Olstein All Cap Value Fund annual letter to shareholders for the year ended June 30, 2015.
Dear fellow shareholders:
For the fiscal year ended June 30, 2015, Class C shares of the Olstein All Cap Value Fund appreciated 9.24%. During the same twelve month period, the S&P 500® Index appreciated 7.42% and the Russell 3000® Index appreciated 7.29%. For the three-year period ended June 30, 2015, Class C shares of the Olstein All Cap Value Fund had an average annual return of 18.35% compared to annualized total returns of 17.31% for the S&P 500® Index and 17.73% for the Russell 3000® Index.
Olstein All Cap Value Fund – Market outlook:
The ongoing financial crisis in Greece, the slowdown in the Chinese economy and the expected negative impact of rising U.S. interest rates and strengthening U.S. dollar caused an increase in market volatility during the first six months of 2015 fueling forecasters’ predictions of a market pullback. While there are always forecasters predicting the next market correction or downturn, we believe it is important for investors to weather market events and periods of short-term volatility by favoring the equities of financially strong companies with stable or growing free cash flow, run by managements that have a demonstrated history of deploying cash to the benefit of shareholders.
In the current market, an enormous amount of investor money is flowing into high revenue growth companies with little, if any, free cash flow (e.g., internet, social media, etc.). The money flowing into these high revenue growth companies is coming from the liquidation of industrial stocks that, in our opinion, are temporarily affected by a strong dollar and a less than robust economy (especially overseas), creating what we believe are deep discount stock purchase opportunities with free cash flow yields as high as 10%. In the current environment, there is a strong case for investing in equity securities of companies whose real economic value is unrecognized by the market, obscured by recent market uncertainty or over shadowed by temporary problems. We believe investors can find viable opportunities by focusing on four primary, company-specific factors: (1) a commitment to maintain a strong financial position as evidenced by a solid balance sheet; (2) an ability to generate sustainable free cash flow; (3) management that intelligently deploys cash balances and free cash flow from operations to increase returns to shareholders; and (4) a stock price that is at a discount to intrinsic value because of short-term factors. We further believe that, by prioritizing these factors, we are investing in companies that are positioned to compete more advantageously as economic growth accelerates.
Olstein All Cap Value Fund – Our strategy
There are times when the combination of certain events, such as the Greek financial crisis and slowdown in the Chinese economy, tend to overwhelm equity markets and hit a value-oriented portfolio, such as the Fund’s, particularly hard causing a period of short-term underperformance. At the same time, however, from our perspective as long-term value investors, the negative reaction during periods of increased market volatility creates many favorable opportunities for the Fund to buy good companies at bargain prices.
Throughout the Fund’s history, Wall Street’s obsessive focus on short-term events and obsession with pouring money into “exciting in your face high growth companies” selling at prices and valuations that have already more than discounted the future growth (reducing the probability of future appreciation), often produced significant opportunities for the Fund to purchase stocks in under the radar with 8% to 10% free cash flow yielding companies being thrown out the window to raise money for the overvalued exciting companies. The Fund usually purchases what we believe are undervalued stocks selling at discounts to our calculation of intrinsic value, during periods of pessimism and underperformance by the company or industry that we deem to be temporary. Before purchasing, we conclude that the bargain prices are not warranted by our estimate of the company’s normalized ability to produce future free cash flow. Buying high growth companies at any price can reduce future returns. Although growth companies are exciting, the price you pay is critical. For example, the stock of Coca Cola is still not above its 1998 high stock price (when investors believed it was worth 95 times earnings based onassuming nonstop double digit growth forever). We believe we are currently in one of those periods with many investors buying and selling stocks with little regard for company fundamentals. We, on the other hand, continue to seek and invest in companies that we believe have an ability to deliver longterm value to their shareholders that, in many cases, is not currently recognized by the market. We remain focused on individual companies, their operations and prospects for maintaining or growing sustainable free cash flow. Patience is the most important virtue of a value investor. Forever is an overused word in our industry. Throughout our career, we have seen that whatever is working and/or not working over 3-6 month time periods, the word “forever” is usually attached. Rarely is “forever” true but the word produces both overvalued and undervalued securities in most markets.
Olstein All Cap Value Fund – Portfolio Review
The Fund’s current portfolio consists of companies that we believe have a sustainable competitive advantage, discernible balance sheet strength, a management team that emphasizes decisions based on cost of capital calculations and deploys free cash flow to create shareholder value and are selling at discounts to our estimate of intrinsic value. We believe companies with these characteristics are poised to eliminate the valuation gaps created by the recent events as the economic growth accelerates.
At June 30, 2015, the Olstein All Cap Value Fund portfolio consisted of 103 holdings with an average weighted market capitalization of $57.57 billion. During the fiscal year, the Fund initiated positions in 30 companies and strategically added to positions in 27 companies. Over the same time period, the Fund eliminated its holdings in 32 companies and strategically decreased its holdings in another 12 companies.
Positions initiated during the last twelve months include: Alaska Air Group, Brady Corporation, Citizens Financial Group, Discovery Communications, Dorman Products, Dover Corp., DSW Inc., First Niagara Financial Group, HCA Inc., Janus Capital Group, JetBlue Airways, Johnson Controls Inc., Joy Global Inc., Keysight Technologies, MasterCard Inc., MSC Industrial Direct Co., NVIDIA Corp., Oshkosh Truck Corp, Owens-Illinois, Packaging Corp of America, Patterson Companies, Inc., Pentair Ltd., The Travelers Companies, Twenty-First Century Fox, United Parcel Service, Universal Health Services Inc., Vasco Data Security, Viacom Inc., Visa Inc. and The Wendy’s Company.
Positions eliminated during the past twelve months include: 3M Company, ABB Ltd., American Express, Ann Inc., Avery Dennison, Baxter International, CR Bard, Inc., CareFusion Corp., Charles River Laboratories Inc., Cintas Corp., Coca-Cola Company, Deere & Co., Dentsply International Inc., DuPont, Ethan Allen Interiors, Hormel Foods Corp., International Game Technology, Jones Lang LaSalle Inc., McDonalds Corp., Newell Rubbermaid Inc., NOW Inc., PetSmart Inc., Quest Diagnostics, Ross Stores Inc., Sysco Corp., Teleflex Inc., TJX Companies Inc., TRW Automotive Holdings, URS Corp., V F Corp., Walt Disney Company and Whole Foods Market Inc. As previously discussed in shareholder letters for the third and fourth quarters of 2014, the Fund eliminated its positions in CareFusion Corp., International Game Technology, PetSmart, Inc., TRW Automotive Holdings and URS Corp. on very favorable terms as these companies