -term part owner of a business. Therefore, the Fund has historically had low portfolio turnover, and 2017 has been exceptionally low with 4% turnover in the first half.
Looking forward, we believe the Fund is well positioned and continue to see evidence of higher economic growth, rising interest rates, and increasing corporate earnings, which would benefit the Fund’s investments. We thank our fellow shareholders for your confidence in Dodge & Cox.
Second Quarter Performance Review
The Fund underperformed the S&P 500 by 1.3 percentage points during the quarter.
Key Detractors From Relative Results
Returns from holdings in the Energy sector (down 15% compared to down 6% for the S&P 500 sector), combined with a higher average weighting (8% versus 6%), detracted from results. Anadarko Petroleum (down 27%), National Oilwell Varco (down 18%), and Schlumberger (down 15%) were particularly weak.
The Fund’s holdings in the Information Technology sector (up 1% compared to up 4% for the S&P 500 sector) hindered relative performance. Hewlett Packard Enterprise (down 6%) lagged.
Returns from holdings in the Financials sector (up 2% compared to up 4% for the S&P 500 sector) hurt results. Key detractors included Capital One Financial (down 4%) and Goldman Sachs (down 3%).
Twenty-First Century Fox (down 13%) also detracted.
Key Contributors to Relative Results
The Fund’s holdings in the Health Care sector (up 9% compared to up 7% for the S&P 500 sector) augmented returns. Alnylam Pharmaceuticals (up 56%), Cigna (up 14%), Novartis (up 12%), and Sanofi (up 8%) were standout performers.
Liberty Interactive-QVC (up 23%) and FedEx (up 12%) were also key contributors.
Year-to-Date Performance Review
The Fund underperformed the S&P 500 by 2.5 percentage points year to date.
Key Detractors From Relative Results
The Fund’s average overweight position (29% versus 14%) and holdings in the Financials sector (up 4% compared to up 7% for the S&P 500 sector) hurt relative performance. Goldman Sachs (down 7%) and Capital One Financial (down 4%) lagged.
Poor returns from the Fund’s holdings in the Energy sector (down 21% compared to down 13% for the S&P 500 sector), combined with a slightly higher average weighting (8% versus 7%), detracted from results. Anadarko Petroleum (down 35%), Apache (down 24%), and Schlumberger (down 21%) were especially weak.
Outstanding performance from several large internet and technology stocks not held by the Fund (e.g., Facebook, Amazon, Apple, Netflix) boosted S&P 500 returns and hurt the Fund’s relative results. The negative impact was particularly significant in the Information Technology sector (up 12% compared to up 17% for S&P 500 sector), which was the strongest area of the market.
Key Contributors to Relative Results
The Fund’s average overweight position (19% versus 14%) and holdings in the Health Care sector (up 17% compared to up 16% for the S&P 500 sector) enhanced performance. Alnylam Pharmaceuticals (up 113%), AstraZeneca (up 29%), Cigna (up 26%), and Sanofi (up 21%) were particularly strong.
Returns from holdings in the Telecommunication Services sector (down 3% compared to down 11% for the S&P 500 sector) helped relative results.
Charter Communications (up 17%) also contributed.
1 The Fund’s total returns include the reinvestment of dividend and capital gain distributions, but have not been adjusted for any income taxes payable by shareholders on these distributions or on Fund share redemptions. Index returns include dividends but, unlike Fund returns, do not reflect fees or expenses. The S&P 500 Index is a market capitalization-weighted index of 500 large capitalization stocks commonly used to represent the U.S. equity market.
