The iMGP Oldfield International Value Fund (the “Fund”) fell 0.73% during the second quarter of 2023, underperforming its benchmark, the MSCI EAFE Value Index (up 3.15%) (the “Benchmark”), as well as the MSCI EAFE Index (gain of 2.95%), and the Morningstar Foreign Large Value Fund peer group’s (the “Peer Group”) 2.76% return.
Since its inception November 30, 2020, the Fund has gained 4.89% annualized, trailing its Benchmark and Peer Group, which have gained 7.14% and 6.58% annualized, respectively. The MSCI EAFE Index has gained 4.21% annualized over the same period.
Performance quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance of the funds may be lower or higher than the performance quoted. Short term performance is not a good indication of the Fund’s future performance and should not be the sole basis for investing in the Fund.To obtain standardized performance of the funds, and performance as of the most recently completed calendar month, please visit www.imgpfunds.com.There are contractual fee waivers in effect through 4/30/2024.
Quarterly Portfolio Manager Commentary
While the Artificial Intelligence inspired excitement in May in the U.S. was driven by just the seven largest stocks, the U.S. market breadth improved in June and the U.S. led global markets higher. A ‘Goldilocks’ view on inflation in full retreat and interest rates topping out at current levels is now pervasive despite the commentary from the U.S. Federal Reserve’s June meeting that they were likely to raise rates further in the months ahead. The Fed says they are worried about the tightness of the labor market and resilience of consumer spending.
The U.S. core consumer price index (CPI), that excludes food and energy prices, was 5.3% year-on-year in May, down from its peak in September 2022 at 6.6%. The U.S. unemployment rate of 3.7% is in-line with levels seen at the end of 2019 and lower only in the early 1950’s and briefly in 1969.
That said, the U.S. producer price index (PPI) is surely the leading indicator that is giving U.S. equity investors the confidence to ignore the comments from the Fed. The annual PPI rate is now just 1.1%, below the 1.7% average between 2010 and the end of 2019, and down from its 11.7% peak in March 2022.
The U.S. economy is finely poised. While the equity market is focused on PPI, the U.S. bond market is less certain with the 10-year bond yield back up to 3.8% (from 3.3% in April), against its October 2022 peak of 4.2%. The spread between the three-month treasury note rate and the 10-year bond rate stands at negative 148 basis points, almost its most negative reading ever. The indicator is infamous because when it turns negative it has a 100% record of predicting a U.S. recession within the next eighteen months. The indicator turned negative in late October 2022.
The U.S. equity market is finely poised too. The U.S. market trades at 20.5x expected earnings and 22x historic earnings. If the equity market is right in its outlook on the economy, then the U.S. market looks fully valued. If the bond market is right, then the equity market is riding for a fall. Either way, the outlook for international markets, trading on just 13x earnings looks to have a larger margin of safety built into the valuation than the U.S. market.
The strategy lagged the Benchmark with a loss of 0.73% during the quarter against the Benchmark and MSCI EAFE both up around 3%. Year-to-date, the Fund has returned 10.75% compared to gains for MSCI EAFE and Benchmark of 11.67% and 9.28%, respectively. For the quarter, the largest negative contributors to the strategy’s performance relative to its benchmark were LG Household & Health Care Alibaba, BT Group, Bayer, and Embraer.
LG H&H, the South Korean consumer goods company, has been weak in recent months. Relatively good performance in LG H&H’s South Korea-focused businesses (which comprised more than half of LG H&H’s 2022 operating profit) continues to be overshadowed by weak performance in the China-focused skin care business. LG H&H is not alone in delivering weak performance in skin care. Key peers, such as Amorepacific and Estee Lauder, are equally challenged by the disappointing recovery of Chinese tourism, challenges in the Korean duty-free channel and changing shopping habits. We continue to believe that the headwinds facing LG H&H are more temporary rather than structural—and therefore remain optimistic that LG H&H’s performance will improve. The shares have fallen to their lowest level since 2014 and now discount little in the way of recovery.
BT Group, the UK’s incumbent fixed and mobile telecom operator, was among the strongest performers in the portfolio in 2023 through the end of April, but the performance in May and June has reflected another set of ‘messy’ results that were reported in May. While the results were broadly solid, the company lowered its forecast for free cash flow in the current year, fiscal 2024. The company is determined to maximize the build rate of its all-fiber optic network and has decided to invest the tax savings granted in the UK government’s April budget. With the regulator approving of Openreach’s Equinox 2 pricing regime, BT clearly feels the need to head off the unexpectedly high levels of build-out being achieved by the alternative network suppliers (“Alt-Nets”). The pace of BT’s roll-out is staggering, passing approximately 70,000 premises a week. While this builds long-term asset value, the market is concerned that BT will face a level of competition in a fiber world that it simply has not faced before. We think the shares are too cheap on a price earnings ratio of 6x, a book value of 0.8x, and a yield of 6%.
In May, Bayer, the German crop science and pharmaceutical conglomerate, guided towards the bottom end of its full year guidance for earnings per share of €7.20 to €7.40, given pricing and cost headwinds. Bayer continues to trade on a forward price to earnings ratio (P/E) of around 7x, which is a large discount to peers.
For the second quarter, the largest positive contributors to the strategy’s performance relative to its benchmark were Mitsubishi UFJ Financial, Mitsubishi Heavy Industries, Samsung Electronics, Exor, and E.ON.
Shares of Mitsubishi UFJ Financial Group, the largest bank in Japan, enjoyed a strong recovery from the setback in March when bank shares around the world suffered in the wake of the failures of Silicon Valley Bank and Signature Bank. After years of declining net interest income, increasing lending spreads are driving an expectation of a robust recovery in its net interest income particularly amongst domestic and international corporates. The share price is up 25% year-to-date and now stands at a 16-year high in Yen terms. The valuation is now at 0.75x book value, and there is an expectation of returns on equity rising to 7.5% from 6.5% last year. The valuation is now approaching our view of fair value.
There were no stock changes during the quarter, but we did increase the holding in CK Hutchison, the Hong Kong-listed infrastructure and retail conglomerate, funded by a reduction of South Korea’s Samsung Electronics at the end of the quarter.
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