Charles de Vaulx, partner and portfolio manager at International Value Advisors, brings us up-to-date on what his funds are currently buying.
Q. Charles, global markets have really taken it on the chin recently, yet you have bravely launched two new funds, IVA Worldwide (IVWAX) and IVA International (IVIOX). Does that mean that you are near-term optimistic on the markets?
A. The October 1st launch date of our two new funds was somewhat coincidental. We realized this spring that the private funds IVA offered were not sufficient and that there was a considerable demand for mutual funds. It took us a few months to get the registration of these mutual funds effective. But, though we believe our strategy is resilient to downturns, we are thrilled to launch these two funds now that stocks have become so much more attractive than a year ago.
Q. Your funds are not constrained by any particular sector or capitalization concentration, as long as the investments are value-oriented. What is your definition of value and in which sectors and countries are you currently investing the funds' money?
A. Our funds are multi-cap and we are also willing to consider some high-yield bonds as equity substitutes. Our definition of value is Ben Graham’s definition, i.e., intrinsic value is what a rational buyer would pay in cash to own 100% of the business. We have a very modest allocation (less than 10%) in US equities in IVA Worldwide while we have a significant allocation to Japan (over 20% in both IVA Worldwide and IVA International).
We believe that cash is a legitimate asset class and do not use it to try and time markets. Cash is a residual of our investment process, reflecting our inability to come up with enough cheap securities. Holding cash is also a corollary of our investment goal, which is long-term growth of capital with a very strong emphasis on capital preservation and our willingness to be benchmark agnostic. Following the market debacle during the second week of October, we did put a fair amount of our cash to work, including buying some high yield bonds in Europe as well as adding new names in Japan.
In the United States, we are happy to see some capitulation in the market in October, yet we are still not seeing discounts as high as we are finding them in Japan or in continental Europe. Both funds have a 4% allocation to gold bullion which may act in the future as an insurance policy should too much money be printed to help stem the current financial crisis.
Q. Why do you find Japanese stocks so intriguing? And do you have any particular favorites?
A. We are currently finding generational bargains in Japan, a country that is suffering from an irrational lack of exuberance, to use some Greenspan lingo. Many Japanese companies have huge amounts of cash, most of which will never be needed and should ultimately be used to pay dividends or to buy back shares. We had focused until now on smaller domestic-oriented companies but as the Yen rebounded significantly in October, we bought some larger export-oriented type companies whose stock prices got crushed as their earnings will be under pressure in the near future. Examples include Makita (Nasdaq: MKTAY), a power tool company, as well as Canon (NYSE: CAJ), a printer and camera manufacturer. In fact, we were very encouraged by the announcement recently of both companies’ intention to buy back some of their shares in the near future.
Q. You have not been a big proponent of banks for awhile. But do you currently see any financials that look tempting over the next few months?
A. We are still not comfortable with bank shares in the US or Europe as we think non-performing loans will get larger in the next 12-18 months and banks will have to issue significant amounts of equity in the near future to repair their balance sheets.
We did buy into our first bank stock a few weeks ago, Bangkok Bank (Berlin: BKKF.BE) in Thailand. Chuck de Lardemelle [co-manager of the funds] and I like that there has been no credit bubble in Thailand over the last 10 years. That bank appears well-capitalized, with a loan to deposit ratio of less than 100% and the stock trades way below book value. Individual investors should understand that in the US, in particular, non-performing loans peaked at around 6% in 1991-1992 and that this time around, non-performing loans will probably peak well in excess of 8% or 9%. On that basis, there are significant additional write-offs that will need to be taken as well as significant additional equity capital that will have to be raised by those banks. Investors should understand how critical it is to assess the underwriting culture of particular banks.
Q. With the capital markets in upheaval, are you finding any fixed income issues that you like, especially in the high-yield bond areas?
A. Yes, there is tremendous dislocation affecting the high-yield bond market and that includes busted convertible bonds. We have been able to buy a fair amount of convertible bonds of Pargesa (Frankfort: PGH1.F) with a yield-to-maturity in excess of 9%, and we believe Pargesa has very strong credit. We have also been able to buy high-yield bonds of a French holding company with yields in excess of 17% for the next 8 years.
Q. Commodities have been beaten down, along with the rest of the market. What is your near-term view on commodities? And do you invest in mining stocks, as well as in the metal?
A. Earlier this year, we were extremely skeptical of commodities, including oil. They were trading way in excess of their replacement costs (which we believe to be in the area of $80 per barrel). Also, we never believed in the decoupling story and as a result, believe that any significant economic slowdown in the US would result in an economic downturn in the rest of the world, and particularly in emerging markets. Now that commodities have taken a beating, we have become intrigued. We bought into a copper mining company as well as into a few oil-related stocks including Total (NYSE: TOT), the large French-based oil company. In the case of gold, we were very nervous of the correlation between oil and gold earlier this year, especially when oil prices were well in excess of $120 a barrel. Now that oil has come down significantly and gold is down almost 30% from the high of $1,000 per ounce that it reached back in March, we are more comfortable owning some gold. We currently own gold bullion which has been the right strategy this year as gold mining stocks have taken major beatings. There will be a price at which we would consider exchanging some of our gold bullion into gold mining stocks.
