Small Cap Value Fund (HWSAX) - Limited Availability


The performance data quoted represents past performance and does not guarantee future results. Current performance may be lower or higher. Investment return and principal value of the fund will fluctuate, and shares may be worth more or less than their original cost when redeemed. Click quarter-end or month-end to obtain the most recent fund performance.

Manager Commentary
Period ended September 30, 2018


The Russell 2000 Index returned +3.6% in the third quarter and is now up +11.5% since the beginning of the year.  Failed Brexit negotiations and the threat of a global trade war have triggered short-lived bouts of equity market volatility, but positive economic data and strong corporate earnings growth has overwhelmed those concerns.  Despite Wall Street having revised estimates upward rather persistently, nearly two-thirds of Russell 2000 companies beat consensus earnings estimates in the most recent quarter; the median positive surprise was 16% above consensus estimates. 

Small cap growth outperformed small cap value in the quarter, extending its considerable lead in recent years.  Given value’s multi-year underperformance, some investors are wondering if the value phenomena has taken a permanent hiatus.  Our answer is no.  The 10 year underperformance is not without historical precedent as small growth led small value by an equivalent magnitude in the 10 years that ended with the internet bubble’s burst.  While that period was also unusually long, value ultimately made a comeback as the valuation premium grew too wide. The current growth premium is more than double the long term average. Some of the performance disparity was due to differences in sector exposures: the growth index has more exposure to healthcare which outperformed and less exposure to energy which underperformed.  Sector weights aside, however, stocks with high valuations outperformed stocks with low valuations.  Ultimately, the primary drive of valuation premium was due to multiple expansion, not earnings growth.  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 forward.  

We remain overweight industrials and energy compared to the Russell 2000 Value, though we have taken capital out of energy since the beginning of the year.  Our portfolio holdings in energy have outperformed and so we have shifted capital to more compelling valuation opportunities.  Portfolio changes have been modest in 2018, however, with year-to-date turnover about 19% by weight and 14% by name. 

The portfolio’s valuation discount relative to the market has moved from wide to wider, which gets us excited about the portfolio going forward.  The portfolio trades at 7.8x normal earnings compared to 15.2x for the Russell 2000 Value and 17.3x for the Russell 2000.  The portfolio’s price-to-book ratio is 1.3x compared to 1.5x and 2.2x for the Russell 2000 Value and the Russell 2000, respectively.     


The Hotchkis & Wiley Small Cap Value Fund (Class I) outperformed the Russell 2000 Value Index in the third quarter of 2018.  Stock selection was positive in 7 of the 11 GICS sectors during the quarter and was particularly helpful in real estate, financials, healthcare, and technology.   Small value underperformed small growth, which is a general headwind for our value focused approach.  Stock selection in industrials, consumer discretionary, and communication services also detracted from performance.  The largest positive contributors to relative performance were Hanger, Seritage Growth Properties, WestJet Airlines, Office Depot, and KBR; the largest detractors were Embraer, LSC Communications, TRI Pointe Group, Masonite International, and First Hawaiian.

Mutual fund investing involves risk. Principal loss is possible. Investing in smaller and/or newer companies involves greater risks than those associated with investing in larger companies, such as business risk, significant stock price fluctuations and illiquidity. The Fund may invest in ETFs, which are subject to additional risks that do not apply to conventional mutual funds, including the risks that the market price of an ETF’s shares may trade at a discount to its net asset value ("NAV"), an active secondary trading market may not develop or be maintained, or trading may be halted by the exchange in which they trade, which may impact a Fund’s ability to sell its shares.  The Fund may invest in foreign securities which involve greater volatility and political, economic and currency risks and differences in accounting methods.

Fund holdings and/or sector allocations are subject to change and are not buy/sell recommendations. Current and future portfolio holdings are subject to risk. Certain information presented based on proprietary or third-party estimates are subject to change and cannot be guaranteed. Portfolio managers’ opinions and data included in this commentary are as of 9/30/18 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. Specific securities identified are the largest contributors (or detractors) on a relative basis to the Russell 2000 Value Index. Securities’ absolute performance may reflect different results. The Fund may not continue to hold the securities mentioned and the Advisor has no obligation to disclose purchases or sales of these securities. Attribution is an analysis of the portfolio's return relative to a selected benchmark, is calculated using daily holding information and does not reflect the payment of transaction costs, fees and expenses of the Fund. Past performance is no guarantee of future results. Diversification does not assure a profit nor protect against loss in a declining market.

Investing in value stocks presents the risk that value stocks may fall out of favor with investors and underperform other asset types during a  given periods. Equities, bonds, and other asset classes have different risk profiles, which should be considered when investing. All investments contain risk and may lose value. 

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