Summary
- Davis New York Venture Fund has built shareholder wealth over time. Over the most recent one, three and five year periods, a $10,000 investment grew to $10,297, $14,763, and $15,846, respectively.1
- Since inception in 1969, a $10,000 investment in the Fund has grown to more than twice the value of the S&P 500® Index: $1.75 million versus $832,509.1
- Decades of investment experience and judgment are particularly valuable to take advantage of today’s market. Opportunities include: quality on sale, blue chips of tomorrow and timely investment themes.
- In our experience, despite short-term stock price fluctuations, equities remain the best way to maintain long-term purchasing power.
- Davis Advisors, the Davis family, employees, and directors are the largest shareholders in the Fund.2
The average annual total returns for Davis New York Venture Fund Class A shares for periods ending December 31, 2015, including a maximum 4.75% sales charge, are: 1 year, −1.92%; 5 years, 8.58%; and 10 years, 4.94%. The performance presented represents past performance and is not a guarantee of future results. Total return assumes reinvestment of dividends and capital gain distributions. Investment return and principal value will vary so that, when redeemed, an investor’s shares may be worth more or less than their original cost. The total annual operating expense ratio for Class A shares as of the most recent prospectus was 0.86%. The total annual operating expense ratio may vary in future years. Returns and expenses for other classes of shares will vary. Current performance may be higher or lower than the performance quoted.For most recent month-end performance, click here or call 800-279-0279.
This report includes candid statements and observations regarding investment strategies, individual securities, and economic and market conditions; however, there is no guarantee that these statements, opinions or forecasts will prove to be correct. Equity markets are volatile and an investor may lose money. Past performance is not a guarantee of future results. 1 Class A shares without a sales charge. Past performance is not a guarantee of future results. Investments cannot be made directly in an index. 2As of December 31, 2015.
Results of Our Investment Discipline
Our investment discipline has built wealth for shareholders for more than 45 years. In 2015, DNYVF returned 3.0% versus 1.4% for the S&P 500®Index.3
Clients invest in Davis New York Venture Fund because they want us to grow the value of their savings over the long term. As shown in the chart below, we have achieved this goal in all meaningful time periods and extended this record in 2015. In fact, since our beginning more than 45 years ago, we have grown the value of an initial $10,000 investment in the Fund to more than $1.75 million today, a more than 170-fold increase.3 While at times this rate of growth has been faster or slower, our steadfast focus on equities combined with an investment discipline centered on research, careful stock selection and a long-term perspective has helped us increase the value of our clients’ savings. The longer clients have invested with us, the more their savings have grown in value.
In addition to generating satisfactory absolute returns, our investment approach has delivered relative returns in excess of the S&P 500® Index over the long term. Since inception in 1969, a $10,000 investment in the Fund grew to more than twice the value of the S&P 500® Index: $1.75 million versus $832,509.
These attractive long-term results included inevitable periods along the way when our investment approach of seeking durable, well-managed businesses at attractive prices was not rewarded by the market. For example, at times our decision to avoid a number of companies and sectors that have done particularly well but that do not offer investors sustainable long-term opportunities in our view has detracted from our relative results. Our decision to avoid these businesses rests on our experience, judgment and analysis, all of which indicate that these companies do not offer our shareholders an attractive combination of risk and reward. As has historically been the case, we believe the relative drag experienced by not owning such companies will reverse in the years ahead.
In 2015, our relative outperformance was driven by the strong results of a number of our large holdings, including JPMorgan Chase (JPM, Financial), Google (GOOGL, Financial) (now renamed Alphabet, with Google just one part of its group of companies), Bank of New York Mellon (BK, Financial), and Amazon.com (AMZN, Financial).5 While too short a period to extrapolate, we are gratified our 2015 results exceeded the market and compared favorably to other large cap equity managers. More important, despite these good short-term results, many of our large holdings and new purchases trade at significant discounts to the averages, positioning us well for the years ahead should these companies be appropriately revalued.
Our conviction in the investment discipline that has helped our shareholders build wealth for more than 45 years is strengthened when results are viewed on a rolling rather than a trailing basis. The chart below divides our results into rolling periods ranging from one to 40 years with the bars indicating the percentage of those periods our returns exceeded our benchmark. As with our absolute returns, the longer clients remained with us the better the relative outcome.
3 Class A shares without a sales charge. Past performance is not a guarantee of future results. 4 Performance is of a hypothetical $10,000 investment in Davis New York Venture Fund Class A shares without a sales charge. Returns for other classes of shares will vary. All returns include the reinvestment of dividends and capital gain distributions. Inception date is 2/17/69. Performance is as of 12/31/15.5 Individual securities are discussed in this piece. While we believe we have a reasonable basis for our appraisals and we have confidence in our opinions, actual results may differ materially from those we anticipate. The return of a security to the Fund will vary based on weighting and timing of purchase. This is not a recommendation to buy, sell or hold any specific security. Past performance is not a guarantee of future results.6Class A without a sales charge. Past performance is not a guarantee of future results. Performance includes the reinvestment of dividends and capital gain distributions. The market is represented by the S&P 500® Index. There is no guarantee Davis New York Venture Fund will continue to outperform the market over the long term. See endnotes for a description of Outperforming the Market.
Market Fluctuations Create Opportunity
Declining prices are not the same as declining values. Economic and political uncertainty are the rule not the exception.
From the lows of 2009 until the middle of 2015, the market raced steadily higher. In fact, by August 2015 the market had enjoyed its longest stretch without a 10% correction in more than 20 years and the third longest stretch since 1928. In short, this was an exceptional period. Since then, market gyrations have reappeared with volatility increasing throughout the remainder of 2015 and thus far in 2016. Having grown accustomed to a constantly rising market and low volatility, commentators and newspapers are using words such as rout, collapse and turmoil. Such sensational headlines generate considerable excitement compared to statements that might suggest a 10%–20% decline after a 200% gain should not be cause for alarm, though this more sober language is more accurate. While the market generates a positive return in most years,occasional negative years are inevitable. In fact, in one out of four years since 1928, the market has generated a negative one year return.
As an uncommon but inevitable part of the investment landscape, stock market declines present both risks and opportunities. The risks are emotional and the opportunities economic. The emotional risk is that investors become so nervous and fearful they sell their investments at depressed prices. The economic opportunity is that investors recognize the chance to increase future returns by buying more at lower prices.
To avoid the risk and take advantage of the opportunity, investors must remember declining prices are not the same as declining values. Shoppers understand this difference and generally welcome falling prices as the chance to buy more for less. With stocks, the principle is the same and yet many investors’ emotions lead them to react differently. Forgetting the wisdom of the adage “price is what you pay, value is what you get” they dread falling prices instead of welcoming them. Successful long-term investors must keep such irrational emotions in check.
The most effective way to combat such irrationality is to recognize that stocks represent ownership interests in real businesses and the value of a business is determined by the earnings and cash it produces over the long term. Because we tend to own companies for many years, we already incorporate a range of different economic and political environments into our valuations. After all, as Heraclitus observed more than two thousand years ago, “The only thing constant is change.” Today, for example, commentators cite the risk of falling energy prices, rising interest rates, a weakening Chinese economy, and the strengthening dollar as major concerns. A few short years ago, they worried about the opposite: high energy prices, near zero interest rates, China’s economic strength, and a weak dollar. We use this example not to minimize the importance of economic and political concerns but rather to highlight that such risks are a constant part of the investment landscape. What varies is investors’ perception concerning these risks. When prices are high, investors optimistically focus only on the positives. When prices are low, they pessimistically focus only on the risks.
In managing Davis New York Venture Fund, we are determined to be neither optimists nor pessimists but realists, focused on facts not emotions. While the macroeconomic factors discussed above can have an impact on earnings in the short run, the key driver of long-term earnings power is the durability of a company’s competitive advantage. In general, the various economic and political factors currently worrying investors and depressing prices have almost no impact on the long-term earnings power of the majority of companies we own.
By focusing on the steady and relentless growth in the earnings power and thus the value of our long-term holdings, we and our investors can tune out unsettling short-term price volatility. When the headlines emphasize turmoil and uncertainty, just remember in general the companies we own grow more valuable every day by serving new customers, expanding into new markets, developing new products, researching innovative technologies, and reinforcing their competitive advantages. Over the long term, this growth in value will drive shareholder returns. With such companies at the heart of our Portfolio, we intend to extend our record of growing the value of our clients’ savings in the years and decades ahead.
The Portfolio
Long-term compounders, quality on sale, the blue chips of tomorrow, and timely investment themes
The core of Davis New York Venture Fund includes an exceptional group of companies with fundamental competitive advantages. The specific nature of each company’s competitive advantage can vary widely from economies of scale and the network effects associated with widely used services (Liberty Global and Visa) to intellectual property and brand equity (Monsanto and American Express). In some cases competitive advantage was built over centuries (Wells Fargo and Bank of New York Mellon), in others over decades (Berkshire Hathaway, CarMax and Express Scripts), and in two extraordinary cases established in just a few short years (Google and Amazon). But whatever the nature or history of a company’s competitive advantage, the result is the same: the ability to earn strong returns over the long term.
Although the short-term stock performance of these core holdings may be driven by the vagaries of market sentiment, their long-term returns will be driven by the competitive advantages of their underlying businesses. These advantages are the key requirement for a business to become a wealth-compounding machine.
While we build and manage the Portfolio from the bottom up, analyzing and evaluating each investment on its own merits, we would highlight three key investment themes as the biggest areas of opportunity in the current market environment.
First, one notable aspect of the recent sell-off in stocks has been its indiscriminate and broad-based nature. As investors increasingly succumb to fear and panic, they tend to disregard fundamentals and sell across the board. As a result, we have the unusual opportunity to acquire or add to a select handful of wonderful industrial leaders at bargain prices. Such opportunities are rare and precisely our area of expertise. While pinpointing a single reason why the share prices of a number of these high-quality companies have faltered, some concerns mentioned earlier, including currency effects, slowing Chinese growth and general economic concerns, may play a part. Whatever the cause these companies’ share prices have fallen significantly, allowing us to add to or build new positions at highly attractive valuations. We call this opportunity quality on sale. Importantly, while some of the factors mentioned might have a short-term impact on reported profits none threatens the fundamental competitive advantages or durability of these companies’ underlying businesses.
As an example, the prices of United Technologies (UT, Financial), Praxair (PX, Financial) and Monsanto (MON, Financial) have each fallen more than 20% with the result that shares in these outstanding companies can be purchased at a discount to the average company. Even Berkshire Hathaway (BRK.A, Financial)(BRK.B, Financial)’s stock has languished to the point its shares now trade only slightly above the level at which management has indicated they would consider the shares sufficiently undervalued to begin a repurchase program.
A second area of opportunity is best captured by the statement today’s disrupters are tomorrow’s blue chips. In the more than four decades we have managed Davis New York Venture Fund, we have seen companies we considered disrupters underestimated and disregarded by investors who overemphasized the short operating histories and relative small size of these businesses while undervaluing their powerful and durable competitive advantages. But as disrupters relentlessly grow, perceptions change. Established competitors lose market share and disrupters become the new blue chips. Over the decades, we have seen companies such as Charles Schwab, once viewed as a fringe discount broker, become a trusted financial brand and the insurance company ACE Limited evolve from a specialty reinsurer to a global insurance leader, soon to assume the name of its most recent acquisition, Chubb. Similarly, Costco has evolved from a niche retailer to a global retail giant. We have owned all of these companies for many years and continue to believe they have room to grow.
Today technology is accelerating the pace of disruption. This change is best seen by contrasting the history of a past disrupter Walmart with a new disrupter Amazon. Walmart opened its first store in 1962 and, with its everyday low pricing model, strong management and tight cost control, enjoyed real competitive advantages relative to the much larger and better regarded existing competition. Eighteen years later, the company reached $1 billion in sales and today has sales approaching $500 billion, dwarfing its competitors such as Kmart and Sears that have largely been left in the dust. In contrast, Amazon has disrupted entrenched competitors in a matter of years not decades. Remembering Walmart took 18 years to reach sales of $1 billion, we consider it astonishing that Amazon was selling approximately $95 billion worth of merchandise in its 18th year, almost 100 times more than Walmart sold during the comparable period in its history.
With Amazon achieving success at such a rapid pace, investors who were slow to study the company because of its short operating history not only missed out on its potential as an investment but also were slow to identify the threat it posed to so many other retailers. Companies ranging from Borders and Blockbuster to Circuit City and RadioShack have already filed for bankruptcy and many more are sure to follow. While extraordinary, Amazon is hardly a lone example. Companies such as Google, Netflix and Facebook have overpowered many traditional media businesses, Uber and AirBNB are challenging the taxi and hotel industries, and a number of new companies are using biotechnology to challenge traditional pharmaceutical businesses. The bottom line is technological disruption is rapidly changing the investment landscape, creating great opportunities for investors who can adapt and enormous risks for investors who cannot.
The third theme is our constant interest in those areas of the market most out of favor with investors provided the underlying companies deliver essential products and services that are difficult if not impossible to bypass. Today, two sectors fit the bill: financial services and energy. In each, we are interested only in those companies that will emerge from the turmoil in a stronger position. In the financial sector, for example, three of our largest holdings—Wells Fargo (WFC, Financial), American Express (AXP) and JPMorgan Chase—have not only consistently generated strong long-term returns on equity but all three remained profitable even through the turmoil of the worst financial crisis since the 1930s. Each also took advantage of the chaos resulting from the crisis to grow market share and as a result all are enjoying record profitability despite being more conservatively capitalized. Looking ahead, although these companies are benefiting from today’s benign credit environment, earnings per share at each should still rise as regulatory, legal and compliance costs moderate, interest rates normalize and shares are repurchased at bargain prices.
In the energy sector, the steep decline in oil and gas prices has led to collapsing profitability, causing investors to flee the sector. In such a chaotic price environment, we have focused on the basic economics of supply and demand. Starting with demand, energy consumption continues to rise as cars are still driven, homes heated and electricity produced. In fact, falling prices actually increase demand as cheap energy leads consumers to drive more, utilities to switch from higher cost alternatives and industrial companies to add capacity where lower cost energy is available. As for supply, economics dictate sooner or later prices must rise high enough that companies have an incentive to produce enough energy to satisfy demand. Our research conclusively indicates the price required for companies to produce the amount of oil and gas needed may be almost twice the current price. Although such imbalances can persist for years because of factors such as geopolitics and costs incurred that cannot be recovered, eventually prices must adjust. Our long-term perspective allows us to build positions in specific energy companies now that will benefit from the eventual and inevitable price increases we expect. In selecting individual companies, we continue to focus on those businesses with the lowest cost positions in some of the largest energy fields in North America. We look for the combination of sensible management, a strong balance sheet, great geological formations, and leading technology that gives companies a global competitive advantage. Recent purchases that meet these criteria include Encana, Cabot Oil & Gas, Occidental Petroleum, and Apache.
Risk Is Value Destruction not Price Volatility
Diminished purchasing power is the key value-destroying risk facing investors today.
Because we focus on value instead of price, we do not consider short-term stock market volatility a risk. Instead, we define risk as long-term value destruction. For today’s investors, the potential loss of purchasing power on the dollars they save is one of the largest value-destroying risks they face.
Over virtually all periods of history, purchasing power erodes as prices for goods and services relentlessly rise. While this is a timeless concern, low current interest rates have made this a far greater risk for today’s investors than at any time in the last 50 years. To understand this risk, consider that in the last 50 years the purchasing power of a dollar has declined more than 85%. In other words, if someone had put a one dollar bill under the mattress in 1965 and took it out today, that one dollar bill would only buy about one-sixth as much as it did in 1965. Such statistics are given life when we consider back then a McDonald’s hamburger cost 15 cents, a gallon of gas cost 31 cents and a full year’s university tuition (including room and board) cost less than $2,500.
Over this same period, however, people who chose to save their money rather than spend it were paid interest on their savings at a rate that had a reasonable chance of offsetting rising prices and thus maintaining their purchasing power. Over this entire period, for example, interest paid on a one year savings bond averaged approximately 5.5%. While interest rates fluctuated enormously during this period, only in the last five years have they fallen below 4% and now stand near zero, their lowest levels in more than a century.7
As a result, available interest rates seem unlikely to offset rising prices over the long term leaving savers, whether they are in bank deposits or government bonds, facing a high risk of diminished purchasing power in the years and decades ahead. As indicated by the amount of money pouring into both bank deposits and bond funds, savers seem unaware of the risk they are taking. Compared to such meager interest rates, the valuations of the companies we own in Davis New York Venture Fund are especially attractive. In fact, in a number of cases, these companies’ current dividends now exceed bond yields and are likely to grow in the years ahead.
At a time when historically low interest rates and diminished purchasing power pose a risk to savers and fixed-income investors, our Portfolio of individually researched, long-term holdings in durable businesses presents the best means we know of building wealth for generations to come.
7 Source: Richard W. Paul & Associates.
Conclusion
At Davis Advisors, we are committed to helping our clients achieve their goals by growing the value of the savings entrusted to our care. Every Davis Fund has grown shareholder wealth since inception and has low expenses. Davis is also the largest shareholder of each Fund.
Looking ahead, we believe the competitive advantages of our core holdings, our willingness to invest in sectors that are currently out of favor, and the opportunities presented by recent stock market volatility should lead to strong results in the years ahead.
This report is authorized for use by existing shareholders. A current Davis New York Venture Fund prospectus must accompany or precede this material if it is distributed to prospective shareholders. You should carefully consider the Fund’s investment objective, risks, charges, and expenses before investing. Read the prospectus carefully before you invest or send money.
This report includes candid statements and observations regarding investment strategies, individual securities, and economic and market conditions; however, there is no guarantee that these statements, opinions or forecasts will prove to be correct. These comments may also include the expression of opinions that are speculative in nature and should not be relied on as statements of fact.
