Global equity markets turned in another strong quarterly performance led by continued robust returns in the U.S. and a strengthening U.S. dollar (USD) that helped to boost hedged index returns in USD. As valuations have climbed, geographic correlations have begun to break down and market breadth has narrowed. It’s important to note that strong U.S. equity results continue to be produced by a rather narrow component of the index, most notably a number of high technology companies that trade at valuations that do not qualify for inclusion in our value framework.
The Tweedy, Browne Funds continued to make financial progress in this dichotomous environment, but have been held back somewhat by their significant underweight in U.S. equities. In comparison to benchmark indices, the Funds’ results were mixed. The Global Value Fund modestly trailed its benchmark, the MSCI EAFE Index (Hedged to USD), for the quarter, but bested the unhedged EAFE Index by 75 basis points (0.75%), thanks in large part to its currency hedge. The unhedged Global Value Fund II outperformed its benchmark, the unhedged MSCI EAFE Index, by 117 basis points (1.17%). However, the Value Fund and the Worldwide High Dividend Yield Value Fund trailed their benchmark indices by larger margins. These two global funds have relatively modest exposure to U.S. equities and, as a result, have not compared favorably in the short run to the MSCI World Index, where U.S. equities represent nearly 62% of net assets.
Fund returns for the quarter were led by a number of holdings in the pharmaceutical, aerospace, energy, automobile, technology, diversified financial, and insurance components of the Fund portfolios. This included strong returns in three core pharmaceutical holdings, Johnson &Johnson, Novartis and Roche; Safran, the French civil jet engine manufacturer; ConocoPhillips, the U.S.-based exploration & production company, and Total, the French-based fully integrated oil company; Kia Motors, the Korean car maker, and AutoZone, the U.S.-based auto parts retailer; Cisco, the U.S.-based routing and switching company; Berkshire Hathaway, the U.S.-based conglomerate run by Warren Buffett (Trades, Portfolio); SCOR, the French re-insurance company, and Zurich Insurance, the Swiss insurance company.
In contrast, we had disappointing results in a few of our media, bank, energy equipment, and mining holdings, and in our two new Chinese-based internet technology holdings. This included newer positions in WPP, the U.K.-based advertising company, and SINA, the Chinese-based internet technology holding. More mature holdings, such as Axel Springer, Devon Energy, Standard Chartered, Wells Fargo, MRC Global, and Antofagasta also produced quarterly returns that finished in the red.
Portfolio activity was quite robust on the buy side during the quarter as we established a few new positions and added to several of our more recent new buys. These included the Italian farm equipment and trucking company, CNH Industrial (CNHI, Financial), where we took advantage of a pricing opportunity in part brought on by the prospect for new Chinese tariffs targeting U.S. agriculture; SINA Corporation (SINA, Financial), the China-based holding company that owns a controlling interest in one of China’s fastest growing social media companies, Weibo; Tarkett (XPAR:TKTT, Financial), the French-based commercial flooring company where we got a pricing opportunity in part related to rising oil input prices; and Inchcape, the UK-based automobile distributor. We also established a stake in Bollore (XPAR:BOL, Financial), the French-based holding company run by Vincent Bollore that owns interests in a West African ports and shipping business and a European media business, Vivendi. In our view, all five of these companies were trading at significant discounts from our conservative estimates of their underlying intrinsic values, are financially strong, and have what we believe to be excellent prospects for future growth.
On the sell side of our Fund portfolios, we sold most of our remaining shares of Schibsted, the Norwegian-based media company; and sold our remaining shares of Shire, the UK-based pharmaceutical company; Teleperformance, the French-based communications outsourcing company; and Emerson Electric, the US-based electrical systems company. All four of these companies had reached or exceeded our estimates of instrinsic value.
Year-to-date through September 30, non-U.S. equities have trailed U.S. equities in local currency by a large margin. For example, the S&P 500 Index is up over 10% this year while the MSCI EAFE Index is up only 1.4% in local currency. Non-U.S. returns have been held back in part by slowing economic growth, political upheaval (Brexit, Italy, Argentina, Turkey, Venezuela), increasing trade war fears, the prospect for tightening monetary conditions, and highly volatile currencies. As we write, equity market volatility has returned to public equity markets. Technology stocks have begun to falter, fears of a trade war and projections of slowing economic growth have driven the Chinese stock market down more than 20% since reaching its January 24, 2018 high, Europe is bracing for the possibility of a hard Brexit, and numerous emerging markets are in turmoil due in part to high levels of U.S. and euro denominated debts. On top of all this, inflation, interest rates and oil prices are on the rise. On an optimistic note, these concerns are also producing near-term pricing opportunities in an increasing number of non-U.S. equities. We remain encouraged by the improving opportunity set.
Thank you for investing with us and for your continued confidence.
William H. Browne, Roger R. de Bree, Frank H. Hawryalk, J. Jay Hill, Thomas H. Shrager, John D. Spears, Robert Q. Wyckoff, Jr.
Investment Committee
Tweedy, Browne Company LLC
Dated: October 2018
