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Holly LaFon
Holly LaFon
Articles (8683)  | Author's Website |

First Eagle Fund of America 2nd Quarter Commentary

Review of holdings and markets

August 11, 2017 | About:

Fund of America Class A Shares (without sales charge) returned 2.38% during the second quarter, underperforming the S&P 500 Index, which registered 3.09%.

In the second quarter, the Fund’s portfolio continued to exhibit what we view as well-diversified stock performance, with several technology-related stocks, as well as positive contributions from a number of other sectors. Equally important, detractors in the Fund’s portfolio were also diversified and relatively contained. While the market-cap bias of the Fund’s portfolio will keep us away from the FANG stocks—Facebook, Apple, Netflix and Google (Alphabet)—which are valued at levels that have generated much financial journalism, we are aware that correlations within one sector, especially technology, can often be high. Therefore, we have assiduously striven to take profits along the way and will continue to cull the portfolio as prudence and opportunity necessitate.

The paradox of the current market environment is that while valuations appear generally high by historical standards—the S&P 500 Index is trading at over 18x this year’s earnings estimate—we continue to find unique stories of corporate change that we believe have the potential to yield rewarding investments over time. Still, as the market continues to climb the proverbial “wall of worry,” we would not be surprised to see a pullback over the course of the summer or fall. The risk-off (fear) trade seems to be a nearly predictable element of this bull ride, as we have had at least a 5% correction every year since 2009.

Importantly, we are taking two steps to seek to mitigate risk: (1) trimming or selling entirely some of the names that we believe could be most vulnerable in such a scenario, and (2) working hard to develop an inventory of stocks that we would want to purchase in the event of a price correction.

The catalyst for a drawdown could come from any number of sources. Perhaps the most widely cited reason has been the poten-tial for a complete stalling of the Trump administration’s legislative agenda. With no progress to date in healthcare reform, many investors could question the rationale for current valuation levels if tax reform, repatriation and infrastructure should appear to be headed for a similar fate. Despite this concern, we believe a lot of the economic strength we perceive may be independent of the US political economy. We see other factors also supporting the market, including the resurgence of growth in China and other emerging markets, as well as the surprising vigor within Europe. All told, we still see little evidence of an impending recession: Inflation is more or less contained, and the yield curve, while flatter, is still positively sloped. Monetary policy is not yet contrac-tionary, especially after the recent dovish comments from Fed Chairwoman Yellen. Given all these factors, our best guess is for a continuation of the slow, unsteady grind higher that has characterized this bull market.

Portfolio Commentary

Leading contributors in the second quarter were Packaging Corporation of America, Wyndham Worldwide Corporation, Black-Berry Limited, Alere Inc. and General Dynamics Corporation.

Continued strength in demand for containerboard and resulting higher prices drove Packaging Corp. (NYSE:PKG) stock higher in the second quarter. The industry structure in containerboard has allowed market participants to grow revenues and cash flows. We believe that e-commerce, which has boosted global demand for boxes, appears likely to grow strongly for the foreseeable future.

Shares of Wyndham Worldwide (WYN) performed well in the quarter as the company hired a highly regarded executive away from a competitor to run its struggling time-share business. Wyndham also openly discussed the potential for a spinoff of this asset, and management stated that the board is keeping all options open in regards to enhancing shareholder value. Our sum-of-the-parts analysis points to upside potential despite the move higher in the stock.

Aerospace and defense company General Dynamics (NYSE:GD) reported solid first-quarter earnings, including strong results from its Gulf-stream business-jet unit. Management laid out longer-term growth and margin opportunities over the next few years that were better than expected. We continue to believe the market may not fully appreciate General Dynamics’ opportunity with the US Navy, which ramps through the next decades, as well as what we view as the company’s under-levered balance sheet and strong cash flows.

BlackBerry (BBRY) moved up on the announcement that an arbitration panel has ordered Qualcomm to pay the company about $815 million related to royalties that BlackBerry overpaid to Qualcomm to license technologies for its smartphone business. As the company exits its handset business, increased investor interest in the potential of its automotive software and Internet-of-things businesses also drove the stock higher.

Alere, which makes medical diagnostic tests, announced an amended merger agreement with Abbott Labs for $51 per share.

The largest detractors from second-quarter performance were SemGroup Corporation, Medicines Company, Post Holdings, Olin Corporation and Dean Foods Company.

SemGroup, a transporter of oil and natural gas, traded lower as investors reacted negatively to the company’s $2.1 billion acquisition of Houston Fuel Oil Terminal Co. SemGroup’s stock was also affected by general weakness in the energy sector.

Medicines Company sold off on concerns that it did not announce a partner for the Phase 3 trial of Inclisiran, an LDL-C lowering agent. The company indicated that discussions with interested parties were continuing.

Packaged-food company Post Holdings traded down on investor concerns about its acquisition of Weetabix, a UK cereal company, and about the threat to retailers posed by Amazon and discount supermarkets.

Near-term chemical production issues and slowing demand for its ammunition led to a weaker near-term outlook for Olin (NYSE:OLN). Neither development changes the long-term industry-consolidation story unfolding in caustic soda. We believe the long-term outlook for Olin is stronger than the market recognizes.

A more competitive milk-pricing environment and general softness in the supermarket business led to a decline in Dean Foods stock. After making a small investment in this company, we have decided to exit this position because of the increasingly competi-tive environment.

Our team prides itself on its ability to ferret out great stories of corporate change across a variety of economic environments. We appreciate the confidence you have entrusted to us, and we look forward to reaffirming your decision.

As always, we thank you for your support.

The performance data quoted herein represents past performance and does not guarantee future results. Market volatility can dramatically impact the Fund’s short-term performance. Current performance may be lower or higher than figures shown. The investment return and princi - pal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Past performance data through the most recent month end is available at www.feim.com or by calling 800.334.2143. The average annual returns for Class A Shares “with sales charge” of First Eagle Fund of America give effect to the deduction of the maximum sales charge of 5.00%.

Performance assumes reinvestment of all distributions and does not account for taxes.

*The annual expense ratio is based on expenses incurred by the fund, as stated in the most recent prospectus.

The commentary represents the opinion of the Fund of America team as of the date noted and is subject to change based on market and other conditions. The opinions expressed are not necessarily those of the firm. These materials are provided for informational purpose only. These opinions are not intended to be a forecast of future events, a guarantee of future results, or investment advice. Any statistic contained herein have been obtained from sources believed to be reliable, but the accuracy of this information cannot be guaranteed. The information provided is not to be construed as a recommendation or an offer to buy, hold or sell or the solicitation of an offer to buy or sell any fund or security.

About the author:

Holly LaFon
I'm a financial journalist with a master of science in journalism from Medill at Northwestern University.

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