THE MARKET ENVIRONMENT
Despite experiencing some volatility in June, major global markets finished largely higher for the second quarter. In April, inflation in the U.S. accelerated at the fastest rate in more than 10 years as the Consumer Price Index rose 4.2% year-over-year and 0.8% month-over-month. Core inflation (stripping out food and energy prices) in May rose at the fastest pace since 1992, up 3.8% versus the year-ago period, while concerns for supply shortages drove national gasoline prices in excess of $3 per gallon for the first time in over five years. In June, oil prices reached their highest point in more than two years, and markets responded unfavorably to the U.S. Federal Reserve’s heightened expectations for inflation in 2021. While the Fed noted that inflationary pressures are “transitory,” it also now foresees two interest rate hikes in 2023. This compares to its forecast in March for zero rate hikes until at least 2024. However, Chairman Jerome Powell made assurances later in June that the Fed would not be coerced into raising interest rates on inflationary fears alone.
On the Covid-19 front, total global cases surpassed 180 million and global deaths approached 4 million. By the end of the second quarter, more than 800 million people reached full vaccination, representing about 10% of the global population. The overall increased distribution of Covid-19 vaccines and the additional stimulus in the U.S. contributed to the International Monetary Fund’s (IMF) decision to increase its outlook for global economic expansion for 2021 from 5.5% to 6.0%. The IMF also now expects 8.4%, 4.4% and 3.3% economic growth in China, the eurozone and Japan, respectively, as well as 6.4% economic expansion in the U.S in 2021.
In our view, there is still value to be had in value investing. We are finding a large gap in valuations when comparing growth and value stocks, and believe value stocks remain attractive on both an absolute and relative basis. Though conditions are ripe for value stocks to recognize upside potential, we also acknowledge that the backdrop of the market could change at any time as evidenced most recently by Covid-19. As such, we aim to invest in companies with strong balance sheets and management teams that can remain successful no matter the macroeconomic backdrop.
Alphabet’s results continue to positively surprise the market as the company’s first-quarter total revenue, operating income and earnings per share outpaced expectations by 7%, 39% and 67%, respectively. From our perspective, Alphabet’s results were impressive and again exhibited faster than expected revenue growth across the board with total revenue that advanced 34% from the prior year. In addition, the adjusted operating margin (excluding “other bets” activity) expanded by 820 basis points. By segment, search revenue grew 30%, YouTube advertising revenue rose 49% and cloud revenue increased 46%. Furthermore, margin trends improved across all segments as underlying operational expenses appear progressively well controlled relative to history. Management repurchased $11.4 billion worth of shares in the quarter and authorized an additional $50 billion to buy back Class C shares. Based on this solid fundamental performance and share repurchases, we raised some of our near-term valuation metrics.
The share price of Grupo Televisa jumped when the company revealed it is merging its content and media assets with Univision. In a call with shareholders, CEO of Televisa Alfonso de Angoitia and CEO of Univision Wade Davis provided details on the $4.8 billion agreement, which combines these leading media businesses in the two largest Spanish-speaking markets in the world. Overall, we think the deal makes strategic sense as streaming is the future in television and the new company will be the dominant Spanish language content streaming service globally when it is fully operational. Later, Televisa released first-quarter results with revenue that rose 3.2% from a year earlier and total EBITDA earnings that advanced 1.5%, driven by broadband growth and a rebound in advertising. However, business in the core cable segment slowed, illustrated by net subscription additions that declined roughly 34% from the same period last year. We discussed this issue with Televisa’s new CEO of the cable segment José Antonio González. While we are still getting acquainted with González, we like that he has a long-term focus, particularly for investments intended to stem competition.
Glencore’s share price increased after the company released its first-quarter production report late in April. The company’s copper production increased 2.7% year-over-year, and investors particularly welcomed this news as copper prices have risen in recent months. Furthermore, market commodity strategists anticipate copper demand and pricing will remain strong throughout 2021. In our assessment, copper demand can continue to accelerate owing to 1) broad infrastructure investment in China and elsewhere, 2) global industrial recovery, and 3) copper needed for environmentally favorable purposes, such as grid investment, renewables and mobility electrification. Glencore’s first-quarter production of ferrochrome also rose compared with last year, while output of other commodities (zinc, nickel and coal) fell, which was not surprising due to seasonality issues. Management reiterated production guidance across all commodities and stated expectations that long-term marketing segment earnings will be in the upper half of the $2.2-$3.2 billion range.
Several developments influenced Naspers’s share price over the course of the quarter, beginning with management’s announcement that it reduced its stake in Tencent from 31% to 29%. Subsequently, the company raised $14.7 billion in cash and agreed not to sell any additional Tencent shares for three years. While this strategy aligns with our expectations, investors appeared disappointed that Naspers did not immediately announce it would use the proceeds to fund a new share repurchase program. Later, its share price suffered on news that Prosus is making a voluntary exchange offer for up to 45.4% ownership of Naspers. We see both positive and negative aspects to this transaction, and CFO Basil Sgourdos stated that though this plan is not a perfect solution, the long-term benefits outweigh the share exchange ratio. In addition, he indicated that the company will take additional steps to close the discount, including listing assets, executing share repurchases and improving profitability at various businesses. Lastly, Naspers reported fiscal full-year headline earnings per share that were roughly 6% ahead of market projections, while total revenue missed forecasts. The company’s negative operating income (-$1.19 billion) for the period regressed from the $720 million realized in the prior year, though it was better than market expectations. From our perspective, Naspers remains equipped to sustain growth and reward shareholders over the long term.
Even though Fiserv’s first-quarter earnings disappointed investors, we saw results as respectable considering the challenging operating environment. Results were largely in line with our estimates, and total revenue and earnings per share surpassed market expectations. More importantly, organic revenue grew 4% from the prior year, earnings rose 15% and earnings per share advanced 18%. In merchant acquiring, organic growth amounted to 8% and margins improved 650 basis points, while gross payment volume in Clover (cloud-based point of sale product) grew 36%, ecommerce transactions grew 24% and the company won a record number of new customers during the period. In addition, we were pleased that Fiserv executed $612 million worth of share repurchases in the quarter (or about 0.8% of it share base). Despite this solid performance, the share price of Fiserv fell for the quarter as a market analyst downgraded the company, stating that valuations may contract from slowing organic revenue growth in the merchant segment. We possess an opposing view and our investment thesis for the company remains intact.
First-quarter results from Booking Holdings fell short of investor expectations. Revenue remains depressed relative to pre-pandemic levels and declined 50% from last year. However, earnings per share were not as poor as feared and we saw some other signs of improving trends. Although the total number of room nights booked declined 20% in the first quarter from the prior year, growth in the U.S. became positive year-over-year, which is where Booking believes it is taking share. In Europe, summer bookings are now within 30% of levels achieved in the summer of 2019. As a result of the company’s push toward the “connected trip,” the relationship between gross booking trends and room nights booked is beginning to diverge as new services, such as flight bookings, appear to be off to a strong start. In addition, over two-thirds of bookings are now conducted via mobile devices and the majority of those were through the company’s app. Bookers on the app tend to be more loyal and exhibit much higher repeated behavior, so the increasing mix of app downloads should benefit marketing efficiency. Moreover, CEO Glenn Fogel believes that the alternative accommodation mix will be structurally higher post-Covid-19 as many consumers will permanently incorporate this option into consideration.
During the quarter, we initiated new positions in Danone and Fresenius. There were no final sales during the period.
Past performance is no guarantee of future results.
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