Oakmark Global Select Fund: Third Quarter 2015

The Oakmark Global Select Fund declined 3% for the fiscal year ended September 30, 2015, ahead of the MSCI World Index, which declined 5% over the same period.  For the most recent quarter, the Fund declined 9%, which is in line with the MSCI World Index.  The Fund has returned an average of 7% per year since its inception in October 2006, outperforming the MSCI World Index’s annualized gain of 4% over the same period. 

The largest contributor to performance for the quarter and past twelve months was Amazon (U.S.).  Earlier this year, investors reacted positively to new disclosures about the company’s cloud computing segment.  They had generally expected that its high-growth segment, Amazon Web Services (AWS), would post a loss, but instead the company surprised the market by showing double-digit operating margins in the first-quarter.  This positive surprise led many analysts and investors to assign a higher valuation to the AWS unit and to Amazon overall.  We are encouraged by the early success of the AWS business.  More recently, Amazon shares increased further after reporting remarkably strong second quarter results, with great progress on both the top and bottom lines.  We are very pleased with the results from Amazon’s major businesses and believe the company has years of growth ahead of it as it benefits from strong secular tailwinds.

Another positive contributor to performance for the quarter was Google (U.S.), the leading Internet search engine.  Google delivered a positive second-quarter earnings report that beat market expectations.  We were pleased to see that aggregate paid clicks were up 18% and that paid clicks on Google websites were up 30%.  Investors were encouraged by CFO Ruth Porat’s favorable comments on “balance sheet efficiency” and “maximizing shareholder value,” which reaffirm to us that CEO Larry Page is serious about running Google with shareholders in mind.  We continue to believe that Google enjoys a very strong tailwind as advertising continues to move online. 

The largest detractor from performance for the quarter and past twelve months was Apache, the U.S.-based oil and gas exploration and production company.  As with most oil and gas exploration companies, Apache’s share price is influenced by the direction of oil prices, which have fallen dramatically and remain low.  Our assessment of Apache’s business value is based on the belief that the long-term market clearing oil price is in the mid-$70s.  While a decline in near-term commodity prices reduced our estimate of value due to lost interim cash flows, the stock’s decline has significantly exceeded what we think is the true change in the company’s underlying business value.  Despite a challenging energy market, we believe the management team has a solid plan for the future, as CEO John Christmann recently changed the company’s capital allocation process to better direct capital to the highest internal rate of return projects, regardless of where they are located.   In addition, Christmann replaced the operating heads of each region, changing their compensation metrics to focus on returns.  In our view, these improvements strengthen Apache’s ability to maximize its value.  We believe most investors are ignoring the value of many Apache assets that will generate substantial cash flow when energy prices increase. 

Another large detractor from performance for the quarter was CNH Industrial (Netherlands), a manufacturer of agricultural and construction equipment.  CNH Industrial’s fiscal first-half revenue decline of 22% (-11% in constant currency) was larger than we estimated, as revenues dropped across segments.  Earnings and margins also dropped more substantially than we expected.  The core agriculture segment was the driving force behind these poor results as demand for tractors and combines fell across all geographies.  In response, management reduced agriculture equipment production by 33% in the second quarter year-over-year.  Conversely, the Iveco segment performed better than we anticipated, as revenue declined less than our forecasts (and gained 9% in constant currency) while margins expanded.  Management updated full-year guidance with a reduced operating profit margin (to a range of 5.6%-6% owing to production cuts) and unchanged sales projections. Management continues to cut costs across the board, and in light of very challenging market conditions, we believe CNH Industrial’s leadership team is executing relatively well. Therefore, our investment thesis for this company remains intact.

We added one new name to the Fund during the quarter: General Electric (GE), the global producer of industrial, household and medical goods.  GE is a company with businesses we have always admired, but we have previously questioned the stock’s valuation and management’s focus on returns when making capital allocation decisions.  However, the appointment of a new CFO in mid-2013 ushered in significant changes.  Since then, GE has, in our view, acquired assets cheaply (Alstom) and sold assets at good prices (Synchrony and its appliances division).  GE is also significantly reducing its financial services business to focus on those lending activities that are core to its industrial products.  The company has totally revamped its variable compensation plan for thousands of employees, emphasizing factors that drive return on invested capital, which should boost future results.  Some investors may have a stale opinion of GE after the past 15 years of persistent underperformance, but we believe the remaining businesses will grow in excess of global GDP with high returns on capital.  We believe the current valuation is attractive for this good collection of businesses.

Global currencies were relatively stable during the quarter, but we continue to believe some currencies are overvalued.  As a result, we defensively hedged a portion of the Fund’s currency exposure.  Approximately 24% of the Swiss franc exposure was hedged at quarter end. 

We would like to thank our shareholders for continuing to support us and our value investing philosophy.

As of 09/30/15, Amazon.com, Inc. represented 1.5%,  Google, Inc. 6.9%, Apache Corp. 4.1%  CNH Industrial N.V. 3.6%, and General Electric Co. 5.3% of the Oakmark Global Select 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 Select 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.

Because the Oakmark Global Select Fund is non-diversified, the performance of each holding will have a greater impact on the Fund’s total return, and may make the Fund’s returns more volatile than a more diversified fund.

Oakmark Global Select Fund: 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.

Oakmark Global Select Fund: Investing in foreign securities presents risks that in some ways may be greater than 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 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.