Robert “Chip” Rewey was hired to turn around the Third Avenue Value Fund in 2014 after years of underperformance that was tied, in part, to a bad bet on Hong Kong real estate. The mutual fund rebounded last year after posting a loss in 2015.
Rewey discussed stocks held in the portfolio, below, that he thinks are still excellent buys.
The $ 1.2 billion Third Avenue Value Fund TVFVX, +0.95% measured up well against two benchmark indices in 2016:
|Total return – 2016||Total return – 2015||Total return – 2014||Average annual return – 3 years||Average annual return – 5 years||Average annual return – 10 years|
|Third Avenue Value Fund, Investor Shares TVFVX, +0.95%||13.1%||-8.6%||4.6%||2.7%||10.3%||1.9%|
|MSCI World Index||9.6%||2.6%||10.4%||7.6%||13.4%||4.9%|
|Source: Morningstar, FactSet|
Rewey said that because the Third Avenue Value TVFVX, +0.95% is an “all-cap world fund,” the best benchmark for performance comparisons is the MSCI World Index. But with only 37 investment holdings, the fund is “differentiated from the benchmark,” he said. We have also included the S&P 500 Index on the table, even though it is not an appropriate benchmark.
As you can see in the table, the fund has underperformed over the past 10 years, and it was hit especially hard during the credit crisis of 2008. The fund’s year-end total assets peaked at $ 11.2 billion in 2007, and its assets had fallen to $ 1.3 billion as of Oct. 31.
Rewey said last week during an interview that he had strengthened the fund’s “processes regarding stock selection, position sizing, sector and geographic exposures and sell discipline, while preserving the eclectic go-anywhere nature of the fund.” He also said that he had reduced the fund’s Hong Kong exposure to about 5% from 17%, “selling into strength.”
Chip Rewey, lead portfolio manager of the Third Avenue Value Fund
A narrow concentration of holdings was part of the strategy of Martin Whitman, Third Avenue Management’s founder and now chairman emeritus, who managed or co-managed the fund until Ian Lapey became its lead manager in February 2012. Rewey took over as the fund’s manager in June 2014, coming to Third Avenue from Cramer Rosenthal McGlynn LLC, where he was a senior portfolio manager.
As of Oct. 31, 94% of the Value Fund’s $ 1.3 billion in assets were invested in stocks. Here’s a breakdown from Morningstar of the geographic concentration of the fund’s equity holdings, all of which were in developed markets:
When asked for more information about underperformance, especially during the bull market that began in March 2009, Rewey said that the stock market had been affected by “macro events and loose monetary policy — really no price dispersion or real trading on fundamentals.” In other words, the broad market was lifted, since investors were forced by amazingly low interest rates to move to stocks from bonds, but performance didn’t necessarily favor the strongest companies.
Rewey added that investments selected by the fund over the past few years were “starting to show through in the Value Fund.”
Rewey stressed that the fund’s investment techniques were still based on Martin Whitman’s value investing philosophy, as discussed in several books, including “Value Investing: A Balanced Approach.”
“Our investment horizon is at least three to five years. We like to be buyers down, and we can do that by starting with the balance sheet. I like to say, ‘We risk time instead of capital,’ ” Rewey said.
• First, Rewey focuses on creditworthiness, meaning a strong balance sheet, with low debt and “no off-sheet liabilities that can subtract value from shareholders.”
• Rewey then considers a company’s “ability to compound earnings going forward to produce high returns on equity and assets.” He will look at a company’s long-term history of compound earnings growth, but said there might be “special situations where a company is under-earning,” but still has the ability to grow earnings by double digits over coming years.
• Finally, Rewey looks to make purchases of stocks that trade at least 30% below his “appraised net asset value.”
Four stock picks
Here are four stocks Rewey considers good buys for investors today:
Comerica Inc. CMA, +0.84% was traditionally a Detroit bank, but it moved its headquarters to Dallas in 2007. The company’s major operations are in Texas, Michigan, California and Florida. The company had $ 74.1 billion in assets as of Sept. 30.
“The problems banks face in 2016 are 100% different from what they were in 2006 and 2007,” Rewey said. “The first difference is they have too much capital,” he added. High levels of capital can help banks absorb credit losses, of course, but credit quality is very strong across the industry. And high levels of capital mean low returns on equity, which depress stock prices. Meanwhile, banks are prevented by regulators from deploying as much excess capital as they would like to, through dividends and share buybacks.
Another problem keeping capital levels very high and earnings low is the inability of banks to make certain loans under the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed into law by President Obama in July 2010.
Rewey hopes that a combination of rising interest rates and an easing of regulations and taxes under the Trump administration will make Comerica the industry “poster child for being able to earn significantly more than it earns today.”
He also believes Comerica could be a target for a larger bank looking to enter or increase its presence in the Texas market.
Rewey said the Third Avenue Value Fund had been adding to its holdings of Amgen Inc. AMGN, +1.42% which “produces over $ 9 billion in [annual] free cash flow and has a very strong product-development pipeline.”
He also likes the company’s “aggressive” stock buybacks and the shares’ dividend yield of 3.15%.
Speaking further about the product pipeline, Rewey said Amgen has 31 “targets” for its branded portfolio, with 12 medications in Phase III trials, which means the new products will probably come out over the next two years. “A few of these could be multibillion [dollar] drugs — you never know,” he said.
Rewey also talked about Amgen’s entrance into “biosimilars,” which are medications that can match the performance of competitors’ brands that have moved off-patent. “It has nine in the portfolio, three of which can be launched in the next year or two,” he said, adding that the company might take $ 3 billion of the biosimilar market’s $ 54 billion in annual sales.
So the combination of a number of well-known brands, the product pipeline, the buybacks and the dividend all spell a good buy, according to Rewey.
Rewey said that “overall neglect to the space” has created an opportunity for investors with Ralph Lauren Corp. RL, -0.01% which has “zero net debt and earns about $ 6 a share per year,” with shares closing at $ 90.32 as of Dec. 31.
Check out how brutal a decline Ralph Lauren’s shares have suffered over the past two years:
”You are getting a good opportunity because investors have sold the stock off hard,” Rewey said. He went on to call Ralph Lauren “an iconic, strong brand,” and expressed confidence that CEO Stefan Larson, who took over in November 2015, would be able to repeat his past success in turning around Old Navy, a unit of Gap Inc. GPS, +3.07%
“They just have to fix their sourcing, internal controls and procedures. They need to move further into the computer age, so to speak, so we see it has a lower risk turnaround,” Rewey said.
Rewey believes worries over the U.S. housing market stemming from rising interest rates are unfounded, as interest rates are still near “generational lows.”
Housing starts climbed to a nine-year high of an annualized 1.32 million in October, but that’s still a far cry from the pre-crisis record level of 2.07 million in 2005, according to the Census Bureau.
“We have built an extreme deficit to what is needed in this country,” Rewey said, because household formation has continued. A continued major recovery for the housing market “can come slow and steady or fast,” he added.
He singled out Lennar Corp. LEN, +2.47% as an excellent long-term play on housing because it is “a very strong company” that has been reducing its leverage.
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