“We believe the power of compounding is the most valuable and underappreciated investment concept.” -Jeff Auxier
Jeff Auxier (Trades, Portfolio) has a place on the gurus list because of his outstanding, long-term track record.
In examining that record, it is obvious he has underperformed the S&P 500 quite frequently, yet still has an enviable long-term chart.
The keys to this long-term success are compounding from a strong start and managing risk to minimize losses.
Who is Auxier?
Auxier graduated from the University of Oregon in 1981 with a bachelor's degree in finance, according to his LinkedIn profile. The early part of his career was spent at Smith Barney; by the time he left in 1998, he held the positions of senior portfolio management director and senior vice president of investments. Shortly after leaving Smith Barney, he opened his own firm, Auxier Asset Management LLC.
In a 2015 interview with GuruFocus, Auxier said he had gone to the top with his questions about investing—after graduating from university, he cold-called Warren Buffett (Trades, Portfolio) on a Saturday morning—and Buffett took his call. Auxier said Buffett told him to stay well away from Wall Street and meetings with management, research all companies and do more research than everyone else. In other words, develop your own truth and facts from the data and from a deep understanding of accounting.
Auxier followed Buffett’s advice, as evidenced by his investing style and his location. His firm is in Aurora, Oregon, and he lives nearby on an 108-acre farm.
One of the more interesting starts for a value investor, with advice from a legend to kickstart his career. His progression through the ranks at Smith Barney and determination to start his own firm suggests he took and used Buffett’s advice.
What is Auxier Asset Management?
The firm provides investment supervisory services; it reports in its Form ADV Part 2A that it provides investment advice to individuals, investment companies, pension and profit-sharing plans and other entities.
Owned entirely by Auxier, the firm manages equity and balanced accounts. According to its 13F filing (as reported by GuruFocus), it managed $477 million at the end of the first quarter of 2017.
It operates and manages one mutual fund, the Auxier Focus Fund. Yahoo Finance shows the fund holding assets of $247.76 million at the close of trading on July 11. The objective of the fund is long-term capital appreciation, and Auxier describes it as a "go anywhere Value Fund."
Auxier Asset Management and the Auxier Focus Fund are both relatively small, meaning the company can enjoy leverage from one or a few outstanding investments, unlike larger funds, which are harder pressed to move the needle with any one stock or security. In addition, with a "go anywhere" mandate, the manager enjoys extensive latitude in terms of market cap, geography and other potential constraints.
Auxier’s investing strategies
“We focus, number one, on the power of compounding,” Auxier said in a Nov. 7, 2016 interview with The Wall Street Transcript.
He explained that as an investor who focuses on compounding, he is intently watching downside risk—all the time. Other investors, Auxier says, generally take too much risk for the potential return they can expect; he adds they do not know what they have bought or the correct odds due to a lack of knowledge.
Blindly chasing yield at any price is a disaster waiting to happen. He points out that if a stock you own goes down 50%, you need it to then go up 100% to get back to breakeven. If you are unfortunate enough to experience a 90% drop, you need a 1,000% bounce to get back to where you were.
That, he says, is "why a tenacious research effort is so critical." It is essential to quantify the downside before you buy. Although he does not draw a line directly to it, we can see why a margin of safety is essential to long-term survival and success. That margin of safety comes from buying a value stock, buying something for less than its intrinsic value.
In the firm’s Form ADV Part 2A, Auxier says they rely mainly on fundamental financial analysis, which involves metrics such as dividend yields and price-earnings, price-sales and price-to-cash flow ratios. In conjunction with that analysis, they glean information from sources such as annual reports, trade publications and financial journals.
With common stock, they evaluate both American and international companies trading on the major exchanges. In doing so, they are value-oriented and focused on long-term growth.
In their words, they look for "compelling, undervalued companies" with these attributes:
- Strong or improving fundamentals.
- Consistent operating results.
- Competitive advantages or moat.
- High rates of return on capital.
- Products that can be understood.
- Shareholder-friendly management.
- Intelligent capital allocation policies.
This research generates a shortlist, and companies on the list are screened to figure out what market price represents good value with low risk and above-average returns.
Once acquired, the companies will be held indefinitely, so long as the operating fundamentals keep improving and the price remains reasonable.
Other notes:
- Auxier makes asset allocation decisions based on client objectives and value, rather than economic forecasts.
- Although they may invest in companies with any market capitalization or geographic region, they favor medium to large-cap, American companies.
- When they identify sectors that demonstrate the best combination of growth and reasonable price, some may be overweighted at times.
Turning to fixed-income holdings, Auxier tries to find "improving situations" where an upgrade in credit quality is expected. He says upgraded credit quality combined with coupon income can lead to lower risk than that posed by stock ownership.
In the Auxier Report: Spring 2017, the guru briefly commented on some of the equity winners and losers in his portfolio. Here are his thoughts on three of the contributors and three of the detractors:
- Consumer goods company Unilever NV ADR (UN, Financial) received a buyout offer from Kraft Heinz (KHC, Financial), which was rejected. The episode motivated Unilever to aggressively restructure, which was good for shareholders.
- Biomedical device developer and maker Medtronic PLC (MDT, Financial) traded during the quarter at 13 times earnings, compared to 37.5 times in 2001. It has a "fortress" balance sheet, a 7% free cash flow yield and annual free cash flow of more than $5 billion. Operationally, it has the world's smallest pacemaker, which is driving pacemaker market growth.
- PepsiCo Inc. (PEP, Financial) announced its 45th consecutive annualized dividend increase and is generating 3.7% organic revenue growth with healthier products.
- Among the detractors was Kroger Co. (KR, Financial), which has suffered because of falling food prices and a grocery price war. Auxier notes these lower prices make Kroger more competitive with restaurants.
- Chevron (CVX, Financial), ConocoPhillips (COP) and BP (BP) - although OPEC may have cut oil production, increased shale activity and efficiency are pushing down prices and equity valuations. Because oil equities are depressed, there is likely to be increased consolidation in the energy industry.
- The banks enjoyed an upsurge after November's presidential election, but that has since faded. Nevertheless, Auxier says Bank of New York Mellon Corp. (BK, Financial) is selling at a discount to the market and will "benefit greatly" if interest rates normalize.
Auxier’s thoughts on compounding are a valuable addition to all investors’ understanding of value investing. By demonstrating that even minor losses detract from our ability to make our money grow, he helps us understand the need to buy only stocks that offer a margin of safety. What’s more, he helps us appreciate the need for due diligence through research and analysis.
Current holdings
As this GuruFocus chart shows, Auxier favored health care and consumer defensive stocks in the first quarter of 2017:
This table from the fact sheet for the Auxier Focus Fund shows its top 10 holdings:
Interestingly, the biggest holding in the fund is a bank. Given the Federal Reserve news of recent days, that could be a big winner in the months ahead. More broadly speaking, both health care and consumer defensive are relatively low-risk sectors, in keeping with his goal of compounding by not losing.
Auxier’s performance
According to this GuruFocus table, Auxier has had trouble staying ahead of the S&P 500 over the last decade (although we will look at performance from another perspective below):
The following shows the remainder of the performance table, from 2006 back to 2000. Note the outperformance during the fund’s first three years in comparison to the S&P 500:
On the fund’s fact sheet, they show this graph displaying the difference between capital invested in the fund and in the S&P 500 since inception:
Using a long-term perspective, and particularly from the fund’s inception, the Auxier Focus Fund materially outperforms the S&P 500; however, investors who bought after the third year of operation might have a cloudier view of the performance.
Conclusion
Compound interest and, by extension, compounding was described as the eighth wonder of the world by Albert Einstein.
The compounding phenomenon has worked out well for Auxier and those who bought into his fund in its earliest days. As we saw above, his fund significantly outperformed the S&P 500 in its first three years, which allowed a more robust compounding effect that has lasted since 2002.
This compounding both proves his thesis and allows the fund to boast a superb chart even though it has underperformed the S&P 500 in each of the past five years.
Of course, it must be conceded good risk management on Auxier’s part has also kept the fund in the running because he has kept his losses smaller than those of the S&P 500.
Auxier’s articulation of the connection between compounding and value investing through risk management is a valuable addition to our knowledge about all investing.
Disclosure: I do not own shares in any of the companies named in this article, and I do not expect to buy any in the next 72 hours.
