Oakmark Global Fund: Third Quarter 2011
September 30, 2011
Quarter and Fiscal Year Review
Although the Oakmark Global Fund’s fiscal year started strong, the September quarter proved so decisively negative that the year ended in a loss. The Fund suffered a loss of 18% in the quarter, similar to the MSCI World Index loss of 17%. The Lipper Global Fund Index also dropped 20%. The quarter’s sizable decrease changed the Fund’s calendar nine-month return from a small positive gain to a 16% loss. This contrasts to the 12% decline for the MSCI World Index and the 16% decline for the Lipper Global Fund Index. Finally, for the Fund’s fiscal year ending September 30, the returns were a 7% loss for the Fund, 4% loss for the MSCI, and 8% loss for the Lipper Global Fund Index. As always, we are most pleased to report the Fund’s 9% compound annualized rate of return since its inception in 1999.
Last year at this time we were able to write that no single country produced a negative three-month return for the Fund. It is probably obvious from this quarter’s total return number that all countries in which the Fund held investments lost money. Germany experienced the largest percentage loss, followed by Switzerland and Spain, but the negative contribution of the U.S. to the total loss was the greatest, due to the Fund’s much higher weighting in U.S. equities. Currency effects were also negative except in Japan.
The Fund owned shares of 41 different companies at some point during the quarter. Of those 41, only MasterCard (U.S.) and Square Enix (Japan) managed a positive total return in the period. We noted in last quarter’s report that, as June ended, the Federal Reserve would issue its final debit interchange rules, as required by the Dodd-Frank act. We argued that, regardless of the interchange outcome, MasterCard was undervalued and attractive. As it happened, the market perceived the new rules to be more favorable than expected, and this supported MasterCard’s shares in this difficult trading environment. Square Enix has been a volatile stock in most time periods. The company’s shares declined significantly after the March earthquake and tsunami, and the recent quarter’s price improvement merely corrected some of the prior excessive movement.
Roughly three-fourths of the Fund’s holdings lost more than 10% in the quarter. The issues that had the biggest negative contribution to the Fund’s return were Snap-on (U.S.), Adecco (Switzerland), Rheinmetall (Germany), Credit Suisse (Switzerland) and Apache (U.S.). Snap-on is a small-capitalization company whose stock has often been volatile. While Snap-on did not report any problems during the quarter, investors may have reacted negatively to the company’s large exposure to deteriorating Mediterranean markets. Steady defense-business growth combined with renewed auto-industry profitability have put Rheinmetall on pace to generate another record year of profits. The shares have been weak, like we have seen for many European industrial companies, because investors fear that government austerity programs may precipitate a European recession. Credit Suisse shares have declined in sympathy with other European financials. With immaterial exposure to sovereign debt, we believe the strength of the Swiss franc (and not debt-related charges) is hurting profits. The private bank continues to see strong net growth in new money. Apache declined in concert with petroleum prices.
Adecco, the word’s largest temporary help and permanent placement company, is currently trading at prices last seen in April '09. Despite macroeconomic concerns, Adecco's business today is considerably better-positioned and is trading at significantly lower multiples than it was in April 2009. To put this in perspective, Adecco generated EUR 14.8 billion in revenue and EUR 402 million in operating profit in 2009, so we were paying a high-teens multiple on 12-month expected EBIT. In 2011, we forecast that Adecco will generate EUR 20.5 billion in revenue and more than EUR 850 million in operating profit, so today we are buying the business for 8x 12-month expected EBIT. In addition, despite a relatively lackluster recovery in employment across most of the developed world, Adecco's revenue has increased more than 20% since 2009 because employers value the flexibility that temporary staff provides in today's more volatile world. Adecco has also grown via mergers and acquisitions. It has utilized almost EUR 1 billion of the EUR 1.25 billion it generated in free cash flow over the past three years to buy professional staffing businesses, such as MPS in the U.S. Even with its mergers and acquisitions spending, Adecco returned nearly EUR 250 million to shareholders via dividends without increasing its leverage.
For the fiscal year ended September 30, Italy, France, the United Kingdom and Ireland all managed to generate positive returns for the Fund. Switzerland, Japan, Australia, Germany and Spain detracted most. Bulgari (Italy), MasterCard, Sara Lee (U.S.), Television Francaise 1 (France) and Oracle (U.S.) were the largest individual contributors. The largest detractors were Credit Suisse, Square Enix, UBS (Switzerland, now sold), Adecco and Tenet Healthcare (U.S.).
We traded actively in the quarter to try to take advantage of periodic volatile swings in the markets. We did not initiate any new positions, however. We eliminated three European holdings: Neopost (France), Television Francaise 1 and UBS. The two French holdings had performed well, and we exited them because we perceived better opportunities elsewhere. Late in the quarter, UBS disclosed that unauthorized trading for the bank’s account had generated a $2.3 billion loss and soon after CEO Oswald Grübel resigned. We had maintained the Fund’s UBS holding in part because of what we had seen Grübel accomplish at Credit Suisse previously. His departure, along with the bank’s obvious controls shortfall, caused us to reassess our ownership.
The U.S. weight within the Fund grew modestly in the quarter. At 43%, this weight continues to be somewhat less than the U.S. weight in global indices. As always, we construct the portfolio based on our perception of individual dominant investment opportunities, paying little attention to corporate domicile as long as we are within the Fund’s prospectus limits. We are overweight compared to our indices in both Switzerland and Japan. Each holding in those two countries meets our requirements for quality and value, but they also have the potential advantage of an eventual correction in currency imbalances. We believe that the Swiss franc and the Japanese yen are significantly overvalued relative to other currencies. If we are right and these currency imbalances correct, this should benefit our holdings.
We continue to believe that the U.S. dollar is undervalued relative to other global currencies. It is important, however, to note that the relative value of the U.S. dollar has improved significantly over the past few months. For example, in early August, 0.72 Swiss francs were needed to purchase 1 U.S. dollar, an all-time low. The franc had soared at that time as investors flocked to the "safe haven" currency amid concerns regarding the debt crisis in Europe. This quickly reversed in August and September as the Swiss National Bank intervened to prevent further appreciation of the franc. The Swiss government argued that to allow the franc to continue at such an elevated level would hurt Swiss exporters and create a drag on their earnings. As of quarter end, the franc was trading at 0.91, a 26% change in value relative to the U.S. dollar, in less than two months. Other global currencies, excluding the Japanese yen, have experienced similar movements in the past few months. Our hedge positions are designed to reduce the Fund’s vulnerability to volatility in the currency markets. Specifically, as of quarter end, approximately 85% of the Fund’s Australian dollar, 76% of the Swiss franc, 76% of the Japanese yen, 39% of the Swedish krona and 39% of the euro exposures were hedged.
Thank you for being our partners in the Oakmark Global Fund. Please feel free to contact us with your questions or comments.
Clyde S. McGregor, CFA
Robert A. Taylor, CFA
As of 9/30/11, Mastercard, Inc., Class A represented 3.4%, Square Enix Holdings Co., Ltd. 4.5%, Snap-On Inc. 4.4%, Adecco SA 2.6%, Rheinmetall AG 2.4%, Credit Suisse Group 2.8%, Apache Corp. 1.8%, Bulgari SpA 0%, Sara Lee Corp. 1.4%, Societe Television Francaise 1, 0%, Oracle Corp. 4.9%, UBS AG 0%, Tenet Healthcare Corp 1.6%, and Neopost SA 0% of the Oakmark Global Fund’s total net assets. Portfolio holdings are subject to change without notice and are not intended as recommendations of individual stocks.
The MSCI World Index (Net) is a free float-adjusted market capitalization weighted index that is designed to measure the global equity market performance of developed markets. This benchmark calculates reinvested dividends net of withholding taxes using Luxembourg tax rates. This index is unmanaged and investors cannot invest directly in this index.
The Lipper Global Fund Index measures the performance of the 30 largest mutual funds that invest in securities throughout the world. This index is unmanaged and investors cannot invest directly in this index.
Investing in foreign securities presents risks that in some ways may be greater than in U.S. investments. Those risks include: currency fluctuation; different regulation, accounting standards, trading practices and levels of available information; generally higher transaction costs; and political risks.
The discussion of the Funds’ investments and investment strategy (including current investment themes, the portfolio managers' research and investment process, and portfolio characteristics) represents the Funds’ investments and the views of the portfolio managers and Harris Associates L.P., the Funds' investment adviser, at the time of this letter, and are subject to change without notice.