Commentary

Global Strategy

December 31, 2023

THE MARKET ENVIRONMENT

Major global markets generally showed strength during the fourth quarter, despite pressure in October when Hamas, an Islamist political and military organization, orchestrated an attack against Israel, shaking markets and the geopolitical landscape. The U.S. reported its strongest quarter of gross domestic product growth in nearly two years at 4.3% annualized, while economic data throughout Europe and China was mixed and provided reasons for both pessimism and optimism.
 
The U.S. 10-year yield reached as high as 5% in the quarter before declining and ending the period around 3.86% as investors continue to digest economic data and expectations on interest rates. In November and December, the U.S. Federal Reserve met and held its benchmark interest rate steady at 5.50%. Similarly, the Bank of England held its benchmark interest rate at 5.25%, and the European Central Bank held rates steady at 4.50% at its most recent meeting. Headline inflation in the U.S. and the U.K. declined during the quarter and ended at 3.1% and 3.9% in the most recent release, respectively. The Bank of Japan continued its accommodative monetary policy stance, although it took a step toward reversing the policy when it announced that the 1% cap on its 10-year government bonds would be considered a reference rate going forward. The yen reversed its recent trend and gained value during the quarter, ending the period at approximately 141 USD/JPY.

We believe our intensive research process and focus on the long term help us find opportunities despite the pervasive theme of the time. When the market does not separate the macro from the micro, there is an exploitable opportunity for long-term investors, such as ourselves. We use times of uncertainty and volatility to strategically position our portfolios for long-term success and believe this approach best positions us for achieving the protection and appreciation of our investors’ capital over the long term.

THE PORTFOLIO

Top Performers:
Capital One Financial, which specializes in consumer finance, was the top contributor for the quarter due to strong third-quarter results. The company’s earnings per share of $4.45 was about 37% above consensus estimates, and its loan growth, net interest margin, non-interest income, operating expenses and charge-offs were all better than consensus estimates. In regard to credit quality, management noted that while portfolio-wide monthly delinquency and charge-off rates slightly exceeded 2019 levels, those trends were stabilizing. In addition, Capital One maintains sizeable capital and liquidity buffers. Overall, we appreciate the company’s value-focused management team, consistent reinvestment in technology development and stable deposit base.

Bank of America was a contributor during the fourth quarter. The U.S.-headquartered financial firm’s stock price rose further in December after its previous growth in November as sentiment around large U.S. banks improved. We believe reasons for optimism include lower risk of further deposit repricing which benefits net interest income, strong balance sheets and hedging for lower interest rates, less pressure from unrealized securities losses as interest rates steady and potentially decline, encouraging economic data and low valuations compared to the broader market. Bank of America released third-quarter earnings in October that were generally in line with consensus estimates. Results were partially aided by alternative tax credits and below normal charge-offs, adjusting for these factors the return on tangible common equity was around 13%. Management spent a considerable amount of time on the earnings call highlighting the quality of the company’s deposit franchise and its strong liquidity profile. Bank of America operates as a strong deposit franchise in quality markets, in our assessment, and at around 7 times normal 2025 earnings per share, we think the company’s current stock price is discounted relative to its intrinsic value.

BlackRock was a contributor during the fourth quarter. The U.S.-based financial firm’s share price rose alongside broader equity markets in November. In October, the company released third-quarter earnings, which showed adjusted earnings of $10.91, aided by tax benefits and investment gains. Overall flows were slightly positive while long-term flows were slightly negative as some large and low fee index accounts were terminated. Management remains excited by the opportunity for its fixed income products once investors become convinced that the U.S. Federal Reserve is done raising interest rates. We like that BlackRock’s products are bolstered by the company’s global brand strength and extensive distribution channels, and believe it is well-positioned to benefit from secular tailwinds in the coming years.

Bottom Performers:
Worldline was a top detractor for the quarter. In October, the French multinational payment and transactional services company delivered a weaker than expected set of results, and the stock fell significantly on the news. Management reduced growth estimates citing two factors: (1) negative mix shift in Germany, as German consumers shifted from discretionary to non-discretionary purchases and (2) merchant terminations, driven by Worldline voluntarily and proactively cutting ties with certain online merchants at risk of violating new regulatory standards. We spoke with management after the results and confirmed both factors are transitory. We continue to believe the payments industry is a structurally attractive GDP+ growth market, and Worldline, as the European payments leader, has a very long growth runway given lower European cashless penetration and higher levels of bank payment in-sourcing versus the U.S.

Bayer, a life science company with pharmaceuticals, consumer health and crop science divisions, was a top detractor. During the quarter, the company announced its decision to stop its OCEANIC-AF trial for asudenxian early due to lack of efficacy. The company was ordered to pay $1.5 billion to three plaintiffs in a recent RoundUp case. While both events were disappointments, the asundexian news is more relevant to us because we expected both wins and losses in the RoundUp legal saga and anticipate this recent verdict will likely be reduced significantly on appeal. Asundexian was Bayer’s largest late-stage pharma pipeline opportunity and had potential to be a next-generation Xarelto, but the trial was riskier than usual due to its data profile in earlier stages. We have modestly reduced our estimate of Bayer’s intrinsic value, but we still believe the stock is attractively priced, trading at around 6 times 2024 earnings. We continue to monitor the situation and will adjust our analysis, if necessary. We met with new CEO Bill Anderson after the news, and we are impressed by his thoughtfulness, strong background in pharma, and urgent desire to improve the areas of the company that have held it back from its full earning potential.

Charter Communications was a detractor during the fourth quarter. In October, the U.S.-headquartered communication services company’s share price fell as its third-quarter broadband subscriptions fell short of consensus estimates. Despite the shortfall, volume remains above peers. Adjusted earnings were in-line with consensus estimates, and we believe should improve next year as there are multiple tailwinds including expense growth, mobile promotion roll-offs and a higher contribution from rural subs. In December, Charter’s presentation at the UBS conference resulted in the company’s volatility. CFO Jessica Fischer’s comments during the presentation led investors to conclude that unfavorable trends in the third quarter have continued. “In our third quarter call…we had seen a little bit of carryover churn related to the combination of Disney and rate impacts that occurred inside of Q3. November has been similarly soft, so I can certainly see that it’s likely that we could end up with negative internet net ads inside of Q4.” However, management believes this is a short-term challenge and that its total broadband opportunity in the long term has not changed. Despite the market’s reaction in the short term, we believe that Charter Communications is a solid investment.

During the quarter, we purchased shares of Agilent Technologies, Capgemini, Centene, Phillips 66, Recruit Holdings and Roche Holding. We eliminated Henkel, Hilton Worldwide, Liberty Global Cl A and Parker-Hannifin from the portfolio.

Past performance is no guarantee of future results.

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 composite as of 12/31/2023.

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.