David Herro’s market commentary for the second quarter ended June 30, 2015.
Fellow shareholders:
Global financial markets were once again tested by macro events, which featured a five-year tug-of-war between Greece and the European Union (EU), as well as Greece’ creditors—namely, the International Monetary Fund. At the time of this writing, it looks as though this battle is nearly over, with the refusal of the EU team to extend credit and program renewals to Greece. This will ultimately lead to Greece’s formal default and possible removal from the EU. On the other side of the globe, China’s continued weakness has prompted authorities there to begin monetary easing. Events in both the EU and China have resulted in extremely muted equity market returns, and while both the Oakmark International and Oakmark International Small Cap Funds delivered positive returns year-to-date, they performed a bit below their respective indexes. For further details, please see the individual fund reports.
David Herro - All is not gloom and doom…
Despite the negative impact of events in Greece, a small country of approximately 11 million people with an economy smaller than that of the Czech Republic and barely bigger than that of Kuwait, the estimate for Eurozone growth was recently lifted to +1.5% from +0.9%. The impact of structural reform, as well as lower energy costs, a looser monetary policy and a weaker European currency are finally beginning to have a positive impact on the European economy. Oddly enough, even the weakened euro appreciated over the last three months despite the unending standoff by Greece.
As Europe continues to experience challenges, China’s economy is in flux due to its desire to crack down on corruption, as well as its hope to transition from an investment-driven to a consumer-driven economy. The resulting slowdown places pressure on global economic growth and the prices of energy and natural resources. However, in India, the world’s ninth-largest economy, growth is accelerating. This will not make up for all of China’s “growth deficit,” given its relatively lower GDP per capita, but sustainable robust growth in the medium term should be quite positive for global economic growth.
David Herro - Our response…
As I have written many times in these reports, macro events come and go, and the short-term price volatility in the wake of these events, in most cases, has little or nothing to do with the intrinsic value of the businesses in which we invest. It is important to note that our view and standard financial theory state that intrinsic value is a function of the cash flow a business generates—current and future—discounted to the present. For example, a company like Daimler, a European blue-chip, was down 4% on the day after the Greece talks broke down; however, it’s hard to make a case that Daimler’s stock would be 4% less valuable if Greece were to depart from the eurozone or default on its debt.
As value investors, we must be disciplined to hold or even add to assets as their prices drop for no fundamental reasons. We obtain confidence when we ascertain that there is stable intrinsic value in the businesses in which we invest, as this value is far steadier than underlying price movements. We also seize opportunities at times like these to purchase what we view as quality businesses at lower prices. This is the essence of value investing.
In summary, we continue to be focused on value hunting. Though we cannot control price movement, we can apply the principles of disciplined value investing in order to achieve returns over time for those who entrust us with their funds. As always, your patience and support are deeply appreciated.
David G. Herro, CFA
Portfolio Manager
