While it was another terrific quarter for global equities, the tables turned just a bit during the 2nd quarter with the growth and tech component of the market regaining some of the ground lost to value in the previous two quarters. That said, since the “great rotation” began in earnest back in the 4th quarter of last year, the value component of the Tweedy Funds’ benchmark indices remains well ahead of its growth counterpart, and this is also evidenced by the returns of all of the Tweedy, Browne Funds, but for the Worldwide High Dividend Yield Value Fund.
For the nine months ending June 30, 2021, all Funds, with the exception of the Worldwide High Dividend Yield Value Fund, outperformed their respective benchmark indices with cumulative returns ranging from 23.63% to 29.71% (see chart below). However, only our flagship fund, the International Value Fund*, was able to best its benchmark in the 2nd quarter, as growth and tech-oriented equities regained market leadership in the latter half of the quarter.
Since the pandemic lows of well over a year ago in late March of 2020, the Tweedy Funds, while trailing their respective benchmarks, have risen like a phoenix alongside the global economy producing cumulative returns of between 55.87% and 67.99%. While we would rather focus on the strength of the Funds’ absolute returns over the last several quarters than the growth versus value debate, the rotation is a welcome respite for value investors, and, in our view, may very well be sustainable. More on that later in this report.
Returns in the Tweedy Funds during the quarter were led by strong results in a number of the Funds’ interactive media, food, beverage, pharmaceutical, and industrial holdings. As “big tech” bounced back in the latter half of the quarter, Alphabet (GOOG, Financial)(GOOGL) (Google), the largest holding in both the International Value and Value Funds, produced a very robust return. With economies reopening around the world, the Funds’ food and beverage holdings rebounded, with Nestlé (XSWX:NESN, Financial), Unilever (UN, Financial), Heineken (XAMS:HEIO, Financial), Diageo (DEO, Financial), and Coca-Cola FEMSA (KOF, Financial) all delivering solid returns. The Funds’ pharma and health care holdings were strong contributors during the quarter as Roche (XSWX:ROG, Financial), GlaxoSmithKline (GSK, Financial), Astellas Pharma (TSE:4503, Financial), and Fresenius (FMS, Financial) all had strong returns. A number of industrials also continued to compound, including CNH (CNHI) and Carlisle (CSL), and several rebounded, including Babcock International (LSE:BAB), Johnson Service (LSE:JSG), and Tarkett (XPAR:TKTT), which became the subject of a management-led buyout offer that we publicly acknowledged as insufficient in our view. In addition, a number of the Funds’ financial holdings, including bank and diversified financial holdings, Wells Fargo (WFC) and Berkshire Hathaway (BRK.A)(BRK.B), had a strong quarter.
While most of the Funds’ holdings once again performed well for the quarter, there were some disappointments. This included a modestly negative return in the one remaining material position we have in oil & gas, TotalEnergies (XPAR:TTE), and in Rubis (XPAR:RUI), a more recently added gas utility holding. Materials and insurance stocks were also laggards during the quarter, with poor results being produced by BASF (MIL:BASF), Kuraray (TSE:3405), SCOR (XPAR:SCR), Munich Re, and Zurich Insurance (XSWX:ZURN). After producing good returns over the previous two quarters, Intel (INTC) traded off for the quarter, as did Baidu (BIDU), which was weighed down in part by continuing concerns about the Chinese government’s intrusion into a number of their country’s large internet companies. Two of the Funds’ machinery holdings, Trelleborg (OSTO:TREL B) and Shanghai Mechanical (SHSE:600835), also disappointed during the quarter after posting nice returns over the previous two quarters.
In terms of portfolio activity during the quarter, it was somewhat muted on the buy side, as climbing equity valuations reduced the available opportunity set. However, one new addition to the International Value Fund’s and the International Value Fund II’s portfolios was Tesco (LSE:TSCO), the UK-based grocery company. In addition, we established two new positions in the Worldwide High Dividend Yield Value Fund, including Kemira (OHEL:KEMIRA), a Finnish-based water-intensive chemicals business, and Takasago Thermal Engineering (TSE:1969(), a Japanese air conditioning construction company. At purchase, all of these companies were trading at discounts to our conservative estimates of their respective intrinsic values, in our view had solid growth prospects, and, in the case of the two dividend stocks, produced an above-average annual dividend yield. We also took advantage of trading opportunities to add to a number of holdings, including Alibaba, Megacable (MHSDF), Rubis and Dali Foods Group (DLLFF). We sold our remaining shares of Jardine Strategic (LSE:JDS), Kingboard (HKSE:01888), and Siemens Energy (FRA:ENR), as the stock prices of all three had reached our estimates of their underlying intrinsic values. We also trimmed back various other positions in the Fund portfolios that were trading at and around our estimates of their respective intrinsic values, including Coltene (XSWX:CLTN), Heineken, Michelin (XPAR:ML), Roche, Trelleborg, Diageo, DBS Group (SGX:D05), United Overseas Bank (SGX:U11), Safran (XPAR:SAF), Zurich Insurance, and Berkshire Hathaway, among others.
There were no significant changes in the Fund portfolios’ positioning during the quarter. The Fund portfolios as of quarter end were invested in 45 to 85 different holdings spread across 13 to 20 countries, and 21 to as many as 34 industry groups. The geographic profile across the Funds was approximately 42% to 58% developed Europe, 5% to 13% developed Asia-Pacific, 3% to 13% emerging markets and 14% to as much as 39% U.S. equities.
Significant country and industry over-weights in certain Funds included the UK, France, Switzerland, Germany, Singapore, Hong Kong, and banks, food, beverages, pharma, aerospace, machinery, interactive media, insurance, and industrial conglomerates. Cash reserves ranged from 4.1% to as much as 7.6% across the four Funds. In terms of valuation and dividend yield, the top 25 holdings in all four Funds were trading at weighted average price/earnings ratios of between 15.7x and 18.5x 2022 estimated earnings, and had weighted average dividend yields between 2.4% and 3.4%. (Please note that the range of weighted average dividend yields shown above is not representative of a Fund’s yield, nor does it represent a Fund’s performance. The figures solely represent the range of the average weighted dividend yields of the top twenty‐five common stocks held in the Funds’ portfolios. Please refer to the 30‐day standardized yields in the performance chart on page 1 for each of the Fund’s yields.)
Alibaba
A position that we established around year-end, and have added to across three of our Funds during the quarter, is Alibaba (BABA, Financial), the Chinese internet giant. Our pricing opportunity in these shares is in part related to increased regulatory scrutiny of the internet sector by the Chinese government which we continue to monitor closely.
Alibaba is the largest e-commerce company in China, with over 50% market share in terms of gross merchandise value. We first purchased Alibaba for the Funds around calendar year-end. Its core consumer marketplace businesses consist of Taobao (China’s largest consumer-to-consumer online shopping destination) and Tmall (China’s largest third-party platform for brands and retailers). Additionally, Alibaba operates the dominant cloud platform in China (AliCloud), international e-commerce operations (Lazada, etc.), and digital media services, and has several strategic investments, including a 33% stake in Ant Financial.
Alibaba’s share price weakened significantly in Q4 2020 due to increasing regulatory scrutiny, including a pulled IPO of Ant Group that was originally set for November, 2020. In November, the State Administration of Market Regulation (SAMR) unveiled draft amendments to China’s Anti-Monopoly Law that extended the law to internet platforms, prohibiting practices such as platform exclusivity, predatory pricing, and price discrimination based on user data, among others. SAMR also initiated an official antitrust investigation into Alibaba and Ant Group in December. At time of purchase, we thought the SAMR investigation into Alibaba’s core e-commerce business would have a somewhat limited impact, as many merchants are already on multiple platforms, but are attracted to Alibaba because of its strong ecosystem, traffic and marketing efficiency. There are network effects associated with a very large user and merchant base. The large Alibaba ecosystem (including local services, payments, etc.) also allows data integration across various scenarios to enable more targeted solutions to merchants and customers. Alibaba’s core marketplace business is a strong cash generator. We believe it should continue to grow with the e-commerce sector, driven by growing consumption in China and penetration into newer categories.
Alibaba also has continued to invest significantly in newer initiatives, such as Taobao Deals and Taobao Grocery, to extend the growth runway of the company.
In April 2021, the SAMR announced a $2.75bn fine on Alibaba for its violations of the Anti-Monopoly Law, putting an end to the bulk of the regulatory review and overhang. The fine equated to 4% of revenue and a minor portion of Alibaba’s net cash ($51bn as of December 31, 2020). Management does not expect any material impact on its business from the change in exclusivity arrangement imposed by regulators. Ant Financial could face greater regulatory impacts, but it is a relatively small part of our total valuation of Alibaba, so the downside is limited in our view. At time of purchase, Alibaba sold for less than 12x its estimated core “marketplace” EBITA, after deducting values for its other assets (i.e., international commerce, cloud, and new media) from Enterprise Value. We valued the company’s cloud business using an operating margin similar to Amazon Web Services (AWS) and a 15x operating multiple. While the cloud business just turned marginally profitable last quarter, Alibaba is a significant leader in the industry (≈40% market share) and has first-mover advantages. As can be seen from AWS, cloud is an industry with strong economies of scale and high switching costs. China’s cloud industry is less mature than in the U.S., and Alibaba has been investing significantly to grow scale (AliCloud grew revenue over 50% in 2020), and in the longer-term we are optimistic that its operating margin can reach AWS levels. Alibaba’s management recently provided financial guidance indicating that all of the company’s incremental operating profit this year (fiscal 2022) would be reinvested into new initiatives. As a result, the company’s operating profit will be relatively flat this year. We do not believe this changes the long-term earnings growth rate or value of the business.
In addition to Alibaba, our Funds own interests in several additional Chinese companies including Dali Foods, a snack foods company; A-Living, a property management business; Baidu, which has at times been referred to as the Chinese Google; Shanghai Mechanical and Electrical, which markets and manufactures elevators; and several Hong Kong based businesses. All of these additional investments, including Alibaba, constitute approximately 8% of the total assets of the International Value Fund. First and foremost, all of these investments were made at prices that were at substantial discounts from our estimates of intrinsic value, and the underlying businesses, in our view, have the potential for higher return profiles than many of our other investments. Secondly, economic growth rates in China and other parts of the Far East significantly exceed those of most Western economies. China is currently the second largest economy in the world, and may become the largest economy in the not-too-distant future. Thirdly, while the Chinese government has more recently increased its regulatory oversight of a number of industries, in part to achieve broad social objectives, we do not believe these actions will ultimately impair the efficacy and value of the investments we have made. We will continue to manage our risk by exercising extreme price sensitivity when making purchases, diversifying our exposure, focusing our attention on businesses that are not in the “cross hairs” of the Chinese government, and by limiting our overall portfolio allocation to no more than 10% of total portfolio assets at cost. As an aside, we were also encouraged to see that the Daily Journal, a company whose Chairman is Charlie Munger (Trades, Portfolio), recently established a meaningful position in Alibaba.
Looking forward, the question of the hour for many market observers is whether this rotation into value, which began in November, will be sustainable. While your crystal ball may be as good or better than ours, we are hopeful that if the past is prologue, this rotation should have legs — particularly in light of better relative valuations for value stocks, prospects for continued fundamentally strong economic growth, and the likelihood of a continued rise in inflationary expectations and interest rates, which, relative to value, tends to disproportionately hurt longer duration risk assets such as growth and technology stocks. However, the tug of war, which was clearly at work in the 2nd quarter, is likely to continue, and the progress of value stocks might take place in fits and starts. Even so, we can't help but believe that this pivot in global markets remains durable. It is certainly long overdue. While the Funds remain a mix of some higher quality long-term compounders as well as more cyclically-based companies (all purchased at discounts from our estimate of their intrinsic values), we are hopeful that they should continue to be beneficiaries of this change in our markets.
Tweedy, Browne Renames Its Two Global Value Funds
Effective July 29, 2021, the names of the Tweedy, Browne Global Value Fund and Tweedy, Browne Global Value Fund II - Currency Unhedged were changed to the Tweedy, Browne International Value Fund and the Tweedy, Browne International Value Fund II - Currency Unhedged. The Funds have always been managed as international vehicles. We and the Funds’ board of directors believe that the change of the term “Global” to “International” in each Fund’s name better reflects the composition of the Fund’s portfolio, given that each Fund invests primarily in foreign equity securities.
There are no changes to the Funds’ investment policies or other features.
Thank you for investing with us. Stay well.
Roger R. de Bree, Frank H. Hawrylak, Jay Hill, Sean McDonald Thomas H. Shrager, John D. Spears, Robert Q. Wyckoff, Jr.
Investment Committee
Tweedy, Browne Company LLC
July 30, 2021
The performance data shown above represents past performance and is not a guarantee of future results. Investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. Current performance may be higher or lower than the performance data quoted.
Please note that the individual companies discussed herein were held in one or more of the Funds during the quarter ended June 30, 2021, but were not necessarily held in all four of the Funds. Please refer to the footnotes on page 14 for each Fund’s respective holdings in each of these companies as of June 30, 2021.
