Sound Shore Fund letter to investors for the first quarter ended March 31, 2016.
The Sound Shore Fund’s Investor Class (ticker SSHFX) ended March 31, 2016 with a net asset value of $41.54 per share. The first quarter total return of 0.58% lagged the Standard & Poor’s 500 Index (“S&P 500”) which rose 1.35% and the Dow Jones Industrial Average (“Dow Jones”) which rose 2.20%.
We are required by the SEC to say that: Performance data quoted represents past performance and is no guarantee of future results. Current performance may be lower or higher than the performance data quoted. Investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than original cost. The Fund’s Investor Class 1, 5, 10, and 15-year average annual total returns for the period ended March 31, 2016 were -5.33%, 9.99%, 6.01%, and 6.50%, respectively. As stated in the current prospectus, the Fund’s Investor Class total annual operating expense ratio (gross) is 0.92%. For the most recent month-end performance, please visit the Fund’s website at www.soundshorefund.com.
Domestic equity indices ended with modest gains after a volatile first quarter of 2016. Stocks dropped sharply through mid-February due to credit market concerns, but subsequently recovered as the Federal Reserve paused on rate hikes and oil prices rebounded, signaling a potential improvement in economic growth. Even so, the best performing telecom and utility sectors seemed indicative of investor caution.
Sound Shore Fund – Portfolio Review
Consistent for the last 38 years, Sound Shore Management’s investment process focuses on stocks that are at low absolute and/or relative P/E multiples and out of favor with Wall Street. Our fundamental research targets company specific drivers that can build value despite low consensus expectations. As we discussed in greater detail in our 2015 year-end letter, industries undergoing significant competitive transitions can be fertile ground for identifying stocks where perceptions have changed more than reality.
For example, two of Sound Shore’s better first quarter contributors, broadcaster CBS and tech supplier Oracle, are legacy participants successfully competing amidst industrial disruption. CBS advanced after confirming better than expected first quarter ad sales and strong content licensing growth prospects via “over the top” video streaming. Likewise, Oracle was higher following cloud software sales progress that topped forecasts within its large installed, blue chip customer base. Importantly, both companies proved to be adapting and winning within new business dynamics, in contrast to skeptical consensus expectations.
Meanwhile, quarterly detractors included financial holdings CIT and Citizens Financial Group, which declined with their banking peers due to net interest margin and loan growth uncertainty. However, CIT’s and Citizens’ substantial excess regulatory capital, estimated to be at least 20% of market capitalization, and focused, proven managements stand in contrast to recent investor concerns. These stocks traded down to prices significantly below book value during the quarter, providing us an opportunity to add to our positions. Also in financials, at the beginning of the year we took profits in insurer American International Group, a long-term outperformer which had reached our target valuation. Originally purchased in 2011 for less than book value and 7 times earnings, AIG outperformed the S&P 500 and its sector due to its internal steps to improve its return on equity.
The current backdrop for markets includes a fairly typical menu of concerns, topped by peak corporate profit margins, possible negative interest rates, and the US elections. We will leave it to the pundits to sort these variables out, and instead keep our investment effort trained on identifying stocks that are attractively priced versus their historic norms with capable managements driving financial improvement. As of March 31, 2016 our portfolio is valued at 14.4 times next four quarter earnings, a meaningful discount to the S&P 500’s 16.7 times, despite strong balance sheets and better free cash flow.
Thank you for your investment alongside ours in Sound Shore.
SOUND SHORE FUND
Harry Burn, III
John P. DeGulis
T. Gibbs Kane, Jr.