To Our Shareholders,
For the quarter ended March 31, 2019, the net asset value (NAV) per Class AAA Share of The Gabelli Asset Fund increased 11.3% compared with an increase of 13.7% for the Standard & Poor’s (S&P) 500 Index. Other classes of shares are available. See page 2 for additional performance information for all classes.
First Quarter Commentary
What a difference a quarter makes.
Just three months ago, the stock market finished 2018 with one of the worst Decembers on record. Mr. Market had a lot to worry about: slowing global growth, an escalating trade war between the U.S. and China, and rising interest rates, which have the effect of lowering the multiple investors are willing to pay for the earnings or cash flows generated by public companies.
Fast forward to now, and we have slowing but still-robust economic conditions, especially in the U.S., where unemployment sits near historic lows. Conventional wisdom is that the U.S. will eventually come to some form of a trade agreement with China. Perhaps most important, the Federal Reserve made an about-face on its tightening stance. Chairman Powell recently said the next move in rates could be either down or up depending on the data. As a consequence, the U.S. 10 Year Treasury, which yielded over 3.2% at one point in the fourth quarter of 2018, yielded less than 2.4% at one point in the first quarter of 2019.
This combination of the sky not actually falling and the Federal Reserve changing course so quickly led to an extraordinary quarter for the stock market. U.S. stocks posted the best quarterly return since 2009 and the best first quarter since 1998. The gains were broad based, as all S&P 500 sectors exceeded five percent for the quarter. Small capitalization stocks and economically-sensitive industrials – which were the hardest hit in the fourth quarter – were among the best performers.
The first quarter also saw the tenth anniversary of the S&P 500’s intraday bear market low of 666 in 2009 that marked the end of the Global Financial Crisis. This serves as a reminder that, while Mr. Market is in a far better mood now than around the 2018 holidays, risks always remain. Our time-tested methodology of seeking businesses trading at discounts to Private Market Value with catalysts to surface value has served us well through both up and down markets in the past, and we expect it to again in the future.
Deals, Deals & More Deals
Global merger and acquisition activity was $959 billion in the first quarter. While this marked an 18% decline from last year’s record $1.2 trillion in the first quarter, it is still the fourth largest opening quarter for M&A activity since records began in 1980. With market rates significantly lower, the Fed no longer tightening, and the trade/global growth scare of last year seemingly behind us, we believe we are again in an environment that should be constructive for M&A activity.
Investment Scorecard
Top contributors to performance during the quarter included Ametek (2.5% of net assets as of March 31, 2019) (+23%), which posted strong fourth quarter results in both its Electronic Instruments Group and Electromechanical Group, and increased its share buyback authorization by $500 million; Swedish Match (1.8%) (+30%), which reported a strong fourth quarter, driven by its snus and tobacco-free ZYN products; Genuine Parts Company (1.9%) (+18%), which reported strong results and announced two acquisitions: Axis, which expands its capabilities in industrial plant floor automation, and PartsPoint, a leading automotive parts distributor in the Benelux countries in Europe; Mastercard (1.4%) (+25%), which again benefited from continued payments growth across all its regions globally; and Honeywell (1.4%) (+21%), which reversed its share price decline from the fourth quarter of 2018 as concerns about a global economic slowdown and trade tensions abated.
Detractors from performance included Sony (1.5%) (-13%), which declined amid concerns about the prospects of its video game console business as well as negative trends for iPhones (of which it is a component supplier) in China, though after the quarter it was reported that activist investor Third Point had taken a stake in the company; Kikkoman (0.9%) (-9%), which experienced a decline in sales in its Soy Sauce division; CVS Health (0.3%) (-17%), which suffered from reimbursement pressures in its core retail pharmacy business and challenges with its Omnicare acquisition; and Evolent Health (0.1%) (-37%), which faces a challenging start to 2019 due to issues at two clients, one which faced a steep Medicaid rate cut that threatened to put them out of business (which has since been reversed), and another that was acquired and the buyer took Evolent’s services in-house.
Let’s Talk Stocks
The following are stock specifics on selected holdings of our Fund. Favorable earnings prospects do not necessarily translate into higher stock prices, but they do express a positive trend that we believe will develop over time. Individual securities mentioned are not necessarily representative of the entire portfolio. For the following holdings, the share prices are listed first in United States dollars (USD) and second in the local currency, where applicable, and are presented as of March 31, 2019.
American Express Co. (AXP, Financial) (1.2% of net assets as of March 31, 2019) (AXP – $109.30 – NYSE) is the largest closed loop credit card company in the world. The company operates its eponymous premiere branded payment network and lends to its largely affluent customer base. As of December 2018, American Express has 114 million cards in force and nearly $82 billion in loans, while its customers charged $1.2 trillion of spending on their cards in 2018. The company’s strong consumer brand has allowed American Express to enter the deposit gathering market as an alternate source of funding, while the company’s affluent customers have picked up spending. Longer term, American Express should capitalize on its higher spending customer base and continue to expand into other payment related businesses, such as corporate purchasing, while also growing in emerging markets. Similarly, the company is looking at the growing success of social media as an opportunity to expand its product base and payment options.
AMETEK (AME, Financial) (2.5%) (AME – $82.97– NYSE) is a diversified supplier of highly engineered equipment used in a broad array of industrial end markets. The company offers a diverse product portfolio including test and measurement, metrology, and precision motion control equipment in addition to specialty materials and aftermarket services. Organic sales growth has been strong, up 7% year-over-year during 2018 and the company finished December with a record backlog of $1.6 billion. AMETEK has also maintained a robust pace of acquisition activity, spending a total of $1.1 billion acquiring six businesses during 2018. Two of the company’s most recent acquisitions are software and IOT-based businesses that will allow AMETEK to leverage the vast amounts of measurement and instrumentation data that it collects for customers to provide more recurring, service-based offerings.
Bank of New York Mellon Corp. (BK, Financial) (1.3%) (BK – $50.43 – NYSE) is a global leader in providing financial services to institutions and individuals. The company operates in more than one hundred markets worldwide and strives to be the global provider of choice for investment management and investment services. As of December 2018, the firm had $33.1 trillion in assets under custody and $1.7 trillion in assets under management. Going forward, we expect BK to benefit from rising global incomes and the cross border movement of financial transactions. We believe BK is also well positioned to grow earnings in a rising interest rate environment, given its large customer cash deposits and significant loan book.
CNH Industrial NV (CNHI, Financial) (0.7%) (CNHI – $10.20/€9.06 – NYSE/Borsa Italiana Milan) with headquarters in London, England, and Burr Ridge, Illinois, is a global capital equipment manufacturer that was demerged from parent Fiat in 2013. CNHI is unique in that it has leading positions in a variety of global machinery markets. It is best known for its agricultural equipment business, consisting of Case IH, New Holland Agriculture, and Steyr brands. The company’s other businesses include Iveco, a leading global truck and bus manufacturer, as well as Case and New Holland construction machinery. Finally, FPT Industrial provides engines and transmissions for the company’s captive businesses and also sells to other machinery manufacturers. CNHI is well positioned, not only for a cyclical recovery in its agricultural and equipment end markets, but also for significant cash flow generation in the years ahead. We believe CNHI can surface value through financial engineering, with Iveco being a particularly attractive asset for other global machinery manufacturers.
ConAgra Brands, Inc. (CAG, Financial) (0.4%) (CAG – $27.74 – NYSE) headquartered in Chicago, Illinois, is a manufacturer and marketer of food products with brands including Healthy Choice meals, Hebrew National hot dogs, Orville Redenbacher’s popcorn, PAM cooking spray, Reddi-wip, and Slim Jim. The company has undergone tremendous change since CEO Sean Connolly, formerly of Hillshire, took over in 2015. The company sold its private label business to TreeHouse Foods for $2.7 billion in February 2016 and spun off its Lamb Weston potato business later that year. Now as a pure-play branded food company, ConAgra is focusing on better innovation and marketing, especially in on-trend health and wellness areas. At the same time, it is delivering improved profitability through pricing and operating efficiency. New products include Healthy Choice Power Bowls, cage free Egg Beaters, coconut and almond milk Reddi Whip, and Slim Jim Premium. In October 2018, the company acquired Pinnacle Foods, adding leading brands such as Birds Eye vegetables, Duncan Hines baking mixes, Vlasic pickles, Wish Bone salad dressings and Udi’s gluten-free breads and meals. The $11 billion transaction is expected to generate $285 million of synergies. While some Pinnacle brands experienced sales declines following the acquisition, we are confident in Connolly’s ability to turn performance around and deliver value for shareholders.
Genuine Parts Co. (GPC, Financial) (1.9%) (GPC – $112.03 – NYSE) is an Atlanta, Georgia based distributor of automotive and industrial replacement parts, and electrical and electronic components. We expect GPC’s well known NAPA Auto Parts group to benefit as an aged vehicle population, which includes the highest percentage of off warranty vehicles in history, helps drive sales of automotive aftermarket products over the next several years. Additionally, economic indicators remain supportive of the company’s industrial and electrical parts distribution businesses amid steady economic expansion. Finally, GPC’s management has shown consistent dedication to shareholder value via share repurchases and dividend increases.
Madison Square Garden Co. (MSG, Financial) (1.7%) (MSG – $293.13 – NYSE) is an integrated sports and entertainment company that owns the New York Knicks, the New York Rangers, the Radio City Christmas Spectacular, The Forum, and that iconic New York venue, Madison Square Garden. These evergreen content and venue assets benefit from sustainable barriers to entry and long term secular growth. MSG completed the separation of its associated regional sports networks in September 2015, leaving a reliable cash flow stream for MSG to reinvest and repurchase shares. In June 2018, the company announced that it was likely to spin-off of its teams, which we think could further surface value, especially as MSG expands its portfolio to include Spheres venues in Las Vegas and London.
Republic Services Inc. (RSG, Financial) (1.8%) (RSG – $80.38 – NYSE) based in Phoenix, Arizona, became the second largest solid waste company in North America after its acquisition of Allied Waste Industries in December 2008. Republic provides nonhazardous solid waste collection services for commercial, industrial, municipal, and residential customers in 40 states and Puerto Rico. Republic serves more than 2,800 municipalities and operates 190 landfills, 207 transfer stations, 349 collection operations, and 91 recycling facilities. Since the Allied merger, Republic has benefited from synergies driven by route density, beneficial use of acquired assets, and reduction in redundant corporate overhead. Republic is committed to its core solid waste business. While other providers have strayed into alternative waste resource technologies and strategies, we view Republic’s plan to remain steadfast in the traditional solid waste business positively. We expect continued solid waste growth acquisitions, earnings improvement, and incremental route density and internalization growth in already established markets to generate real value in the near to medium term, highlighting the company’s potential.
Sony Corp. (SNE, Financial) (1.5%) (SNE – $42.24 – NYSE) is a diversified electronics and entertainment company based in Tokyo, Japan. Sony manufactures the PlayStation videogame consoles and games, operates the Columbia film studio and Sony Music entertainment. It also manufactures image sensors, mobile devices, consumer electronics, and mirrorless and professional cameras and holds majority ownership of Sony Financial Services. We expect growth in consoles/game, music, and image sensors. We expect operational improvements in consumer electronics and entertainment to generate EBITDA growth through 2020.
Conclusion
We continue to seek high-quality companies trading at a discount to Private Market Value – the price an informed industrialist would pay to own an entire business – and look for catalysts to surface value, such as industry consolidation, financial engineering, new management, regulatory changes, or a change in cash flow allocation. As active stock pickers, we let Mr. Market serve us rather than inform us about a company’s value, and are always on the hunt for bargains.
April 26, 2019
