Omicron, delta, beta, alpha—we are all getting more familiar with the Greek alphabet. When we wrote this Fund’s report one year ago, several promising Covid-19 vaccines offered renewed hope. Stocks rallied vigorously in 2020’s fourth quarter, and companies that had previously suffered from pandemic fears generally enjoyed a meaningful recovery. One year later, we realize that the pandemic fight will be a more protracted battle with ups and downs, and equity investors today are favoring companies that are more insulated from the pandemic. In the U.S., this trend has created extremely concentrated results: since April, a mere five stocks accounted for more than half of the increase in the S&P 500 Index. In contrast, more than 1,300 stocks that trade on the U.S. NASDAQ Index have declined 50% or more from their 52-week highs and 80% are down at least 10%.1
Of course, many factors aside from Covid-19 have influenced stock markets. Voters in recent elections have shifted leftward, often disquieting investors. Labor has become restive, with more frequent strikes and union organization efforts, even in such unlikely locations as individual Starbucks stores. Supply chain issues have arisen in many industries, especially semiconductors, the shortage of which has significantly impaired worldwide automobile production. Price inflation in some developed countries has accelerated to rates last experienced in the 1980s. Many countries assign the task of controlling price inflation to their monetary authorities, and they are beginning to respond. The Bank of England actually raised interest rates in December, and the U.S. Federal Reserve has begun to reduce its bond purchases (the so-called “taper”). Monetary policy has supported markets since the pandemic began, but with accelerating inflation, this support is diminishing.
International markets continued their pattern of lagging behind U.S. returns in the quarter in part because of superior U.S. economic growth but also due to local factors. The Chinese market declined as more companies found themselves subjected to increased regulatory supervision. The Turkish lira dropped severely as currency traders lost confidence in President Erdogan’s monetary policy. Russia’s President Putin increased international tension by stationing a large army on the Ukraine border. In Germany, a new coalition government was formed, ending the 16-year leadership of Chancellor Angela Merkel, and it took control as the country faced a surge in price inflation and a possible energy crisis. Nevertheless, despite the world’s many challenges, we continue to identify value opportunities—in fact, these challenges often help to create the opportunities that we attempt to exploit.
Although the Global Fund earned a solid 3.9% in the quarter, this lagged behind the MSCI World Index’s 7.8% return in the period and the Lipper Global Fund Index’s gain of 4.4%. The Fund’s allocation to international equities significantly exceeded the MSCI World Index allocation, and the poor relative performance outside the U.S. caused part of the Fund’s return shortfall. For all of calendar 2021, the Fund returned 18.8%, which contrasts to 21.8% for the MSCI World Index and 15.5% for the Lipper Global Fund Index. Since its inception in 1999, the Fund has achieved a compound annual rate of return of 10.3%, which compares to 6.4% for the MSCI World Index and 6.6% for the Lipper Global Fund Index.
For the quarter, the countries that contributed the most to the Fund’s return were the U.S., Germany and the U.K., while China, India and Mexico were detractors. Reflecting the strong relative performance of the U.S. stock market, the five largest equity contributors to Fund return in the quarter were all American: TE Connectivity (TEL, Financial), Tenet Healthcare (THC, Financial), Alphabet (GOOGL, Financial), General Motors (GM, Financial) and Humana (HUM, Financial). The Fund holdings that detracted most were Alibaba Group (BABA, Financial) (China), Liberty Broadband (LBRDA, Financial) (U.S.), Flowserve (FLS, Financial) (U.S.), Grupo Televisa (TV, Financial) (Mexico) and Axis Bank (BOM:532215, Financial) (India).
For all of 2021, the U.S., U.K. and Germany contributed most to investment return, while China, Switzerland and South Africa detracted. Leading return contributors for the year were Alphabet, Tenet Healthcare, General Motors, Bank of America (BAC, Financial) (U.S.) and Lloyds Banking Group (LSE:LLOY, Financial) (U.K.). Credit Suisse (DGLD) (Switzerland), Alibaba Group, Continental (XTER:CON, Financial) (Germany), Naspers (JSE:NPN, Financial) (South Africa) and Flowserve detracted most from returns. Although Naspers’ domicile is far from China, its poor 2021 performance largely derives from the price decline at the company’s large investment in Tencent, a Chinese internet and video game company.
We added one new position in the quarter and received shares of another from a spinoff transaction. We eliminated two international holdings and one U.S. holding. Portfolio activity and disparate market outcomes caused the U.S. allocation to increase by nearly 2% in the period. Of course, during the quarter we worked to add value by opportunistic additions to existing holdings while trimming others as they approached our sell targets. We state an intention to hold equities for three to five years, and our 25-35% turnover ratio is consistent with that intention. Nonetheless, portfolio activity is more robust than the turnover rate suggests.
We purchased shares of Willis Towers Watson (WTW, Financial) after the company’s deal to merge with Aon (AON, Financial) broke down. Willis Towers Watson is a global leader in advisory and risk broking services. Under the leadership of a new CEO and a reconstituted board of directors, we believe Willis Towers Watson has an opportunity to create significant shareholder value. Specifically, management sees a path toward mid-single-digit or greater organic revenue growth, several hundred basis points of operating margin improvement, and higher free cash flow conversion over the next few years. In addition, the company is in the process of repurchasing several billion dollars of stock. Willis Towers Watson also has a new COO, CFO and a new head of transformation in place to oversee its operational initiatives, including common global platforms, “right-shoring” of operations, real estate rationalization and technology modernization. If the turnaround is successful, the company should warrant a higher multiple that is more in line with other leading advisory and broking firms and on a higher earnings base.
We received shares of Daimler Truck (XTER:DTG, Financial) when it was spun out of Daimler AG (XTER:DAI, Financial) in early December. Daimler Truck is the world’s largest commercial truck manufacturer, holding the top position in North American and European markets. The spin-off from Daimler represents a turning point for the business that will allow it to receive more focus, pursue its own strategy and enter into value-added partnerships. We believe that management has offered a credible plan to significantly improve margins by increasing service attachment, reducing fixed costs, and generating more customer-focused and localized products and distribution networks. In our view, the dramatic turnaround at Mercedes-Benz—combined with the significant profitability of its premium-truck peers, like Volvo and Scania—indicate Daimler Truck’s attractive potential and lend support to management’s high single-digit EBIT margin and cash flow conversion targets.
Our two international final sales were Cap Gemini (XPAR:CAP, Financial) (France) and Richemont (XSWX:CFR, Financial) (Switzerland), which we sold because their shares approached our estimates of intrinsic value. We redeployed the capital from these exits into existing portfolio holdings that possessed more attractive return profiles.
Our U.S. final sale was Johnson Controls (JCI, Financial), a leading global supplier of fire detection and HVAC (heating, ventilation and air conditioning) systems. We originally purchased the shares believing that the new management team had the potential to improve profit margins meaningfully. Management has made progress on this goal, but part of this progress must be attributed to Covid-19. The pandemic inspired building owners to invest aggressively in new air handling and filtration systems, a Johnson Controls specialty. Management also executed a well-timed portfolio transaction, selling the company’s traditional car battery business for a good price before the trend favoring automotive electrification became dominant. The company’s stock has performed well over the past year, and we sold the Fund’s shares to reinvest in undervalued holdings.
We defensively hedge a portion of the Fund’s exposure to currencies that we believe to be overvalued versus the U.S. dollar. As of quarter end, we found the Swiss franc to be overvalued and have hedged approximately 15% of the Fund’s franc exposure.
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1Platt, Eric. “U.S. Stock Market Advance Masks Treacherous Undercurrents.” Financial Times, 16 Dec. 2021.
The information, data, analyses, and opinions presented herein (including current investment themes, the portfolio managers’ research and investment process, and portfolio characteristics) are for informational purposes only and represent the investments and views of the portfolio managers and Harris Associates L.P. as of the date written and are subject to change and may change based on market and other conditions and without notice. This content is not a recommendation of or an offer to buy or sell a security and is not warranted to be correct, complete or accurate.
Certain comments herein are based on current expectations and are considered “forward-looking statements”. These forward looking statements reflect assumptions and analyses made by the portfolio managers and Harris Associates L.P. based on their experience and perception of historical trends, current conditions, expected future developments, and other factors they believe are relevant. Actual future results are subject to a number of investment and other risks and may prove to be different from expectations. Readers are cautioned not to place undue reliance on the forward-looking statements.
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