Commentary

Global All Cap Strategy

December 31, 2021

THE MARKET ENVIRONMENT

Major global markets finished largely higher in the fourth quarter in spite of a variety of macroeconomic concerns that ranged from inflation fears to supply chain disruptions along with yet another Covid-19 variant that took hold in the final three months of the year. As previously announced, the Federal Reserve slowed its pace of asset purchases in November. The tapering came as the rate of inflation in the U.S. quickened to 6.8% versus the year-ago period. The Fed’s dot plot now calls for three rate hikes each in 2022 and 2023. The Bank of Japan and European Central Bank echoed similar sentiments as they also left interest rates unchanged, while the Bank of England raised its main interest rate from 0.1% to 0.25% following a surge in U.K. inflation to a 10-year high of 5.1% annual growth in November.

Meanwhile, as the world attempted to return to normal from the depths of the global pandemic, energy suppliers rushed to ramp up production to meet growing demand. However, a supply shortage and bottlenecks at major U.S. ports sent U.S. oil prices in excess of $85 per barrel for the first time since 2014. Natural gas prices also spiked around the world, forcing the suspension of operations at factories in Europe and China. A shortage of semiconductors, in particular, significantly impaired worldwide automobile production. Simultaneously, the new and highly contagious Omicron variant of Covid-19 spread in the fourth quarter as countries across Europe implemented restrictions once again to combat the spread of the disease.

Although stock prices surged higher in many places across the globe, we are still finding pockets of value in the market. Once restrictions lift, we think pent-up demand and savings will drive business growth in places like Europe. That said, the world is learning how to live with the ever-changing risk of Covid-19, much like how investors must continuously monitor potential risk, potential return and the quality of the businesses when making investment decisions. We think our long-term investment horizon positions us well to observe and capitalize on these considerations.

THE PORTFOLIO

Top Performers:
Late in October, TE Connectivity released a fourth-quarter earnings report detailing the end of its fiscal year, which investors reacted positively toward. Revenue grew 17% and earnings per share increased by 46% to $1.69. For the full year, revenue reached $14.9 billion and earnings per share amounted to $6.51 (up 11% and 20% from 2019 figures, respectively). Encouragingly, orders remain strong across all segments as evidenced by the company’s book-to-bill ratio of 1.08. Electric vehicles and hybrids now account for 20% of auto revenue, and we believe the company is positioned very well in this segment. In addition, all other segments continued to gain market share due in part to ties to secular growth tailwinds, including factory automation, cloud and alternative energy. In December, the company approved an increase from $0.50 to $0.56 for its quarterly dividend. We are pleased with TE Connectivity’s recent execution and believe it still has strong potential to perform well in the future.

Investors reacted positively to Tenet Healthcare’s third-quarter earnings report as adjusted earnings increased 33% compared to 2019, relieving investors’ worries that increases in Covid-19 cases would crowd out the more profitable areas of the hospital. The earnings report highlighted the efficiency of the company with excellent margins, specifically after improvements in the hospital segment. Tenet later announced that along with USPI, it would acquire SurgCenter Development’s (SCD) remaining portfolio of roughly 90 surgery centers for approximately $1 billion. Tenet purchased part of SCD last December, which has shown to be very successful so far, in our view. We appreciate the acquisition and financial success Tenet has achieved recently.

Alphabet’s third-quarter earnings release resulted in the company’s share price moving higher throughout the quarter. Reported revenue growth amounted to 41% and operating margins (ex-other bets) expanded 670 basis points. In addition, search and YouTube advertising revenue both grew over 40%. Management bought back $12.6 billion worth of stock in the third quarter, which puts the company on pace to meet our expectations for the full-year period. Although Alphabet’s share price declined on news that YouTube TV subscribers lost access to Disney-owned entertainment options, the issue resolved itself shortly thereafter. We believe Alphabet remains an attractive holding with upside potential despite its recent share price appreciation.

Bottom Performers:
Alibaba Group’s second-quarter earnings report disappointed investors as growth meaningfully decelerated during the quarter and management lowered its full-year revenue growth guidance. Factors causing the slowdown in growth include a decrease in the retail spending environment in China, increased competition in e-commerce and Alibaba’s reinvestments into its merchant base, which coincided with recent increased regulation from the Chinese government. At the company’s investor day, we learned that it re-segmented its commerce business, providing greater transparency, and that a significant portion of its investment spend is going into two new initiatives: Taobao Deals and Taocaicai (community marketplace). Both businesses target lower tier cities where consumers are more price sensitive. We were also impressed by Alibaba’s presentation on its growing cloud business, where the company believes its technology lead is at least two years ahead of its peers. Despite the current headwinds facing the company, we remain shareholders of Alibaba as we believe it is an important driver of innovation in China and several of its businesses have yet to fully scale.

Liberty Broadband’s approximately 25% ownership stake in Charter Communications caused the former’s share price to decline alongside the latter in October. Investors proved disappointed with the deceleration in Charter’s broadband business as exhibited in the company’s third-quarter earnings results. Importantly, we appreciate the company’s history of transparency in the past when competitive intensity in the market increased and do not believe the slowdown in internet net additions is attributable to a reduced win rate. In addition, Charter’s adjusted earnings increased nearly 14%, and mobile net additions were solid, in our view. In November, Liberty Broadband released its own third-quarter results that revealed a fair value estimate of its Charter investment at $40 billion. We continue to believe the valuation for the company remains attractive, offering a compelling reason to own.

During the period, investors reacted negatively to Flowserve’s third-quarter earnings report, which revealed disappointing sales and margins figures. Sales declined 6% year-over-year, and its operating margin of 7% was 270 basis points below consensus estimates. Management indicated that $60 million of sales and $20 million of gross profits were deferred out of the third quarter, explaining all of the revenue shortfall and most of the lowered margins. In addition, management lowered their full-year guidance, citing supply chain, logistics and labor headwinds as the key causes of the suppressed performance. Despite recent challenges, bookings showed strength by increasing 13% year-over-year and approaching pre-pandemic levels. We appreciate the company’s strong balance sheet, its leadership in a competitive industry and management’s focus on returns on invested capital.

During the quarter, we added Samsung and Willis Towers Watson to the portfolio. We also received shares of Daimler Truck Holding as a spin-off from Daimler. We eliminated our positions in Capgemini, Johnson Controls and Richemont.

Past performance is no guarantee of future results.

The MSCI World Index (Net) is a free float-adjusted, market capitalization-weighted index that is designed to measure the global equity market performance of developed markets. The index covers approximately 85% of the free float-adjusted market capitalization in each country. This benchmark calculates reinvested dividends net of withholding taxes. This index is unmanaged and investors cannot invest directly in this index.

The specific securities identified and described in this report do not represent all the securities purchased, sold, or recommended to advisory clients. There is no assurance that any securities discussed herein will remain in an account’s portfolio at the time one receives this report or that securities sold have not been repurchased. It should not be assumed that any of the securities, transactions, or holdings discussed herein were or will prove to be profitable. Holdings are representative of Harris Associates L.P.’s Global All Cap Equity composite as of 12/31/21.

Certain comments herein are based on current expectations and are considered “forward-looking statements”. These forward looking statements reflect assumptions and analyses made by the portfolio managers and Harris Associates L.P. based on their experience and perception of historical trends, current conditions, expected future developments, and other factors they believe are relevant. Actual future results are subject to a number of investment and other risks and may prove to be different from expectations. Readers are cautioned not to place undue reliance on the forward-looking statements.

The information, data, analyses, and opinions presented herein (including current investment themes, the portfolio managers’ research and investment process, and portfolio characteristics) are for informational purposes only and represent the investments and views of the portfolio managers and Harris Associates L.P. as of the date written and are subject to change without notice. This content is not a recommendation of or an offer to buy or sell a security and is not warranted to be correct, complete or accurate.