The Hickory Fund returned +5.26% in the second quarter compared to +7.50% for the Russell Midcap Index. Year to date, the Fund has returned +14.42% compared to +16.25% for the index.
Over much of the past year, predictions of a powerful economic rebound were reflected by the strong performance in equity markets. These predictions were borne out by both corporate earnings and economic data released during the second quarter. The portfolio produced solid gains across most holdings, led by core positions in Liberty Broadband (LBRDA, Financial) (broadband internet), LKQ Corp (LKQ, Financial) (recycled auto parts) and LabCorp (LH, Financial) (medical testing and research). Everarc (LSE:EVRA, Financial) announced its planned purchase of Perimeter Solutions, a maker of firefighting products and specialty lubricants, but investors generally seemed to take little notice (we, on the other hand, are eager to learn more). Enthusiasm for acquisition vehicles has waned, and Everarc’s decline made it the Fund’s top detractor for the quarter. Other portfolio detractors were more modest. The “reopening” trade still dominates the narrative for year- to-date returns, led by LICT Corp (LICT, Financial) (telecom services), LKQ Corp and CarMax (KMX, Financial) (used auto dealer). Enterprise software companies like Guidewire (GWRE, Financial), Black Knight (BKI, Financial) and CoStar Group (CSGP, Financial) remain year-to-date detractors, though each produced a positive return during the second quarter.
Amid these strong second-quarter results, investors now confront new questions. Will higher inflation be structural or transitory? Will faster economic growth and/or higher inflation force the Federal Reserve to ease up on its stimulative monetary policies, or will the Fed potentially outright tighten earlier than expected? If interest rates continue to move higher, how does that impact price-to-earnings (P/E) multiples for stocks? Will the spread of the Delta variant of COVID-19 derail the global recovery?
We, too, wrestle with such “macro” questions, but our analysis on such issues inevitably leads back to our core principals. Namely, by focusing our research efforts on quality businesses, we seek to identify companies capable of compounding business value for years to come, regardless of the “macro” environment. Further, by acquiring shares in such companies at a discount to our business value estimates, we hope to capture additional return as others see what we see, or to create a cushion in case the future does not line up exactly with our view (whether for company -specific or “macro” factors). We believe this process, which we describe as Quality at a Discount (QuaD) investing, helps deliver portfolios built for all seasons.
Our two portfolio additions in the quarter, MarketAxess (MKTX, Financial) and Dun & Bradstreet (DNB, Financial), are strong examples of our QuaD approach in action. MarketAxess is the leading electronic trading platform (ETP) for corporate bonds. Our fixed income teammates are long- time, satisfied clients, so we know the core service well. Although ETP market share has increased significantly in recent years, most trades are still executed through legacy, voice-based systems. For their part, MarketAxess maintains dominant (~80%) market share in the electronic trading of U.S. investment-grade, U.S. high-yield, and emerging market corporate and sovereign bonds, but electronic trading comprises a minority of the overall market activity. Electronic trading improves liquidity and efficiency in the market, advantages that particularly shine during periods of market duress (historically demonstrated by accelerated market share gains). With a long runway of continued “electronification” in their core markets and potential adjacent asset classes to meaningfully enter, we see a long runway for growth.
Dun & Bradstreet collects and provides proprietary data used by businesses to understand the credit risk of their counterparties, a service somewhat analogous to the more familiar credit scores for consumers. Prior management rested upon the laurels of this essential service, and necessary reinvestment was neglected until the business was ultimately sold in 2019. Under new management, led by Chairman Bill Foley and CEO Anthony Jabbour, Dun & Bradstreet has moved quickly to modernize its technology, improve its sales and contracting practices, invest in new data and capabilities that enhance its value to customers, and evaluate potential acquisitions that can boost each of these efforts.
Our positive experience with Black Knight (Foley and Jabbour are Chairman Emeritus and CEO, respectively) bolsters our confidence in the efficacy of these efforts, despite the market adopting a “wait and see” approach.
Exiting the portfolio this quarter were our remaining holdings of Box (BOX, Financial) and Summit Materials (SUM, Financial), as both approached our estimation of business value. All else being equal, we believe the net of these activities results in an improved portfolio price-to-value (P/V) outlook and an uptick in the overall Weitz Quality Score for the portfolio, both of which we believe improve the outlook for future portfolio returns.
The opinions expressed are those of Weitz Investment Management and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through 07/22/2021, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor's specific objectives, financial needs, risk tolerance and time horizon.
Data quoted is past performance and current performance may be lower or higher. Past performance is no guarantee of future results. Investment return and principal value of an investment will fluctuate, and shares, when redeemed, may be worth more or less than their original cost. Please visit weitzinvestments.com for the most recent month-end performance.
