Portfolio Review
Equity markets declined significantly in the third quarter of 2015 despite a rebound in the U.S. economy where real gross domestic product (“GDP”) grew at an annual rate of 3.9% in the second quarter after a sluggish start to the year. A number of factors suggested to investors that the financial outlook for U.S. companies has darkened. First, weakening commodity prices, especially for oil and metals is slowing many emerging market economies, reducing demand for U.S. exports. Second, China, the most important emerging market economy, has been a concern for investors for some time. In early August, China intervened in the foreign exchange market to weaken its currency (yuan) versus the dollar. To a number of economic observers this was evidence China’s economic growth rate was slowing more rapidly than previously thought. Third, U.S. economic growth and the profitability of the non-domestic operations of U.S. companies is negatively impacted if the currencies of trading partners weaken versus the dollar. Slowing emerging market economies and quantitative easing by the European Central Bank and Bank of Japan weaken their respective currencies. Fourth, pharmaceutical pricing again became a point of contention during the third quarter when some politicians suggested that de facto price controls were in order. Unfortunately the prospect of this action depressed the valuations of drug manufacturers and their suppliers as well as other health care enterprises.
The combination of these factors caused the largest stock market correction since 2011. Westport Fund Class R shares recorded a small gain against the Russell Midcap® Index in the first half of 2015, but bore the full weight of this market correction in the third quarter, declining 11.13% versus a decline of 8.01% for the Russell Midcap® Index. Since inception 17 ¾ years ago, the Westport Fund Class R shares’ average annual return of 10.05% outperformed the Russell Midcap® Index by 134 basis pointsi per year and the Lipper Multicap Core Index by 416 basis points per year.
Of the ten industry sectors in the Russell Midcap® Index only two – REITs and Utilities – recorded positive returns for the quarter and these were minimal. These two sectors did cushion the negative return from the Russell Midcap Index – without them the Index would have declined a further approximate 180 basis points. The remaining 130 basis points of the shortfall can be found in the Technology sector which subtracted 204 basis points from the Westport Fund’s return in the third quarter relative to its benchmark. Of the eight industry sectors, excluding REITs and Utilities, the Westport Fund’s results for the quarter showed positive contributions from Consumer Discretionary and Services, Financial Services, and Materials and Processing relative to the benchmark.
The three companies with the largest negative contributions in the quarter accounted for more than the Westport Fund Class R shares’ shortfall versus its benchmark, although each met its earnings expectations for the second quarter of 2015. FMC Corp. (FMC, Financial), a key supplier of agricultural chemicals currently undergoing an integration with another recently acquired agricultural chemical company, subtracted 126 basis points from third quarter returns. The weak Brazilian currency and an exceptional world-wide grain harvest have reduced near-term expectations. PTC Inc. (PTC, Financial), an important supplier of business software with the majority of its revenues from foreign customers, reduced returns by 108 basis points in the quarter. Finally, Universal Health Services, Inc. (UHS, Financial) – Class B shares, an acute-care hospital and behavioral health center operator, reduced performance by 99 basis points due to concerns about pricing for its services under price restrictions. The largest positive contributor to third quarter performance at 71 basis points was Precision Castparts Corp. (PCP, Financial), a manufacturer of complex metal components, which agreed to be acquired by Berkshire Hathaway, Inc. (BRK.A, Financial)(BRK.B, Financial) for $235 per share in cash. Also, during the third quarter the takeover of Pall Corp. (PLL, Financial) was completed and reductions were made to holdings in Air Products & Chemicals, Inc., Nordson Corp. and Republic Services, Inc. There were no new positions added in the third quarter.
It is likely that investor fears manifested in the third quarter will not be realized. The Federal Reserve decided not to raise short-term interest rates at its September meeting, reducing pressure on the dollar somewhat even though it reiterated its preference to raise short term rates in 2015. Further, while proposals have been made to place price restrictions on various health care products and services, it is unlikely that they will be implemented given the poor track record of price controls in the United States.
Investors should consider the investment objectives, risk, and charges and expenses of The Westport Funds carefully before investing; this and other information about the Funds is in the prospectus, or summary prospectus, which can be obtained by calling 1-888-593-7878 or at our website www.westportfunds.com. Read the prospectus or summary prospectus carefully before you invest.
The views expressed and any forward-looking statements are as of the date of the publication and are those of the portfolio managers and/or the Advisor. Future events or results may vary significantly from those expressed and are subject to change at any time in response to changing circumstances and industry developments.
There are special risks associated with small and mid-capitalization issues such as market illiquidity and greater market volatility than larger capitalization issues.
i Basis Point is a unit that is equal to 1/100th of 1% and is used to denote the change in a financial instrument.
Portfolio composition is subject to change at any time and should not be considered a recommendation to purchase or sell a particular security. On September 30, 2015, the following securities comprised these respective percentages of the Westport Fund: FMC Corporation. (2.6%), PTC, Inc. (4.2%), Universal Health Services, Inc. – Class B Shares (8.1%), Precision Castparts Corporation (6.2%), Berkshire Hathaway, Inc. (0.0%), Pall Corporation (0.0%), Air Products & Chemicals, Inc. (2.8%), Nordson Corporation (1.2%), and Republic Services, Inc. (0.0%).
