Oakmark Global Fund: Second Quarter 2014

Quarter Review
Last quarter we began our report comparing the dichotomy between the macro environment and the performance of the equity markets.  For better or worse, the same can be written once again for the June quarter.  The international political situation remains fraught, and the emergence of previously little-known groups such as Boko Haram and ISIS added to world tensions.  The rebellion in the Ukraine and the Syrian civil war are both far from resolved.  Additionally, economic growth continues to disappoint, and the U.S. recently reported that its GDP shrank in the first calendar quarter.  Yet in keeping with the spirit of the March quarter, most developed world equity markets still generated positive returns.   

For the quarter the Oakmark Global Fund gained 3%.  The MSCI World Index increased 5% in the period while the Lipper Global Funds Index returned 4%.  For the first six months of 2014 the Fund has gained 5%, which contrasts to 6% for the MSCI World Index and 6% for the Lipper Global Funds Index.  For the nine months of the Fund’s fiscal year the returns are 12% for the Fund, 15% for the MSCI World Index and 14% for the Lipper Global Funds Index.  Since inception in 1999, the Fund has achieved a compound annual rate of return of 12%, which compares to 4% for the MSCI World Index and 5% for the Lipper Global Funds Index.

The Fund’s fiscal year shortfall derives from two factors:  country allocation and issue selection.  To wit, we have been underweight in the United States, one of the strongest large markets, and our stock selections in Europe (except for Germany) have lagged.  We wrote last quarter concerning our reduction in the portfolio’s U.S. weight, as we cut back holdings that had experienced strong appreciation.  As it happened, the trends that prevailed in the March quarter continued into June, meaning that our rebalancing away from the U.S. was at best premature.  In terms of issue selection, 30% of the Fund’s international holdings suffered price declines in the period, most of which were small and all of which were idiosyncratic to the individual company. 

The countries that contributed most to the Fund’s quarter return were the U.S., Japan and France while the two detractors were the Netherlands and Switzerland.  Four of the largest contributors to Fund return in the quarter were U.S. domiciled:  National Oilwell Varco, Health Net, Intel and FedEx.  Swiss-based Holcim was the fifth largest contributor.  The Fund holdings that detracted most were Credit Suisse (Switzerland), Bank of America (U.S.), CNH Industrial (Netherlands), Julius Baer Group (Switzerland) and Fugro (Netherlands).     

For the first six months of the fiscal year, the U.S., Germany and Switzerland contributed the most to investment return while the Netherlands and the United Kingdom both detracted.  Leading contributors to return were Health Net, Applied Materials (U.S.), Holcim (Switzerland), Union Pacific (U.S.) and TE Connectivity (Switzerland).  Julius Baer Group was the leading detractor, followed by MasterCard (U.S.), General Motors (U.S.), CNH Industrial and Daiwa Securities Group (Japan).  Finally, for the Fund’s fiscal year, which began October 1, the countries that contributed most to return were the U.S., Switzerland and Germany, and the only country to detract from portfolio return was the Netherlands.  The largest return contributors were Oracle (U.S.), FedEx, Union Pacific, TE Connectivity and Daimler (Germany).  CNH Industrial led the detractors, followed by Julius Baer Group, Credit Suisse Group, Hirose Electric (Japan) and Citigroup (U.S.).  

Portfolio Activity
We initiated one new holding in the June quarter, eliminated two and received a small distribution of a stock from a spinoff of National Oilwell Varco.  All of these transactions involved U.S.-domiciled companies.  The net effect of this activity, combined with market return, was to increase the U.S. portfolio weight by approximately 1%.  The portfolio remains underweight the U.S. relative to its MSCI World Index benchmark.  We believe that the Fund’s shareholders deserve to know these statistics, but please remember that we are not benchmark investors.  Some investment management companies take an active point of view relative to the benchmark – i.e., they analyze the benchmark and decide that they can beat the benchmark through employing divergent weights.  We may produce a similar outcome, but our thought process is very different.  We simply seek investment opportunities that we believe offer the best combination of risk and return.  We then total up the Fund and see where that has led us relative to the benchmark.  For the past few quarters the outcome has been a moderate U.S. underweight position.  Should we find two or three outstanding new ideas that are U.S.-domiciled, this relative weight could change quickly.  But always understand that our goal is not to beat a benchmark but rather to construct a portfolio that meets its shareholders’ needs.  Few shareholders articulate a need to beat a benchmark. 

Our new purchase was Interpublic Group, one of the largest global providers of marketing solutions.  Its companies specialize in consumer advertising, digital marketing, communications planning and media buying, public relations and specialty marketing.  Interpublic Group is a holding company with many constituent holdings, including McCann Worldgroup, FCB, Initiative and Weber Shandwick.  Interpublic Group is headquartered in New York and has operations in over 100 countries worldwide.

We believe that Interpublic Group’s improving margins and shareholder-friendly decisions position it for future success within the advertising and marketing industry.  We also like that its management team has steered the company towards strong free cash flow generation and a capital-light business model.  In 2005, newly appointed CEO Michael Roth and CFO Frank Mergenthaler began to implement a turnaround strategy for the company, including steps to stabilize client losses, shore up operating responsibility at the agency level and reinvest in talented employees.  The steps significantly increased profit margins.  In addition to its improving margins, we believe its media buying business is especially attractive because of its large scale.  Lastly, we view management as good stewards of shareholder capital, having returned $1.9 billion to shareholders via dividends and repurchases since 2010.

We eliminated our holdings in Devon Energy and Cimarex Energy in the quarter.  Over the past decade, the Fund has successfully invested in U.S.-based exploration and production companies, but share prices in this sector now accurately reflect economic prospects, as we understand them.  Should prices become more favorable, we will certainly consider reinvesting in this industry.

Currency Hedges
During the quarter global currencies were relatively stable, but we continue to believe some currencies are overvalued.  As a result, we defensively hedged a portion of the Fund’s currency exposure.  Approximately 40% of the Swiss franc and 34% of the Australian dollar were hedged at quarter-end. 

Thank you for being our partners in the Oakmark Global Fund.  Please feel free to contact us with your questions or comments.

As of 06/30/14, National Oilwell Varco, Inc. represented 2.6%, Health Net, Inc. 2.2%, Intel Corp. 2.1%, FedEx Corp. 2.4%, Holcim, Ltd. 1.7%, Credit Suisse Group 4.6%, Bank of America Corp. 3.0%, CNH Industrial N.V. 3.4%, Julius Baer Group, Ltd. 3.4%, Fugro NV 2.4%, Applied Materials, Inc. 2.3%, Union Pacific Corp. 3.0%, TE Connectivity, Ltd. 3.7%, MasterCard, Inc. Class A 3.0%, General Motors Co. 3.5%, Daiwa Securities Group, Inc. 3.1%, Oracle Corp. 4.7%, Daimler AG 2.5%, Hirose Electric 1.7%, Citigroup, Inc. 2.4%, Interpublic Group of Companies, Inc. 2.0%, Devon Energy Corp. 0%, and Cimarex Energy Co. 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.

Click here to access the full list of holdings for The Oakmark Global Fund as of the most recent quarter-end.

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 Funds 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.

The Fund’s portfolio tends to be invested in a relatively small number of stocks. As a result, the appreciation or depreciation of any one security held by the Fund will have a greater impact on the Fund’s net asset value than it would if the Fund invested in a larger number of securities. Although that strategy has the potential to generate attractive returns over time, it also increases the Fund’s volatility.

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 percentages of hedge exposure for each foreign currency are calculated by dividing the market value of all same-currency forward contracts by the market value of the underlying equity exposure to that currency.

The discussion of the Fund’s investments and investment strategy (including current investment themes, the portfolio managers’ research and investment process, and portfolio characteristics) represents the Fund’s investments and the views of the portfolio managers and Harris Associates L.P., the Fund’s investment adviser, at the time of this letter, and are subject to change without notice.