Global Value

Market Commentary

Period ended September 30, 2018
 

MARKET COMMENTARY

In US Dollar terms, the Russell Developed Index returned +4.7% in the third quarter and is now up +5.7% since the beginning of the year. In local currency terms, US markets led, while Europe lagged. The US Dollar strengthened relative to most other major currencies, appreciating by +0.7%, +1.4%, and +2.7% relative to the Euro, Pound, and Yen, respectively.  Stalled Brexit negotiations and the threat of a global trade war have triggered short-lived bouts of equity market volatility across the globe, but positive economic data and strong corporate earnings growth have offset those concerns.  Despite sell side analysts having revised estimates upward rather persistently, nearly two-thirds of Russell Developed Index companies beat consensus earnings estimates in the most recent quarter.  The median positive surprise was 12% above consensus estimates.   

Global growth stocks outperformed global value stocks in the quarter, extending growth’s considerable lead in recent years.  Investors’ preference for growth stocks was evident across regions but has been most pronounced in the US.  Three years ago, the forward P/E for the Russell 1000 Growth Index was 18.6x compared to 15.3x for the Russell 1000 Value Index, for a difference of 3.3x (“growth premium”).  Today, the forward P/E ratio for the Russell 1000 Growth is 22.9x while the Russell 1000 Value continues to trade at 15.3x.  The current growth premium in the US, therefore, is 7.6x (22.9x – 15.3x), which is nearly double the long term average of 4.0x.  Earnings growth between the two indices has been comparable, thus the primary cause of the performance difference has been the repricing of growth stocks, i.e. multiple expansion.  The same phenomenon has occurred in Europe and the Pacific, albeit to a smaller magnitude—value and growth performance disparities have been about half that experienced in the US.  We do not believe that this valuation gap can widen indefinitely, and consequently we are optimistic about the prospects of value relative to growth as we look at global equity markets going forward.  

We remain overweight financials, industrials, and energy compared to the Russell Developed Index.  We are about equal weight in technology, though we have taken considerable capital out of the sector since the beginning of the year.  The sector overall, and our portfolio holdings in particular, have outperformed and so we have shifted capital to more compelling valuation opportunities.  We have added capital to financials and consumer staples as the sectors have underperformed.

The portfolio’s valuation discount relative to the market has continued to widen, which gets us excited about the portfolio going forward.  The portfolio trades at 7.7x normal earnings – less than 50% of the Russell Developed Index at 16.4x.  The portfolio’s price-to-book ratio is 1.2x compared to 2.3x for the Russell Developed Index.  

ATTRIBUTION: 3Q 2018

The Hotchkis & Wiley Global Value portfolio (gross and net of management fees) underperformed the Russell Developed Index in the third quarter of 2018.  The growth-led market was not a conducive environment for our value-focused approach.  Stock selection in consumer discretionary and industrials, along with the underweight exposure to healthcare detracted from relative performance in the quarter.  Positive stock selection in technology and real estate helped performance, along with the underweight exposure to materials.  The largest detractors to relative performance in the period were Embraer, Vodafone, General Motors, Ophir Energy, and Barclays; the largest positive contributors were WestJet Airlines, Discovery, Oracle, Corning, and Popular.  

LARGEST NEW PURCHASES: 3Q 2018

BNP Paribas is a French universal bank with global retail banking and diversified financial services operations. The Company is well-positioned in its “home” Benelux retail banking and insurance markets, and has profitable and growing businesses outside of the region. BNP’s Corporate and Investment bank is a leader in European fixed income and also has a strong global equity derivatives franchise. European bank valuations have been negatively impacted by concerns regarding Brexit, Italy, Turkey and other emerging markets. BNP is no exception. We think that at 0.8x tangible book and 8.0x price-to-normal earnings BNP presents a very attractive investment opportunity.

Hitachi Ltd. is a Japanese multi-industrial with improving corporate governance and significant excess capital trading at a low multiple of current earnings. The Company has been transforming itself by reducing the number of listed subsidiaries, disposing underperforming/secularly challenged businesses, improving the cost structure of its businesses and reinvesting in higher returning businesses.   

Composite performance for the strategy is located on the Performance tab. Returns discussed can differ from actual portfolio returns due to intraday trades, cash flows, corporate actions, accrued/miscellaneous income, and trade price and closing price difference of any given security. Portfolio characteristics and attribution based on representative Global Value portfolio. Certain client portfolio(s) may or may not hold the securities discussed due to each account’s guideline restrictions, cash flow, tax and other relevant considerations. Equity performance attribution is an analysis of the portfolio's return relative to a selected benchmark, is calculated using daily holding information and does not reflect management fees and other transaction costs and expenses.  Specific securities identified are the largest contributors (or detractors) to the portfolio’s performance relative to the Russell Developed Index. Other securities may have been the best and worst performers on an absolute basis.  The “Largest New Purchases” section includes the three largest new security positions during the quarter based on the security’s quarter-end weight adjusted for its relative return contribution; does not include any security received as a result of a corporate action; if fewer than three new security positions at quarter-end, all new security positions are included.  Securities identified do not represent all of the securities purchased or sold for advisory clients, and are not indicative of current or future holdings or trading activity.  H&W has no obligation to disclose purchases or sales of the securities.  No assurance is made that any securities identified, or all investment decisions by H&W were or will be profitable. The value discipline used in managing accounts in the Global Value strategy may prevent or limit investment in major stocks in the Russell Developed Index and returns may not be correlated to the index. Quarterly characteristics and portfolio holdings are available on the Characteristics and Literature tabs. For a list showing every holding’s contribution to the overall account’s performance and portfolio activity for a given time period, please contact H&W at hotchkisandwiley@hwcm.com.  Portfolio information is subject to the firm’s portfolio holdings disclosure policy.
 
The commentary is for information purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product.  Portfolio managers’ opinions and data included in this commentary are as of September 30, 2018 and are subject to change without notice.  Any forecasts made cannot be guaranteed.  Information obtained from independent sources is considered reliable, but H&W cannot guarantee its accuracy or completeness. Certain information presented is based on proprietary or third-party estimates, which are subject to change and cannot be guaranteed. Equity securities may have greater risks and price volatility than U.S. Treasuries and bonds, where the price of these securities may decline due to various company, industry and market factors.  Investing in value stocks presents the risk that value stocks may fall out of favor with investors and underperform growth stocks during a given period. The strategy invests in foreign securities which involve greater volatility and political, economic and currency risks and differences in accounting methods. All investments contain risk and may lose value. 
 
Past performance is no guarantee of future results.
 

Index definitions