To Our Shareholders,
For the quarter ended September 30, 2019, the net asset value (NAV) per Class A Share of The Gabelli Value 25 Fund decreased 4.0% compared with increases of 1.7% and 1.8% for the Standard & Poor’s (S&P) 500 Index and the Dow Jones Industrial Average, respectively. Other classes of shares are available. See page 2 for additional performance information for all classes.
Third Quarter Commentary
If you had turned off the news (and Twitter) for the entirety of the third quarter and were told the U.S. stock market was up a little under 2%, just shy of all-time highs, you might assume it was an uneventful quarter. But behind that exceedingly normal quarterly appreciation was a roller-coaster of market, economic and political events.
After climbing in July, stocks fell sharply in August. September saw a slight gain, but beneath the surface many dynamics were at play: momentum stocks declined, and “value” stocks rose sharply, in an abrupt reversal of trends of the last several years. A steady stream of news headlines and world events impacted the market throughout the quarter: the ongoing China/U.S. trade war, Brexit, Saudi oil field attack, central bank easing, yield curve inversion, negative interest rates, U.S. recession concerns, relatively slow growth in China and Europe, and a formal impeachment inquiry of President Trump by Congressional Democrats. On monetary policy, the Federal Reserve confirmed what everyone anticipated: it changed course from its tightening cycle and cut the federal funds rate twice in the quarter (each time by 25 basis points), ending the quarter at 1.75%-2%. The market is currently expecting further rate cuts in October and December. Treasury yields fluctuated widely, with the 10-year ranging from 2% at the beginning of the quarter, to under 1.5% in early September, to finishing the quarter at 1.7%. As of this writing, yields are now near 1.5%. and stocks have sold off once again.
The U.S. economic picture continues to be relatively solid. GDP was up 2% in the second quarter, following 3.1% growth in the first quarter. The unemployment rate continues to test the lower bound of what many believed possible, falling to 3.5% in September, a 50-year low. That said, there are negative trends in some key indicators, with the PMI falling to 47.8%, showing a contraction in manufacturing, and the ISM falling to 52.6%, indicating slowing growth for the services sector.
Many questions remain for stock market participants: Will the U.S. and China finally agree to a trade deal? Will the Federal Reserve continue cutting, or even become more aggressive in the face of worsening economic data? If so, how quickly would interest rate sensitive businesses start to benefit and economic growth accelerate? Even if President Trump survives impeachment, will controversy and a slumping economy lead him to be voted out 2020? If he does, will the Democratic victor be a relative centrist, or a progressive with an aggressive economic agenda with implications for broad swaths of the economy? The answers to these questions will have real impacts for both the economy and equity values.
While we do not pretend to have unique insight into the outcome of these open questions, we do attempt to build a portfolio of strong businesses that can both survive and even thrive in a wide variety of economic (and political) conditions. These include suppliers of critical components to aerospace manufacturers, providers of media content as well as the broadband by which it is delivered, manufacturers of essential infrastructure products that keep our utilities running and water clean, and producers of food and beverages we consume daily. We continue to buy stocks that trade at discounts to our estimates of Private Market Value with one or more catalysts that can surface that value. We are happy to own attractively valued excellent businesses with the potential to compound value for extended periods of time. As always, we hope for the best outcomes for the economy and stock market but prepare for the worst, and believe (y)our Fund can successfully navigate these volatile times.
Investment Scorecard
Top contributors to performance during the quarter included Sony (6.5% of net assets as of September 30, 2019) (+10%), which did not announce a split-up of its businesses amid investor pressure, but did commit to 200 billion yen of share repurchases and ongoing constructive dialogue with shareholders; Aerojet Rocketdyne (3.5%) (+13%), which continues to benefit from increasing spending on both military and commercial aerospace projects; Loral Space & Communications (0.8%) (+18%), whose 63%-owned Telesat moves closer to launching a low earth orbit (LEO) constellation; and Grupo Televisa (1.0%) (+15%), where Mexican broadband continues to grow strongly and whose Mexican broadcast business faces easier comparisons in the second half of the year.
Detractors from performance included Viacom (4.8%) (-24%) and CBS (6.2%) (-14%), which announced a long-anticipated stock merger, albeit without an incremental premium for the Viacom Class A voting shares; National Fuel Gas (2.6%) (-11%), which was impacted by falling natural gas prices; Navistar International (1.0%) (-19%), the truck-maker plagued by falling industry shipments and recession fears; and Flowserve (1.2%) (-12%), which declined amid concerns about a potential recession and the corresponding fall in the Brent crude price.
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 September 30, 2019.
Aerojet Rocketdyne Holdings Inc. (AJRD, Financial) (3.5% of net assets as of September 30, 2019) (AJRD – $50.51 – NYSE) (Cv., 2.25%, 12/15/2023), based in El Segundo, California, is a manufacturer of aerospace and defense products and systems for defense and space applications. The manufacturing operation is a leading technology based designer, developer, and manufacturer of aerospace and defense products for the U.S. government, including the Department of Defense and NASA. AJRD also manufacturers products for other governmental contractors and the commercial sector. The company also has significant real estate holdings, including significant land holdings east of Sacramento, California. AJRD is in the process of gaining governmental approvals to optimize the value of the land. These convertible bonds provide a lower volatility way to invest in AJRD. The bonds provide a reasonable yield, where the stock does not pay a dividend.
American Express Co. (AXP, Financial) (4.3%) (AXP – $118.28 – 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 September 2019, American Express has 114 million cards in force and nearly $84 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.
Madison Square Garden Co. (MSG, Financial) (4.8%) (MSG – $263.52 – 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.
Crane Co. (CR, Financial) (2.1%) (CR – $80.63 – NYSE) based in Stamford, Connecticut, is a diversified manufacturer of highly engineered industrial products comprised of four business segments: Fluid handling, Aerospace & Electronics, Engineered Materials, and Payments & Merchandising Systems with over 11,000 employees across 26 countries. The company recently acquired Crane Currency, a producer of currency products for more than 200 years and is entrusted by more than 50 central banks to play an integral role in the design and manufacture of their nations’ banknotes. Crane Currency is the fastest growing fully integrated global currency provider and is an excellent complement to Crane Co.’s expanding presence in the currency and payment markets.
Comcast (CMCSA, Financial) (1.7%) (CMCSA – $45.08 – NASDAQ) is a television and broadband provider in the U.S., UK, Italy and Germany. Comcast is also a leading media company through its ownership of NBC Universal, an entity that includes the NBC, Telemundo, and USA television networks (among others), the Universal movie studio and the Universal Parks portfolio. In October 2018, Comcast completed its acquisition of Sky plc, adding distribution capacity in the UK, Germany, and Italy. The company has executed well in both its distribution and content businesses. The introduction of the industry-leading X1 platform has helped Comcast gain video subscribers in the U.S., while a reinvestment in content and more focused leadership have improved NBC’s viewership and profitability. CMCSA is embarking on its next growth initiatives with the introduction of wireless into its bundle and the unveiling of its advertising-supported direct-to-consumer service known as “Peacock.”
DISH Network Corp. (DISH, Financial) (1.5%) (DISH – $34.07 – NASDAQ) approximately 12 million subscribers through its original satellite business and newer Sling internet delivered over-the-top offering. Founder Charlie Ergen owns approximately half of DISH’s shares. DISH has accumulated a significant spectrum position at attractive prices. DISH could monetize its spectrum through a sale of the spectrum or the whole company, or, more likely, a partnership with an existing wireless operator or new entrant to the industry such as Amazon. These events could be accelerated if DISH is able to consummate its acquisition of customers and spectrum divested as part of the Sprint/T-Mobile merger process. That transaction will likely need to clear a series of court challenges early in 2021.
Newmont Goldcorp Corp. (NEM, Financial) (4.2%) (NEM – $37.92 – NYSE) based in Denver, Colorado, is one of the largest gold mining companies in the world. Founded in 1921 and publicly traded since 1925, NEM is the only gold company included in the S&P 500 Index and Fortune 500. Newmont Goldcorp was created on April 18 when Newmont acquired fellow gold miner Goldcorp in a $10 billion stock for stock deal. We expect the newly combined company to produce approximately 6.5 million ounces of gold in 2020 at all-in sustaining costs of $850 per ounce. In acquiring Goldcorp, Newmont is aiming to turn around underperforming assets and establish a large, low-cost, well capitalized gold mining business which generates free cash flow at almost any gold price and has the capacity to grow production organically. As such, it is seeking to cement its position as the premier gold investment vehicle in the world.
Sony Corp. (SNE, Financial) (6.5%) (SNE – $59.13 – NYSE) is a conglomerate based in Tokyo, Japan focusing on direct-to-consumer entertainment products supported by the company’s technology. Sony is the #1 integrated global gaming company and we expect the gaming segment to contribute over 1/3 of total EBITDA (ex-financial) in 2020 following the launch of the PlayStation 5. Sony Music Recording commands #2 and Music Publishing #1 global share. Sony also operates the Sony/Columbia film studio, It is an image sensor leader with over 50% global revenue share and is the dominant supplier to Apple iPhone. Sony’s Electronics business is a globally diversified cash cow. It also holds majority ownership of Sony Financial Services. We expect flat EBITDA in 2019 increasing 8% in 2020 and 10% in 2021 as the gaming division turns, the music business continues to benefit from the growth of streaming and the Film Studio rebounds.
Viacom Inc. (VIA, Financial) (4.8%) (VIA – $26.26 – NASDAQ) is a pure-play content company that owns a global stable of cable networks, including MTV, Nickelodeon, Comedy Central, VH1, BET, and the Paramount movie studio. Viacom’s cable networks generate revenue from advertising sales, fixed monthly subscriber fees, and ancillary revenue from toy licensing. In August 2019, Viacom and CBS – each controlled by the Redstone family’s National Amusements – agreed to combine in an all-stock transaction set to close in December 2019. The companies separated in 2005, but changes in the media landscape have put a premium on global scale. Together ViacomCBS should be able to better navigate shifts in consumer behavior and monetization.
November 8, 2019
Note: The views expressed in this Shareholder Commentary reflect those of the Portfolio Managers only through the end of the period stated in this Shareholder Commentary. The Portfolio Managers’ views are subject to change at any time based on market and other conditions. The information in this Portfolio Managers’ Shareholder Commentary represents the opinions of the individual Portfolio Managers and is not intended to be a forecast of future events, a guarantee of future results, or investment advice. Views expressed are those of the Portfolio Managers and may differ from those of other portfolio managers or of the Firm as a whole. This Shareholder Commentary does not constitute an offer of any transaction in any securities. Any recommendation contained herein may not be suitable for all investors. Information contained in this Shareholder Commentary has been obtained from sources we believe to be reliable, but cannot be guaranteed.
