THIRD QUARTER 2014 COMMENTARY:
Asian Market Sell-Off Offers Long-Term Opportunities
Further signs of an economic slowdown in China’s economy sent the markets lower during the third quarter, with the late-September demonstrations in Hong Kong adding to the unsettled conditions. Real estate prices declined, factory output slowed, and consumers put the brakes on spending.
While the speed of the economic slowdown occurred at a faster pace than many had predicted, the Chinese government’s efforts at “taking away the punch bowl” before a bubble could form (and burst) have been well-scripted. Chinese banks have been reducing liquidity and cutting back on new loans for some time now. We believe these measures are a rational and appropriate response to an economy that was growing at an unsustainably fast pace. The trillion-dollar question is whether China can manage to head off a bubble without stalling the economy.
We are long-term believers in China. The country’s central bank recently announced an injection of $81 billion into the banking system in an effort to reignite economic growth. We take this as a sign that the government is willing to take meaningful steps to keep the economy growing at or near its desired rate of 7.5% per year. With 1.4 billion consumers diligently working to improve their situation in life so their children will have a better life, we believe China will remain a powerful driver of global growth in the coming decade.
This is not to say that there won’t be bumps along the way – companies listed in Hong Kong or that do extensive business in the region, and to which the Fund has exposure, saw their shares decline during the third quarter. From Macau gaming to Swiss watches, many companies with substantial exposure to China have been battered in recent months. However, we did not sit idly by as shares of companies we believe in fell out of favor in the third quarter. To the contrary, we added to our holdings of Asian companies in the quarter. We believe recent prices offer compelling value for investors who have long-term horizons and are not overly concerned with day-to-day market fluctuations that may be driven more by momentum than fundamentals. Although the Fund trailed both the S&P 500 and the MSCI World Index during the quarter primarily because of the impact of our Asian exposure, we believe that the Fund is well positioned to benefit from what we consider to be an inevitable rebound in economic growth and sentiment in China and broader Asian markets.
Recent pro-democracy protests in Hong Kong have led to further volatility in Asian markets. We believe crises often create opportunities, as market participants sell on the negative headlines while ignoring the underlying fundamentals. Much as the Tiananmen Square protests of 1989 led to the eventual unleashing of a great economic powerhouse, recent Hong Kong protests may well lead to further pro-democratic and pro-growth reforms.
As Mark Twain said, history doesn’t repeat itself, but it does rhyme. Buying quality companies with what we view as improving economics, management working on behalf of all shareholders, and a compelling price is Wintergreen’s goal. As we work diligently trying to protect and enhance our clients’ investments, we believe the current storm clouds over Asian economies will pass and that utilizing the Fund’s cash reserves to accumulate positions in what we view as strong companies should prove rewarding. At Wintergreen, we try to remove the emotions from the investment process and instead focus on long-term opportunities. The Fund has, we believe, a solid portfolio of well financed, conservatively managed businesses that have good prospects and management teams focused on returns for all shareholders. Although market fluctuations are viewed by many as a risk, we believe they can be a gift to long-term investors.
For the quarter, positive contributors to the Fund included Union Pacific Corporation (+8.7%), Altria Group (+9.5%), and Consolidated-Tomoka Land Co. (+6.9%). Negative movers included Birchcliff Energy (-24.8%), Galaxy Entertainment (-26.6%), and Wynn Macau (-18.8%). In addition to our purchases in Asia, the Fund has found interesting new investments in both the U.S. and Europe, the details of which will be disclosed in upcoming Fund filings. We are also pleased to report that we have again identified what we believe to be a compelling arbitrage situation that offers a potential positive return above that of short-term cash equivalents. Stay tuned!
The views in this material were those of Fund management as of the date written and may be subject to change. The preceding examples of specific investments are included to illustrate the Fund’s investment process and strategy. There can be no assurance that such investments will remain represented in the Fund’s portfolios. Holdings and allocations are subject to risks and to change. The views described herein do not constitute investment advice, are not a guarantee of future performance, and are not intended as an offer or solicitation with respect to the purchase or sale of any security.
The Fund is subject to several risks, any of which could cause an investor to lose money. The Fund may purchase risk arbitrage securities (securities of companies involved in a restructuring) or distressed companies. These companies may not be successful in their restructuring and securities of distressed companies are generally more likely to become worthless than securities of more financially stable companies. Smaller companies involve substantial risk as these securities are traditionally more volatile in price than larger company securities. Securities rated below investment grade, sometimes called junk bonds, involve a greater degree of risk than investment grade bonds in return for higher yield potential. The Fund may be subject to interest rate risk which is the risk that debt securities in the Fund's portfolio will decline in value because of increases in market interest rates. By participating in derivative securities, the Fund may attempt to hedge (protect) against currency risk which is the risk that the value of foreign securities may be affected by changes in currency exchange rates. Derivatives can be volatile and involve various types and degrees of risks, depending upon the characteristics of a particular derivative. International investing involves certain risks and increased volatility not associated with investing solely in the U.S. These risks include currency fluctuations, economic or financial instability, lack of timely or reliable financial information or unfavorable political or legal developments. These risks are magnified in emerging markets. Short sale risk is the risk that the Fund will incur an unlimited loss if the price of a security sold short increases between the time of the short sale and the time the Fund replaces the borrowed security.
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