Commentary

Oakmark International Small Cap Fund: Fourth Quarter 2019

December 31, 2019

Oakmark International Small Cap Fund – Investor Class
Average Annual Total Returns 12/31/19
Since Inception 11/01/95 9.07%
10-year 6.76%
5-year 6.32%
1-year 31.90%
3-month 12.49%

Net and Gross Expense Ratios as of 09/30/19 were 1.38%

Past performance is no guarantee of future results. The performance data quoted represents past performance. Current performance may be lower or higher than the performance data quoted. The investment return and principal value vary so that an investor’s shares when redeemed may be worth more or less than the original cost. To obtain the most recent month-end performance data, view it here.

The Oakmark International Small Cap Fund had a strong year of absolute and relative performance, returning 31.9% for the calendar year. The benchmark, MSCI World ex U.S. Small Cap Index, returned 25.4% for the same one-year period. The Fund also outperformed for the recent quarter end, returning 12.5% compared to the Index return of 11.4%. Since the Fund’s inception in November 1995, it has returned an average of 9.1% per year.

What a difference a quarter can make! In our last shareholder letter, we wrote about Duerr, a German-based global mechanical and plant engineering firm, which was the biggest detractor from the Fund’s performance for both the third quarter and previous 12 months. This quarter, the company returned 32% and was the Fund’s largest contributor to performance. Investors reacted favorably to Duerr’s third-quarter earnings announcement, which indicated stabilization and improvement across several business lines. One of those lines, HOMAG, a producer of woodworking machines, enjoyed significantly increased orders during the quarter. Importantly, these included a large systems order from China, which has been one of HOMAG’s most troublesome markets. Duerr also announced a new restructuring plan for HOMAG, which should yield significant cost savings. HOMAG’s success is not isolated. Across Duerr’s other business lines, orders have increased and operational performance has improved. Its paint and final assembly division also performed particularly well. Orders improved by 30%, year-over-year, in the third quarter and its operating profit improved by over 9%. Even with Duerr’s strong returns this quarter, we believe it remains an attractive investment due to its strong market position and effective management team. 

The Fund’s largest detractor from performance for the quarter was Healius, which operates numerous medical centers, pathology laboratories and diagnostic imaging centers in Australia. At the company’s annual general meeting this quarter, management announced lower than anticipated fiscal year 2020 guidance, which caused the stock price to drop. However, after we spoke with CEO Dr. Malcolm Parmenter, we concluded that Healius’s guidance was overly conservative. We believe the company’s pathology and imaging divisions, which account for over 75% of its earnings and cash flow generation, are performing well and gaining market share. In addition, the company has implemented several growth initiatives over the past two years, which should further boost revenues and lower costs across the company. The most negative part of Healius’s 2020 guidance focused on its medical centers division, which suffered due to slowing recruitment of general practitioners to serve its clinics. We believe, however, that this division remains on the right strategic trajectory and that management’s decision to appoint a new head for the division should speed up progress. As a result, our investment thesis for Healius remains intact as we believe its management team is working diligently to enhance shareholder value. 

We initiated three new holdings this quarter: two Canadian-based companies, BlackBerry and Gildan Activewear, and Nordic Entertainment, which is headquartered in Sweden. BlackBerry, best known for its smartphones, has transitioned into a communications software and services developer. Its products are used for cell phones and computers as well as by automakers and governmental agencies. BlackBerry also provides messaging, voice encryption, anti-counterfeiting and product authentication services. Gildan Activewear manufactures everyday apparel, including the brands American Apparel, Anvil and Gold Toe, among others. A spin-off from Modern Times Group, Nordic Entertainment is the largest pan-Nordic provider of premium television content, holding the leading market positions in pay television channels, over-the-top streaming, free-to-air channels and content-production studios. During the quarter, we also eliminated positions in Bharti Infratel (India), HKBN Ltd. (Hong Kong), SKY Network Television (New Zealand) and Countrywide (U.K.). 

Geographically, we ended the quarter with approximately 67% of our holdings in Europe and the U.K., 11% in Asia and 8% in Australasia. The remaining positions are in the Americas with 5% in Latin America (Mexico) and 5% in North America (Canada). 

We continue to believe both the Swiss franc and Norwegian krone are overvalued versus the U.S. dollar, so the Fund remains hedged against these currencies. At the end of December, we were hedging 10% of the Fund’s franc exposure and 16% of its krone exposure. 

Wishing all of you a very happy and healthy 2020!

The securities mentioned above comprise the following percentages of the Oakmark International Small Cap Fund’s total net assets as of 12/31/19:  Bharti Infratel 0%, BlackBerry 1.7%, Countrywide 0%, Duerr 3.9%, Gildan Activewear 0.6%, Healius 2.3%, HKBN Ltd. 0%, Modern Times Group 0%, Nordic Entertainment Cl B 0.6% and SKY Network Television 0%. Portfolio holdings are subject to change without notice and are not intended as recommendations of individual stocks.

Access the full list of holdings for the Oakmark International Small Cap Fund as of the most recent quarter-end.

The MSCI World ex USA Small Cap Index (Net) is designed to measure performance of small-cap stocks across 22 of 23 Developed Markets (excluding the United States). The index covers approximately 14% of the free float-adjusted market capitalization in each country. This benchmark calculates reinvested dividends net of withholding taxes. 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.

The stocks of smaller companies often involve more risk than the stocks of larger companies. Stocks of small companies tend to be more volatile and have a smaller public market than stocks of larger companies. Small companies may have a shorter history of operations than larger companies, may not have as great an ability to raise additional capital and may have a less diversified product line, making them more susceptible to market pressure.

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 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.

All information provided is as of 12/31/2019 unless otherwise specified.

David Herro- Portfolio Manager- Headshot
David G. Herro, CFA

Portfolio Manager

Mike Manelli- Portfolio Manager- Headshot
Michael L. Manelli, CFA

Portfolio Manager

Justin Hance- Portfolio Manager- Headshot
Justin D. Hance, CFA

Portfolio Manager