Investment Universe, Process, Strategy and Benchmark – How does the Fund Manager invest? (ISIN: LU0130102931)
Investment ProcessConsistent strategy
Fund managers maintain a consistent strategy under all market conditions. Value determination is based on their estimate of the price a company would command in a private market acquisition. Managers will consider the stock of any mid- or large-cap U.S. company they believe to be of high quality, well managed and growing – if it trades at a deep enough discount to their price estimate. Focus on company management
The fund’s managers focus primarily on free cash flow and company management, rather than on more traditional measures of value such as low price-to-earnings or price-to-book ratios. They also look for hidden assets, underappreciated franchise values, or potential benefits from corporate restructuring.
The fund is managed with a three-tofive- year horizon, which allows it to take advantage of longer-term strategic opportunities. The management team believes that, over time, the price of a stock will rise to reflect the value of the underlying company. The success of this approach can be seen in the fund’s steady, cumulative long-term performance.
• Buy stocks selling at a significant discount to intrinsic value, which is the price an informed buyer would pay for the entire company.
• Focus on companies increasing per-share value over time, which can come from growing revenues and from sensible deployment of free cash flow.
• Invest in companies with management teams who have a personal investment in the business and are committed to acting in the best interest of shareholders.
Asset class - U.S. Equity
Style - Value
Objective - Long-term growth of capital
Index - Russell 1000® Value Index
Inception - 21 June 2001
Reference currency - USD
Other currencies available - EUR, EUR-Hedged, GBP, SGD
Recommended investment horizon - 3 years
Investment manager - Harris Associates L.P.
Performance Review 2005
Mike Mangan and Bob Levy: "Harris Associates U.S. Large Cap Value Fund returned -2.60% for the year ending December 31, 2005. This compares to the Russell 1000 Value Index that returned 7.05% for the same period. One of the main sources of underperformance was a low weighting in energy stocks, the best performers in 2005. Also, our underweight allocation in financials and lack of exposure to utilities detracted from performance, as these sectors also performed well during the year. In addition, our media holdings lagged the market, although we believe the underlying fundamentals are favorable.
Currently, the Fund holds 50 securities across a variety of industries. During the year, we initiated positions in InBev NV, EchoStar Communications, Gannett, Hewlett-Packard Company, Intel, Pulte Homes, Texas Instruments and Tyco International. Additionally, the Fund now holds Discovery Holding Company, spun off by Liberty Media. We believe that the stock prices of these companies represent a significant discount to value.
Our positions in AmerisourceBergen, Automatic Data Processing, Carnival, Colgate-Palmolive Company, Costco Wholesale, Johnson & Johnson, Kraft Foods, McGraw-Hill Companies, Tribune Company and Waste Management were eliminated during the year.
Burlington Resources Inc., ConocoPhillips and AFLAC had a positive impact on performance. We believe earnings at Burlington Resources were helped by lower exploration expenses in addition to the continued increase of oil and natural gas prices throughout the year.
ConocoPhillips has enjoyed an almost two year run in which its stock price has more than doubled, as high petroleum prices and strong refining margins have contributed to what we consider to be strong profitability for the firm. Though Hurricane Katrina temporarily affected the company’s refining capabilities, we believe that ultimately it did not do any long term damage. The firm is using its strong cash flow to pay down debt and repurchase stock.
AFLAC’s earnings growth continued during the year as margins in Japan expanded. Sales in the U.S. performed better than expected and AFLAC began using its excess cash flow to repurchase stock.
Comcast, Masco and Liberty Media had a negative impact on performance during the year. We are confident that Comcast’s fundamentals are solid. The firm is growing revenue, increasing margins and generating attractive free cash flow. While competition from phone companies is a concern, we feel Comcast’s stock price more than reflects this change in the competitive landscape. We continue to like the stock.
The market’s skepticism that strength in the housing industry will persist hurt Masco’s stock price, especially in light of recent short-term interest rate increases. We are still very comfortable with this holding.
Liberty Media’s stock, along with many other media names, has been weak during the year. Management has moved to simplify the company and highlight specific asset values via spin-offs including Discovery Holdings and Liberty Global. We continue to hold the stock as we think it is attractively valued."
Performance Review 2006
Mike Mangan and Bob Levy: "Harris Associates U.S. Large Cap Value Fund underperformed its reference index, the Russell 1000 Value Index, for the year, returning +17.00% versus +22.24% for the Index.
The main sources of underperformance were technology holdings along with a lack of exposure to telecommunication services stocks and an underweight allocation to energy.
Underperformance was offset somewhat by health care and consumer discretionary holdings. An overweight allocation to consumer staples and holdings in this sector also contributed to the Fund’s return.
DIRECTV Group, Comcast, and McDonald’s contributed the most significant positive impact on the Fund’s absolute performance during the year. Dell, Pulte Homes, and Intel had the most significant negative impact on absolute performance during the year.
During the year, positions were initiated in The Coca-Cola Company, Dell, Gap, Medtronic, and Schering-Plough as it is believed the share prices of these companies represent a significant discount to the managers’ estimation of value.
Additionally, Liberty Media Corporation was split into two entities: Liberty Capital Group and Liberty Interactive Group. As Liberty Media Corporation itself is no longer a publicly traded entity, both of these new replacement stocks are now held in the Fund in its place.
First Data’s spin off of Western Union also created a new holding. The managers believe Western Union is an unusually high quality business. It is the dominant leader in international money transfers. The growing number of people working in countries away from their families has dramatically increased the demand for their services and the managers are of the believe that the stock price does not fully reflect Western Union’s growth prospects.
Coca-Cola Enterprises and TJX Companies were sold during the year. Also, both Burlington Resources and Knight Ridder were acquired by other firms, and shares of these companies are no longer held by the Fund."
Performance Review 2007
Mike Mangan and Bob Levy: "The Harris Associates U.S. Large Cap Value Fund (the “Fund”) returned -3.42% for the year ending December 31, 2007. This compares to the reference index, the Russell 1000 Value Index (the “Index”) that returned -0.17% for the same period. The portfolio’s relative underperformance is due to a significant underweighting in energy, as this sector performed particularly well during the year. An overweight allocation to consumer discretionary stocks also hindered performance for the period. Technology holdings and an underweight allocation to financials worked in the portfolio’s favor for the year.
Currently, the Fund holds 52 securities across a variety of industries. During the year, we made a number of changes to the portfolio’s composition. We initiated positions in Best Buy, Capital One Financial, FedEx, and Sprint Nextel, as we believe the stock prices of these companies represent a significant discount to value.
Positions in Coca-Cola, DIRECTV Group, EchoStar Communications, First Data, Gannett, Gap, and MGIC Investment Corporation were eliminated during the year.
McDonald’s, Intel, and Yum! Brands had the most positive impact on performance. McDonald’s produced solid earnings throughout the year as it continued to successfully execute its strategy for operational improvements. The big drivers of future earnings will be menu-driven in the U.S. and kitchen-driven in Europe. In the U.S., the company will be rolling out its premium beverages along with new menu items, while in Europe the focus will be on kitchen remodels required for premium chicken products.
Intel consistently reported better than expected earnings during 2007, and in the most recent quarter reported strong quarterly earnings (up 41%) with gross margins expected to be around 52% for the full year. We believe Intel will benefit from the explosion of processor power needed at the client level and the Internet service level. The trend toward mobile computing should also be a positive for the company.
Yum! Brands continued to show strong international growth, especially in China. Management expects to increase franchise ownership in the U.S. to over 90% by 2010, which we think should increase overall growth for the company.
Washington Mutual, Pulte, and Citigroup had the most negative impact on performance during the year. The deterioration in the housing market, coupled with significant loan write-offs, has injured Washington Mutual’s earnings power. While fundamentals have been hurt in this environment, we continue to feel that its retail banking franchise is worth well above the current stock price, and the mortgage business still has value. We feel the sell off has been overdone and the stock looks very cheap, trading at just 4x 2009 expected earnings.
The environment for home-builders remains challenging. Pulte has been forced to take write-offs, as business fundamentals weaken. However, with its stock trading at a significant discount to book value, we feel that the bad news is already factored into the share price.
Like other large financial institutions, Citigroup took a large write-down this past quarter relating to its CDO portfolio. Since then the company has raised capital, replaced its CEO, and is making good progress in reducing SIV exposure."
Performance Review 2008
Mike Mangan and Bob Levy:
"2008 Year Performance
Fund IA USD -33.20%
Russell 1000 Value Index TR -36.85%
The Fund outperformed its reference index due mainly to stock selection, especially in consumer-related sectors.
Consumer discretionary and consumer staples stocks added to the positive relative results for the year. Industrial stocks were also additive together with positive sector allocation effects. The top five stocks that helped performance for the year were H&R Block, Anheuser-Busch, Wal-Mart Stores, General Mills, and McDonald’s.
Sector allocation produced negative relative performance for the year. An underweight allocation to energy and an overweight allocation to technology were chiefly responsible, though technology holdings produced positive performance for that sector, curbing negative results there. The bottom five stocks that hindered performance for the year were Citigroup, Liberty Media Interactive, Viacom, Bank of America, and Washington Mutual."
Performance Review 2009
Mike Mangan and Bob Levy:
"2009 Year Performance
Fund I/A (USD) 41.02%
Russell 1000 Value TR 19.69%
The Fund’s outperformance relative to its reference index in 2009 was due to a combination of stock selection and sector weightings. Stock selection was especially strong in Financials, Industrials and Health Care. Weightings in the Consumer Discretionary and Technology sectors also helped relative results. Finally, a lack of exposure to Telecommunication Services and Utilities proved helpful on a relative basis.
The Fund also performed well on an absolute basis, with all sectors contributing positively. Energy, Technology and Consumer Discretionary shares produced the highest cumulative absolute return.
The only negative impact to the Fund’s performance occurred in the Materials sector. Weighting and holdings here produced a slight drag on results. However, individual issues in this sector provided positive returns.
The top five stocks that helped performance for the year were Liberty Entertainment, Schering-Plough, American Express, Texas Instruments and Liberty Interactive. The bottom five stocks that hindered performance for the year were H&R Block, Citigroup, Xerox, Fortune Brands and Comcast.
The significant changes that have taken place in the market in 2009 provided the managers with a unique opportunity to add high-quality names to the Fund. In order to capitalize on this situation, several securities were added, while other names were eliminated to allow for these additions during the year."
Performance Review 2010
Mike Mangan and Bob Levy: "The Fund returned 11.1% for the quarter compared with the index which returned 10.5% for the same period.
Despite all the warnings that the sharp recovery in 2009 was nothing more than a “dead-cat bounce,” the stock market in 2010 proved to be both resilient and profitable to those willing to focus on corporate fundamentals. The news was daunting at times – a major oil spill, a Eurozone debt crisis, a disruptive election. But the economy continued to move forward, and businesses generated robust profits that translated into double-digit gains by the major U.S. indices.
Our portfolios fully participated, but many investors still shaken by the crisis have been absent from the 93% rally off the March 2009 panic-induced bottom.
While there has been broad improvement in corporate fundamentals and economic conditions, the stock market has garnered a more bullish outlook in the financial press. But there has yet to be much of a real reaction among investors. Retail and institutional investors alike remain strongly tilted toward seemingly risk-averse asset classes, with investor exposure to bonds at a record high.
Performance Review 2011
Mike Mangan and Bob Levy: "The Fund returned 11.97% for the quarter with the index returning 13.11% for the same period.
Despite intense volatility, the 2011 year-end scoreboard showed little progress for U.S. equity markets. For most investors, time horizons continued to shrink and the perceived need to trade feverishly seemed to grow each week, particularly given the procession of natural disasters, debt downgrades, sovereign debt crises, political uprisings and some very confusing economic signals over the past year. In particular, the crisis in Europe continues to dominate any economic or political discussion. Elected officials in the U.S. also seem to be paralyzed, and the lack of meaningful progress on a wide range of issues served to undermine already depressed confidence levels. So even though there has been a solid market recovery over the past three years, investors continue to try to shed any perceived risk from their portfolios, exiting equity mutual funds at a rate rivalling the dark days of 2008/2009 even in the face of a much improved economic environment."