Dodge & Cox 2014 Equity Mid-YR ReviewVW Staff
Dodge & Cox’s Charles Pohl interview with David Hoeft on the mid-year equity review 2014.
See the Dodge & Cox’s Charles Pohl interview with David Hoeft video here, text below
Charles Pohl: David, let’s talk about what happened in the first six months of 2014 and our market outlook and where we’re seeing value over the next three to five years. In the United States, the S&P and the Stock Fund were both up about 7% and that continued the strong performance of both the S&P and the Stock Fund in 2013. All the sectors of the S&P returned in positive territory and they were led by the energy and utility sectors. Could you tell us a little bit about what happened in the international area?
David Hoeft: Sure. International performance was strong. Most developed and emerging markets had positive returns in local currency for the period. If you look at it by sector, every sector of the MSCI EAFE had positive returns. And if you look at results by geography, Europe was a pretty strong contributor, relatively speaking. They were up 5% in local currency. Japan was a notable laggard, down 3%, the weakest region by geography, and emerging markets were mixed and volatile. So in the first quarter emerging markets declined. In the second quarter they rebounded, so for the six-month period, emerging markets were up 5% in local currency.
Charles Pohl: So both the International Fund and the Global Fund significantly outperformed their benchmarks in the first half. Currency, due to the depreciation of the dollar against the pound and the yen and some of the major emerging markets’ currencies, that was a tailwind behind the performance of the Funds. It helped the Funds’ performance. The dollar appreciated relative to the euro, which hurt the funds’ performance, but that was mitigated to some extent by the hedges that we had in both the International Fund and the Global Fund against the euro. Could you tell us a little bit about what went on with some of the individual names in the portfolio?
David Hoeft: There were a number of important contributors, but I think we’d highlight a couple, starting off with energy, particularly oil service. Weatherford International Plc (NYSE:WFT) was up 48% year to date. Schlumberger Limited. (NYSE:SLB) was up 32%. For the International Stock Fund and the Global Stock Fund, emerging markets financials were important contributors, and Hewlett-Packard Company (NYSE:HPQ) continues to be a standout. It was up 22% year to date and that really underscores the importance of and the value in a long term perspective for value investors like us.
Charles Pohl: And in terms of the markets overall, something that we’ve seen in the United States and around the world, but particularly in the United States, is a narrowing of valuations, a compression of valuations that’s occurred over the last few years. And so the stocks that trade at the higher multiples are not really so far apart from some of the stocks that trade at the lower multiples. We’ve also seen lower valuations for some of the large cap names and in particular, this compression of valuations has caused us to focus a little bit more on some of the fundamental factors, the potential for long term growth and earnings and cash flow and the strength of the business franchises that we’ve seen. And could you give us some examples of some things that we’ve been doing that highlight that?
David Hoeft: Well starting off at a high level, to your point about the impact of converging valuations on the portfolio, one interesting observation is today the median growth rate for the companies in the Stock Fund is equal to the median growth rate for the companies in the S&P 500. And that’s pretty unusual, given that the P/E multiple for the Stock Fund is about a 10% discount to the S&P 500. So given those narrowing valuations, we’re again continuing to spend a lot of time and energy looking at companies that have mispriced fundamentals. An example of this we think is EMC Corporation (NYSE:EMC) and what attracts us there is several-fold but first in terms of the franchises, they have two. They have number one dominant share in enterprise data storage and they also have a strong position in server virtualization, courtesy of their 80% stake in VMware, Inc. (NYSE:VMW). The second thing that attracts us to EMC is the corporate structure, which they refer to as a “federation.” So loosely translated, the federated approach frees up the businesses to pursue their own goals with only limited central control. And so one of the concerns that we share with the market about EMC is the possibility of hardware commoditization, which might impact the EMC storage hardware business.