Value Opportunities Fund (HWAIX)

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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, 2017

 

MARKET COMMENTARY

The S&P 500 Index returned +4.5% in the three months ended September 30, its 8th consecutive positive quarter.  Dating back to 2013, the index has generated a positive return in 18 of the last 19 calendar quarters—a feat it had not previously accomplished in its 90+ year history.  Part of the reason for this impressive run was the market’s valuation at the outset of the period.  At the beginning of 2013, the S&P 500 Index traded at 12x consensus earnings and 2x book value; the financial crisis’ mess had been largely cleaned up but valuations remained in check.  Since then, corporate earnings have been strong and the economic environment has been supportive.  Accordingly, we categorize most of the performance over this period as a reversion toward normal market valuations as opposed to a market that has overheated dramatically.  Based on most valuation measures, the reversion appears to have overshot historical averages but not wildly so—we are not alarmed, we are guarded. 

The Russell 1000 Growth Index outperformed the Russell 1000 Value Index by 23 percentage points dating back to 2013, including a 13 percentage point advantage year-to-date.  The FAANG stocks1 have led the market, with an average return of +160% since the beginning of 2013, and now represent more than 10% of the S&P 500 Index.  This has led to a wide valuation discrepancy between the value and growth indexes: the Russell 1000 Value trades at 17x forward earnings and 2x book value compared to the Russell 1000 Growth at 23x and 7x, respectively. 

We continue to find value opportunities selectively, though it is more difficult today than it was 5 years ago.  Financials, technology, and industrials represent the portfolio’s largest weights; healthcare, consumer staples, and utilities represent the largest underweights.  The former sectors not only trade at considerable valuation discounts but also have higher earnings growth expectations over the next two years compared to the latter sectors.  We are always leery of paying high multiples for stocks, particularly when growth prospects are bleak. 

While select market segments appear richly valued, others remain quite attractive.  Given this dichotomy, our portfolio’s composition and its characteristics are vastly different from the index.  The valuation discount is particularly striking; the portfolio trades at 8x normal earnings compared to 18x for S&P 500.  The portfolio trades at 1.2x book value compared to 3.1x for the index. 

ATTRIBUTION: 3Q 2017

The Hotchkis & Wiley Value Opportunities Fund underperformed the S&P 500 Index in the third quarter.  The strategy’s value focus hurt relative performance as growth stocks outperformed value stocks.  Security selection in healthcare, technology, and consumer discretionary detracted from performance in the quarter.  Positive security selection in consumer staples, industrials, and real estate helped relative returns.  The largest individual detractors to relative performance were Ericsson, Energy XXI Gulf Coast, Discovery Communications, Bed Bath & Beyond, and Popular; the largest contributors were Hewlett Packard Enterprise, WestJet Airlines, Masonite International, Seritage Growth Properties, and Frank’s International.

 

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1Facebook, Apple, Amazon, Netflix, and Google

 

Mutual fund investing involves risk. Principal loss is possible.  Investing in non-diversified funds and/or smaller and/or medium-sized companies involves greater risks than those associated with investing in diversified funds and/or large company stocks, such as business risk, significant stock price fluctuations, sector concentration and illiquidity. The Fund is non-diversified, meaning it may concentrate its assets in fewer individual holdings than a diversified fund.  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. Investments in debt securities typically decrease in value when interest rates rise. This risk is usually greater for longer-term debt securities. Investment by the Fund in lower-rated and non-rated securities presents a greater risk of loss to principal and interest than higher-rated securities. The Fund may invest in derivative securities, which derive their performance from the performance of an underlying asset, index, interest rate or currency exchange rate. Derivatives can be volatile and involve various types and degrees of risks. Depending on the characteristics of the particular derivative, it could become illiquid.

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 9/30/17 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.  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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Glossary of financial terms