In the first quarter the AMG Yacktman Fund (Trades, Portfolio) (the Fund) returned -21.7%, lagging the S&P 500® Index’s -19.6% fall but significantly outperforming the Fund’s secondary benchmark, the Russell 1000® Value Index, which returned -26.7%.
We hope this letter finds investors well as they deal with the personal, social, and economic challenges brought about by COVID-19. In the first quarter, markets around the globe crashed due to quarantines, business closure, and economic chaos. It was a very busy quarter for the Fund and we put substantial cash to work in new opportunities and fund holdings that became more attractively valued due to price declines.
As noted above, we significantly outperformed the Russell 1000® Value benchmark and modestly underperformed the S&P 500. We entered the year at approximately 25% cash in the Fund and finished on March 31, 2020, with 17.8%
in the Yacktman Fund (Trades, Portfolio). If the Fund had remained static while adjusting for asset flows, the allocation would have shifted to close to 30% cash due to the reduced value of Fund holdings. Therefore, our cash reduction was more like 40% versus a static portfolio, much of that occurring in the last few weeks of the quarter.
If you went on a sabbatical to a remote island with no communication at the end of 2018 and recently checked in, stock market levels are higher over the last 15 months even though current earnings expectations and the economy have collapsed. While the first quarter had steep declines, those were largely set up by the strong performance in 2019 that occurred despite zero earnings growth. When factoring in significant earnings declines, which may not be short-lived, it may be that the market is more expensive today even at lower prices than it was at year end. While the market today may be more attractively priced compared to other assets like cash and fixed income, the return profile for the long-term index fund investor remains uninspiring.
For us, investing is about the risk/reward of individual securities, and market declines often create significant mis-pricings which allow us to strengthen our fund holdings for the future. Our top 10 positions include some of the strongest businesses in the world, most known for stability in good times and bad, generally with balance sheets that are superb. During the quarter we added a large number of small new positions and bought more shares in some of our favorite holdings that declined substantially like Bollore (XPAR:BOL, Financial), Fox (FOX, Financial)(FOXA, Financial), and Sysco (SYY, Financial).
Securities that held up better during the quarter included technology stocks, like Microsoft (MSFT, Financial), consumer staples like PepsiCo (PEP, Financial) and Procter & Gamble (PG, Financial), and health care companies including Johnson & Johnson (JNJ, Financial). All four of these companies possess underlying businesses which are fairly immune to the most difficult economic environments, as they selling monthly licenses for software, potato chips, paper towels, and laundry detergent, which are low priced, consumed, and reordered, and medical supplies and pharmaceuticals, which are necessary at all times.
Detractors included Macy’s (M, Financial), Samsung Electronics Preferred (“Samsung”) (XKRX:005935) and Fox Corp. (“Fox”). Macy’s declined along with much of the retail sector as the company temporarily closed all of its stores. Macy’s needs to manage through significant challenges of reducing seasonal inventory levels, handling payables, and debt levels. The company’s significant real estate value should help manage the near-term challenges, especially as Macy’s earns substantial profits in the Christmas season, which is still a ways off. The company is one of the top ten ecommerce companies, which should help sell through inventory and generate cash even while stores are shut.
Samsung’s shares held up fairly well during the quarter, in large part due to its balance sheet, but was a large detractor to results due to its position size. The economic challenges of the first quarter delayed a recovery in the memory market that we anticipated seeing in the second half of this year, though longer-term fundamentals remain strong. At the end of the quarter, nearly 45% of the company’s value was in excess cash and securities and the business was trading for 1–2 times normal enterprise value to EBITDA, which is astonishingly inexpensive.
Fox’s shares declined during the quarter as traditional media stocks struggled, in part due to near-term challenges in advertising. With most of the economy shut, there isn’t a compelling reason to air commercials on television. Fox’s main contributor to cash flow, Fox News, has produced strong viewership through the crisis and the company has one of the strongest balance sheets in the traditional media space, in part due to significant tax assets created as part of the Disney transaction, which closed in 2019.
Putting the Value Back into Value Investing
Value investing has lagged growth investing for most of the last decade, and it has reached the point where even many of our colleagues who are value oriented are questioning whether their style works. We remain firmly behind our approach and believe the greater number of assets that abandon an approach which considers price and risk, the better it will be for those of us who remain committed to it.
We have been through this before. In 1999, when people prematurely declared value investing dead, it caused redemptions for value strategies that led to significant style underperformance that year but set up much better returns to follow. In the “lost” decade between December 31, 1999, and December 31, 2009, $10,000 invested in Yacktman Fund (Trades, Portfolio) became $30,816, compared to the S&P 500’s result of $9,090.
No investment approach works at all times, although we think ours works well over time. The most challenging periods often set up the best future returns. How the current world challenges play out remains to be seen, but a focus on price, risks, and the attributes of individual securities has proven to be the best way to handle uncertain times. We continue to work hard managing the Fund and wish investors well as we continue to navigate these uncertain times.
Disclosure
Investors should carefully consider the fund’s investment objectives, risks, charges, and expenses before investing. For this and other information, please call 800.835.3879 or download a free prospectus. Read it carefully before investing or sending money.
Past performance is no guarantee of future results.
