First Eagle Global Fund: Corporate margins are artificially highVW Staff
First Eagle Global Fund commentary for the third quarter 2014.
First Eagle Global Fund: Market Overview
In the third quarter of 2014, the MSCI World Index declined 2.2% while in the U.S. the S&P 500 Index increased 1.1%. In Europe, the German DAX decreased 11.1% and the French CAC 40 Index fell 7.9% during the quarter. The Nikkei 225 Index declined 1.5% over the period. Crude oil fell 13.5% to $91.16 a barrel, and the price of gold fell 9% to $1,208.16 an ounce by quarter end. The U.S. dollar strengthened 8.3% against the yen and 8.4% against the euro.
At First Eagle, we always keep a watchful eye on what can go wrong, not what is going right. In the last quarter we saw continued tensions in the Ukraine; and, with the rise of ISIS, increased instability in the Middle East. Yet asset prices and the appetite for risk remained relatively strong, even with the recent decline in stock prices.
Our concerns persist over financial repression by central bankers. We have spoken in the past about the current account imbalances between China and the United States, which have led to a shortage of savings in the U.S. relative to investment, and a surplus of savings in China relative to investment. If one excludes investments and looks at the savings rate alone, the level of gross national savings in China has grown from roughly half that of U.S. citizens to more than twice U.S. levels.
This dramatic shift was not driven solely by fundamentals. We have seen unprecedented growth in credit in China. These funds have gone to support considerable fixed capital investments. China’s share of global investment spending has nearly tripled from a decade ago. Meanwhile, such spending in the U.S. has declined by approximately a third relative to global levels and still the U.S. has a deficit of savings relative to investment.1 The net effect is too many bad assets in China and too much bad debt in the U.S. We continue to view China as an area of potential risk to the global economy in the intermediate term as the level of investment inevitably slows.
Meanwhile in the U.S., a seemingly benign environment continues to mask our longer-term concerns over how much demand has been pushed forward by overly permissive monetary and fiscal policies. The unwinding of these policies will ultimately create a cloudier outlook for economic growth and debt servicing capability.
In general, we view stock prices as fully valued. Corporate margins are artificially high, which makes prices appear cheap. However, when you normalize these peak margins valuations seem on the expensive side of history.
Turning to Europe, our concern over the potential for deflation remains high, as central bankers continue to make expansive comments about monetary policy. Weak growth has contributed to political strains, with anti-Euro parties winning seats in national parliaments. Recent efforts to weaken the Euro simply transfer deflationary pressure to the U.S and China.
The sum of these concerns is we remain wary of unnecessary risk taking. As such, we are maintaining our discipline of seeking what we believe is a margin of safety in each investment. The absence of sufficient bottom-up opportunity means we have some cash on the sidelines while we await the right opportunities at the right prices.
First Eagle Global Fund: Portfolio Review
Top contributors for the quarter came from a range of industries and included companies such as Intel Corporation (NASDAQ:INTC), Microsoft Corporation (NASDAQ:MSFT), Astellas Pharma Inc (TYO:4503) (OTCMKTS:ALPMY), Cintas Corporation (NASDAQ:CTAS) and Lockheed Martin Corporation (NYSE:LMT).
The top detractors to performance for the quarter were HeidelbergCement AG (ETR:HEI), gold bullion, Bouygues SA (EPA:EN), Cenovus Energy Inc (TSE:CVE) (NYSE:CVE) and Canadian Natural Resources Limited (TSE:CNQ). European industrial worries had a negative impact on French construction company, Bouygues and the German cement and aggregates manufacturer, HeidelbergCement.
Our gold-related investments performed poorly this quarter. We view our gold-related investments as a long-term potential hedge against the risks of our quasi pegged, quasi floating fiat currency system with excessive levels of sovereign debt in the developed economies. As such, we strive to maintain a close to 10% allocation to gold bullion and mining companies, although the exact composition of that allocation may vary.
We appreciate your confidence and thank you for your support.
First Eagle Investment Management, LLC