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Auxier Report: Spring 2019

Mar 31, 2019

Download Auxier Report Spring 2019

Spring 2019 Market Commentary 

Favorable economic trends in the US continued in the first quarter. Consumer spending comprises over two thirds of the US economy. Services are also big, contributing over 68% of US GDP and over 83% of private employment (Moody’s). Lower oil prices, declining borrowing costs, regulatory relief and increasing wages have provided a positive backdrop. Credit spreads are still very tight despite the accelerating growth in covenant-lite corporate debt and leveraged loans. The Fed made a material reversal at year-end and lower interest rates have fueled gains for both stocks and bonds. Unprecedented technological innovation is driving impressive productivity gains which has helped to keep inflation in check. If California were a country it would rank in the top five globally by GDP. The recent plethora of initial public offerings coming out of California this year is a huge positive for  that state which is heavily dependent on capital gains for the majority of its tax revenues. Trade uncertainty and Brexit are contributing to weakness in Europe, Japan and China which impacts US companies exposed to those end markets. $10 trillion in negative yielding bonds continues to hamper European banks and lending. Where socialism grows so does inflation and stagnation. Inflation in Venezuela now tops one million percent annually. Bondholders there have been crushed.

Program trading and the growth of exchange traded funds have led to some wild swings in securities as mathematical algorithms tied to momentum strategies accentuate moves–both up and down. Oil declined over 35% in the fourth quarter of 2018 only to rally over 40% in 2019. This highlights the importance of knowing the facts, fundamentals, supply/demand and underlying cash flows of what you own. In 2018 we endured two brutal corrections, one in the spring and one at year-end, marking the first time in 24 years that Treasury bills outperformed stocks. After a similar market decline in 1994 a strong rebound in equities lasted for three years. To enjoy the fruits of compounding it is so important to buy right and then  stick with good businesses over long periods.

Opportunities

Healthcare is an industry that can get hit hard on political headlines like “Medicare-for-All.” The cost of this proposal is estimated at $28-32 trillion over a decade (Urban Institute). Since 1999 we have done well buying  businesses with strong fundamentals where the headlines are gloomy. We see value in healthcare today.  Uncertainty and negative sentiment mask advances in the cures for many diseases through data analytics and medtech. Looking across the investment spectrum we see  excesses in venture funding and private equity.  Private equity firms are forced to pay high control premiums with borrowed money. There is now over $1.8 trillion in buying power in private equity. Bond yields  today after tax and inflation don’t compensate for the loss of purchasing power. The heavy mathematical-based trading in exchange traded funds is creating attractive opportunities as the liquidity buffers have diminished in recent years, leading to shocking drops and temporary misappraisals in many blue chip names. There is a big advantage in dealing with small sums of money that are not subject to a timetable or “liquidity event.” Our universe of investable ideas is large. According to Bernstein, the valuation spread between the most expensive and cheapest stocks is the widest in 70 years. Value tends to outperform when dispersion in valuations across the market is at an extreme.

Euphoria in Technology

Low interest rates have  contributed  to a boom in US venture funding ($137 billion in 2018) and now an avalanche in IPO supply. Just as we saw in 1999-2000, there is a growing enthusiasm surrounding money-losing business models. Many of the delivery models are dependent on freelance workers (gig economy) that tend to dry up in tight labor markets. Costs are sure to rise with unemployment levels at 50-year lows. Over $20 billion dollars a year is being poured into streaming content with more than 500 new programs this year. Who has time to watch all these shows? Some recent IPOs are seeing valuations in excess of 50 times sales, such as the enterprise software company Zoom, a provider of video conferencing. This compares with the average S&P company that trades less than three times sales. WeWork is a shared-office real estate company that is being valued at over $46 billion. Last year they lost $1.9 billion on revenue of $1.8 billion. This is starting to remind me  of March 2000, as envy took hold and retirees were putting 100% of their life savings in tech stocks that were going parabolic. Many internet mutual funds were doubling over short periods only to go out of business within three years. In 2000 the Nasdaq lost 39.29% of its value dropping from 4069.31 to 2470.52. The next year it retreated 21.05%, from 2470.52 to 1950.40. In 2002, the index lost 31.53% falling from 1950.40 to 1335.51. From the March 2000 high of 5048.62 to the October 2002 low of 1139.90 the Nasdaq index lost 76.81% (Dow Jones). So much for the efficient market theory. In 2018 speculators in Bitcoin lost over 75%.

Investing is about buying productive assets that will yield increasing cash flows over time. It is about understanding the qualities of management that can create or destroy value. It is the “craft of the specific.” At this point of the tech cycle over 81% of the new companies coming to market are losing money  (Dow Jones). The idea of putting your hard-earned savings on autopilot without an understanding of odds, fundamentals   and a daily  dedicated research effort has always baffled me.  Look at the S&P passive index craze which peaked in 1999 only to see the worst ten-year period in US stock market history through 2009. The Auxier Focus Fund returned a net 78.43% vs. -9.10 % for the S&P 500 from 12/31/99 to 12/31/09.

Economic Trends

Powerful investment trends include the digitization of the economy. Visa and Mastercard are enjoying the growth in the conversion from cash to plastic. Cerner is digitizing medical offices. Alphabet, Microsoft, Facebook, UnitedHealth and Amazon are examples of industry leaders that enjoy powerful networks and are utilizing artificial intelligence and  data analytics to drive productivity.  The advertising business is being transformed  as digital ads now exceed  50%. Newspapers have been on the wrong side of the digital trend in ads  as 1800 closed between 2004 and 2018 (Dow Jones). Travel fundamentals are very strong, global airfares are dropping and 80% of the world population has yet to travel on a plane. Boeing is suffering today but longer term their problems appear fixable and demand trends solid. People young and old love to travel and continue to value “experiences.” Airbnb, Booking Holdings and Marriott are some examples of companies that should continue to benefit.  The legalization of hemp is a potential disrupter in healthcare, cosmetics, food, plastics and building materials to name a few. In 1619, Jamestown colony law declared that all settlers were required to grow Indian hemp. George Washington and Thomas Jefferson were big hemp farmers. We see a huge market for hemp CBD oil in pain relief and the fight against inflammation. Oregon is a leader in hemp research.    

First Quarter 2019 Performance Update

Auxier Focus Fund’s Investor Class returned 9.16% in the first quarter vs.  13.65% for the S&P 500 Index and 11.81% for the DJIA. Stocks in the Fund comprised 92% and gained 11%. The equity breakdown was 79% domestic and 13% foreign.  A hypothetical $10,000 investment in the Fund since inception in July 1999 to March 31, 2019 is now worth $40,228 vs. $29,512 for the S&P 500. This was achieved with an average exposure to the market of less than 79% over the entire period. After the steep  13.52%   decline in the fourth quarter of  2018, The S&P 500 rebounded dramatically as the Fed  reversed policy pausing interest rate hikes. The fears of a sharp earnings recession have also abated with revenues growing over 5% in the first quarter.

Contributors to the quarter:  Our outlook on a cross section of portfolio positions with a positive return for the quarter ended 3/31/2019.

Mastercard Inc. (MA)
While the banks in general have languished, Visa and Mastercard have continued to show strong operating results and enjoy powerful networks in the face of an increasingly competitive payment space. The Fund has now gained over ten times the original investment in  Mastercard and nine-fold in Visa.  This shows the value of tracking fundamentals of individual businesses and  knowing which to hold for the very long term.  Mastercard has the third most blockchain patents of any company yet CEO Ajaypal Banga has remained cautious saying that “the business model is not proven” and that there was still “a lot to improve and change over time.”  However, in a recent conference (Fintech Ideas) Mastercard indicated they are still deeply invested in eventually using blockchain to improve supply chains and deter counterfeit goods.  Mastercard had  a 52% return on investment (ROI) in 2018 with over $5 billion in free cash flow.

Central Pacific Financial Corp (CPF)
Located in Hawaii, Central Pacific has been able to consistently improve key performance indicators including net interest income, net interest margin, return on equity and efficiency ratio. Hawaii saw a banner year with visitor expenditures of $18 billion, up 6.8% over 2017.

Zimmer Biomet Holdings (ZBH)
Zimmer Biomet specializes in knee and hip replacements while also providing a variety of other joint replacements. With the obesity rate in the United States over 30% and the number of Americans over 65 nearing 50 million, the demand for joint replacements will continue to grow. Zimmer Biomet is trading at a discount with a forward price-to-earnings ratio of under 15x. They had over $1.3 billion in free cash flow in 2018.

Microsoft Corp. (MSFT)
Satya Nadella has led Microsoft to another record quarter by focusing on Microsoft’s proprietary digital capabilities. This is most evident in their push in artificial intelligence, which can use Microsoft’s expansive amount of data to “learn” more than other programs could. Their subscriber and cloud-based products have been firing on all cylinders. Azure has been a rocket, growing over 70% in the first quarter alone. Microsoft has over $135 billion in cash and short-term investments and returned $6.1 billion to shareholders through dividends and share repurchases in the first quarter of 2019.

BP p.l.c. (BP)
CEO Bob Dudley’s bet on market stabilization has paid off with oil prices steadily rising since the new year leading to increased margins. BP has also started to reap the rewards of their heavy investments in discovery and technology. Their recent expansion in the Atlantis platform network increased production to 200,000 barrels of oil and 180 million cubic feet of natural gas per day. Meanwhile, their technology investments have allowed them to reduce overhead and cut their operating costs. BP has a dividend yield of over 5.5%.

Detractors to the quarter:  Our outlook on a cross section of portfolio positions with a negative return for the quarter ended 3/31/2019.

Biogen Inc. (BIIB)
Biogen dropped sharply on news it was canceling its once-promising Alzheimer’s drug, Aducanumab. One of the first Alzheimer’s drugs to make it to phase three trials, Aducanumab, had extraordinary potential but was canceled after disappointing trial results led Biogen to determine it was no longer a cost-effective investment. Still, they are the most focused company we can find in researching diseases of the brain like multiple sclerosis, Parkinson’s, and ALS.  Biogen is now trading at under 11x earnings and has remained flexible with nearly $5 billion in cash and equivalents.

The Kroger Co. (KR)
Kroger is in the first year of its 2020 Restock Kroger program that aims to improve efficiency and differentiate the company with exclusive brands. In 2018 Kroger achieved over $1 billion in cost savings through process improvements, adjusted earnings per share on the high range of guidance, and operating profit and free cash flow goals. In addition, they raised dividends for the 12th consecutive year, announced partnerships with Home Chef, Microsoft, Nuro, Ocado and Walgreens and expanded pickup and delivery to reach 91% of Kroger households. Like most grocery stores, Kroger has a high inventory turnover ratio of over 14x allowing them more flexibility in response to changes in the economy.

UnitedHealth Group (UNH)
UnitedHealth Group’s stock price  has corrected  mostly due to  a push for Medicare-for-All by presidential  candidate Bernie Sanders. The company has been successful with the use of data analytics and scale to serve clients at a lower cost than rivals. This has resulted in strong enrollment growth and industry leading returns on capital. They have been a leader in product innovation as well. UnitedHealthcare grew in the first quarter to now serve over 2 million people while Optum continues its strong performance with double-digit revenue and earnings growth. UnitedHealth had over $13 billion in free cash flow in 2018.

Berkshire Hathaway Inc. (BRK.B)
The holding company famous for its CEO Warren Buffett, Berkshire Hathaway has made a major bet on bank stocks which has hurt them due to the headwinds of a flat yield curve and slow loan growth. In addition, goodwill write-downs on Kraft Heinz cost Berkshire over $3 billion on its 26.7% stake. Still Berkshire is probably the best run property casualty insurance company in the world led by skillful managers like Ajit Jain.

The Coca Cola Co. (KO)
Coca Cola continues to be the leading brand in the beverage industry.  In order to adjust to evolving market trends they just announced a new product called Coca Cola Coffee that will soon be released in 25 global markets.  Their stake in Monster Energy Drinks and focus on healthier beverage options such as Coke Zero continues to pay off.  Despite strong top-line organic revenue growth of 6% in the quarter the company has still trailed Pepsi in the push for healthier drinks.  The company is reinvesting heavily in its brands and enjoys significant economies of scale and unit cost advantages over competitors.  Over the last 8 years Coke has returned over 90% of their free cash flow to investors through share buybacks and dividends.

Is Inflation Dead?

Businessweek recently had a cover entitled “Is Inflation Dead?” In 1979 when stocks were a compelling generational buy at nine times earnings, Businessweek ran a cover “The Death of Equities.” We are seeing the potential for food inflation as China has lost close to a third of their hogs to disease. Ethanol mandates are rising from 10%-15%, boosting corn demand. Most agriculture crops are close to or below cost of production as farm incomes are off nearly 50% from 2013 highs. We could be close to the bottom of a long downturn in agriculture. Shipping costs are climbing as truck driver shortages intensify. Companies such as PepsiCo and Procter & Gamble have been able to raise prices. Pepsi and Procter are  showing some of the best growth in over five years. We can’t predict macro events, but we can intensively research well-managed  companies that have the ability to endure through the most difficult economic environments. Many of our investments have low mandatory capital investment needs, high and growing free cash flow yields and attractive returns on invested capital. This type of model is best in periods of increasing inflation.

Conclusion

While we are encouraged by the market recovery, earnings in general have not been materially improving. In an environment that is enthusiastic about “growth at any price” we remain focused on making careful buys in outstanding businesses, with strong ethical leadership, durable models with solid balance sheets and improving free cash flow. We are looking to buy  at a discount to intrinsic value with the goal of a double or triple play over five to ten years. We believe the pendulum has swung too far in the direction of  money-losing speculative ideas many of which lack sustainable earnings. When asset classes go parabolic  it has been our experience that  an inflection point is close where markets will purge the excesses.

 

We appreciate your trust.

Jeff Auxier

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses.  This and other information is in the prospectus, a copy of which may be obtained by calling (877) 328-9437 or visiting the Fund’s website.  Please read the prospectus carefully before you invest.

Fund returns (i) assume the reinvestment of all dividends and capital gain distributions and (ii) would have been lower during the period if certain fees and expenses had not been waived.  Performance shown is for the Fund’s Investor Class shares; returns for other share classes will vary.   Performance for Investor Class shares for periods prior to December 10, 2004 reflects performance of the applicable share class of Auxier Focus Fund, a series of Unified Series Trust (the “Predecessor Fund”).  Prior to January 3, 2003, the Predecessor Fund was a series of Ameriprime Funds.  The performance of the Fund’s Investor Class shares for the period prior to December 10, 2004 reflects the expenses of the Predecessor Fund. 

The Fund may invest in value and/or growth stocks. Investments in value stocks are subject to risk that their intrinsic value may never be realized and investments in growth stocks may be susceptible to rapid price swings, especially during periods of economic uncertainty. In addition, the Fund may invest in mid-sized companies which generally carry greater risk than is customarily associated with larger companies. Moreover, if the Fund’s portfolio is overweighted in a sector, any negative development affecting that sector will have a greater impact on the Fund than a fund that is not overweighted in that sector. An increase in interest rates typically causes a fall in the value of a debt security (Fixed-Income Securities Risk) with corresponding changes to the Fund’s value.

Foreside Fund Services, LLC, distributor.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 widely held common stocks. One cannot invest directly in an index or average.

The views in this shareholder letter were those of the Fund Manager as of the letter’s publication date and may not reflect his views on the date this letter is first distributed or anytime thereafter.  These views are intended to assist readers in understanding the Fund’s investment methodology and do not constitute investment advice.

Auxier Report: Winter 2018

Dec 31, 2018

Download Auxier Report Winter 2018

Winter 2018 Market Commentary

In the fourth quarter, the S&P 500 fell 13.52%. We just endured the worst December market downturn in 88 years.  For the first time since 1994, Treasury bills beat most major investment classes as over 95% of global assets declined in 2018. Speculation in the energy sector over Iranian sanctions was purged in the quarter as oil prices plunged 39% from their peak in early October. The energy sector was the worst performer, down 24%. Due in large part to amazing output from the Permian Basin, US crude production grew to a record 11.9 million barrels per day late last year. The US is now the number one producer in the world. This is like a huge tax cut for Americans who are traveling more in larger vehicles and valuing “experiences.” Global travel and tourism have outstripped growth in GDP the past seven years by a large margin. With consumer spending comprising over two thirds of the US economy, oil declines are a big plus. The deep economic downturns in the 1970s were largely a result of parabolic price increases in oil. Today just the opposite. Oil, natural gas, wind, solar, battery storage, etc. point to ample supplies while technology is helping to mitigate demand. This together with strong employment gains are a stabilizing force for the US economy. Skilled workers are finally seeing a real reward for their labor. There now is a shortage of 60,000 truck drivers. While the domestic economy has been strong, we are seeing a deceleration in earnings growth for many sectors of the S&P as the world economy slows.

It is estimated that over 85% of trading on the exchanges is now tied to momentum-based mathematical algorithms. With the proliferation of exchange traded funds, investors may have miscalculated liquidity. An exchange traded fund can’t be more liquid than the underlying securities. It was the high expectation momentum stocks that suffered the most in this correction. In a momentum market it is easy to lose price discipline, to overpay and over-borrow both for acquisitions and stock buybacks. The good news on the buy side, we are seeing a meaningful compression in price earnings multiples which benefits long-term investors seeking double-play returns. The semi-informed electronic herd is creating great opportunities for the diligent investor, armed with cumulative knowledge of underlying facts, fundamentals and cycles. Rigorous day-to-day research can pay off big in bad markets by understanding where you are in the cycle and being able to quantify and minimize risk while increasing odds.

I like to study high achievers in any field. I am reading a biography on the champion New England Patriots football coach Bill Belichick. He was watching game film at age six. He talks about the grinding day-to-day process. Not the results. There are no easy formulas. It is day-to-day nitty gritty grinding focus on details. Costco founder Jim Sinegal was famous for his saying “retail is detail.” That is what serious investing is all about. Otherwise you are speculating.  With a normalization of interest rates and the reduction of the Fed’s balance sheet at $50 billion a month, there seems to be a shift from momentum and “growth at any price” to cash flow and valuation. Our most profitable investments have usually started with bad headlines, some pain and a bargain price. Conversely, investment cycles end when everything looks great. In 2000 market darling Cisco looked terrific.  Then, over the 13 months ended April 6, 2001, it plummeted from $82 to $13.83. We remain focused on the operating fundamentals and cash flow of individual businesses and where we are in each industry cycle.

Fourth Quarter 2018 Performance Update

Auxier Focus Fund’s Investor Class declined 10.36% in the fourth quarter vs. a drop of 13.52% for the S&P 500 Index. For the full year the investor class returned -4.06%. The S&P gave back 4.38%. The NYSE Composite Index which includes all the common stock listed on the New York Stock Exchange lost 11.2%. Foreign emerging markets declined 17% with China’s Shanghai Index surrendering 24.6%.  In the Fund, domestic stocks comprised 77%, foreign 14%, with cash and “workouts” 9%.  From inception at the top of the market in July 1999 to December 31, 2018, a hypothetical $10,000 investment in the Fund has grown to $36,852 with an average equity exposure of 80%. This compares favorably to $25,968 for the fully invested S&P 500. We would encourage investors to check out our risk-adjusted results in the most difficult down markets over the past 19 years.  Our focus is on a systematic low risk approach to the markets and in harnessing the power of compounding.

Contributors to the quarter:  Our outlook on a cross section of portfolio positions with a positive return for the quarter ended 12/31/2018.

Yum! Brands, Inc. (YUM)
The parent company of some of the largest chain restaurants in the world, Yum! Brands manages Taco Bell, KFC, Pizza Hut and WingStreet outside of China. Between all their brands, Yum! operates over 46,000 restaurants with over $46 billion in annual sales. KFC, Pizza Hut and Taco Bell are number one globally in the chicken, pizza and Mexican food categories respectively. With approximately 98% of their restaurants franchised, Yum! Brands has managed to create a global fast food empire while remaining capital light and reducing their own risk.

The Coca-Cola Co. (KO)
Coca-Cola is working to expand into other markets and make strategic acquisitions that align with their expertise while continuing their current dominance in the carbonated beverages market. They recently acquired Costa Limited to enter the $500 billion annual hot beverage market and have launched Smartwater in 20 new markets in 2018.

McDonald’s (MCD)
Management led by CEO Steve Easterbrook has been aggressively offering delivery, mobile order and digital menu boards. They have reduced overhead costs while improving the quality and consistency of their stores. So far this year, their company-operated restaurant expenses are down 17% and their selling, general and administrative expenses are down 9%. McDonald’s recently partnered with Uber Eats to deliver their food and launch a new ad campaign.

Merck & Co. (MRK)
Merck is known for its signature drug, Keytruda, an immunotherapy drug currently registered to treat seven different types of cancer that brings in nearly $2 billion quarterly. Despite having a blockbuster drug that is still on the upswing, Merck has continued to strengthen their pipeline and invest in new drugs such as Gardasil, an HPV vaccine that is already bringing in over $1 billion per quarter, and Bridion, the first selective relaxant binding agent on the market.

Procter & Gamble Co. (PG)
Management has focused on reducing their costs of products sold and their selling, general and administrative expenses in order to maximize the amount of capital they can return to shareholders.  In the first quarter of their fiscal year, Procter & Gamble returned $3.2 billion to shareholders through dividends ($1.9 billion) and stock repurchases ($1.3 billion). Led by activist investor Nelson Peltz, PG has restructured its business around six “small business units” each with their own management team. They have reduced brands from 165 to 65 in order  to  compete with smaller, more nimble companies such as Harry’s Shave Club while still granting them the cost synergies of a massive company.

Arcos Dorados Holdings Inc. (ARCO)
The largest McDonald’s franchisee in the world, Arcos Dorados exclusively operates and manages McDonald’s restaurants in twenty countries in Latin America and the Caribbean. Despite taking severe losses in Venezuela due to the country’s problematic macro environment, Arcos Dorados has managed to increase revenues by 8.3% on a constant currency basis while increasing their net income by 68%. Brazil’s newly-elected president Jair Bolsonaro and finance minister Paulo Guedes are working to privatize more industries and instigate pension reform, while rooting out corruption. Guedes was educated at the University of Chicago.

Detractors to the quarter:  Our outlook on a cross section of portfolio positions with a negative return for the quarter ended 12/31/2018. 

Zimmer Biomet Holdings (ZBH)
Fundamentals at Zimmer Biomet are steady with a powerful franchise in hip and knee replacements. ZBH  generates over $1 billion annually in free cash flow.  They are close to an FDA approval for their  total knee replacement Rosa robot. A Zimmer Biomet manufacturing plant in Indiana has been hampered by regulatory issues the past two years but management is showing steady progress in fixing the problem. We see good upside in the stock when this problem is ultimately corrected.

Discovery, Inc. (DISCA)
Discovery continues to build their media influence of unscripted content.  As the leading  provider of nonfiction content, Discovery has built a global market focusing on “superfans.”  They have tapped into offering shows that no other platform runs, while also picking up the rights to niche sports like golf and tennis.  Recently, news was released that CBS is looking to grow their balance sheet, in order to renew the rights to the NFL.  Bankers have pitched Discovery as a merger target.  While we don’t know if CBS will acquire them, we do feel consolidation in this space will happen due to the need to scale up against players like Amazon and Netflix. The stock seems really cheap at nine times earnings with a double-digit free cash flow yield.

Altria Group, Inc. (MO)
Altria has aggressively pushed its way into the new E-cigarette (also known as vaping) and cannabis markets by making deals with Cronos and Juul. With Cronos, Altria gets a 45%, with an option to increase to 55%, stake in a Canadian marijuana company with a strong research division and an asset-lite approach that avoids the actual cultivation of marijuana. With Juul, Altria gets a 35% stake in one of the fastest growing E-cigarette companies while also providing it with the cash to continue its rapid growth. Sales for Juul grew from $200 million in 2017 to over $1 billion in 2018.  However, they paid a very steep price for entry.

Microsoft Corp. (MSFT)
Microsoft has been transitioning away from personal computing and toward services, which now make up over 60% of revenues.  Under the leadership of Satya Nadella the company has made huge strides in cloud computing. The Azure cloud business has been growing over 75%. Like many companies, their stock has taken a hit since reaching record highs in the fall of 2018, yet they have a fortress balance sheet with over $135 billion in cash and short-term assets and less than $70 billion in long-term debt. Microsoft had over $10 billion in free cash flow in their last quarter.

Bank of America Corp. (BAC)
Management at Bank of America, led by CEO Brian Moynihan, is working on reducing risk and becoming more efficient while enhancing the customer experience.  In early 2019, Bank of America was awarded the first J.D. Power and Associates’ website certification for online experience while last year they were awarded J.D. Power’s first mobile app certification. The stock looks inexpensive at less than ten times 2019 earnings estimates.

Mastercard Inc. (MA)
Despite strong performance with currency neutral revenue growth of 17% and earnings growth of 36%, Mastercard has fallen from its peak in the fall of 2018 due to macroeconomic concerns. Mastercard has done a great job in fending off the competition in the digital payments space while taking advantage of the digital trends away from cash payments.

Risks 

It is difficult to endure long term without a vigilant eye on risk. Risk management is most valuable in expensive markets as torpedo drops interrupt the compounding process. Rapidly growing debt loads are often a precursor to economic panics and downturns. Rising interest rates tend to expose poor capital allocation. As the Federal Reserve has been reducing their balance sheet by $50 billion a month, that has led to increased volatility and shifted investor focus away from just revenue growth to cash and balance sheet strength. This past year  digital speculation in the form of Bitcoin crashed from over $20,000 at the peak to under $4,000. US venture-backed companies raised a record $131 billion in 2018 topping the $105 billion set in 2000 according to PitchBook. This combined with record funding out of Japan with Softbank and China points to the potential for oversupply in many areas of technology. This could get worse if the tech initial public offerings overheat in 2019. The cash burn1 on startups in Silicon Valley is far greater than the mania peak in 2000.  The growth in borrowings out of China and the lack of price discipline in foreign acquisitions is very similar to the behavior of the Japanese in the late 1980s. They were paying crazy prices for trophy properties like Pebble Beach and Rockefeller Center. The past few years the Chinese have overpaid for the Waldorf Astoria and many other “trophy” names. This led to the seizure in 2018 of the largest Chinese insurance conglomerate Anbang. The Japanese Nikkei Stock Index hit a peak over 39,000 in 1989 only to drop to 7,500 twenty years later after their debt binge. The true cost in investing is not knowing what you own or what you are doing.

Other misperceptions of risk include the safety of utilities and big companies. Recently the largest utility in the country, Pacific Gas and Electric, declared bankruptcy over wildfire liabilities in California. In 2007 Texas Utilities went bankrupt. In 2001 Enron was the largest bankruptcy in history, a year after Fortune magazine featured them as having industry best practices. In 2000 CFO magazine named Enron’s Andrew Fastow CFO of the year. Enron had acquired our local utility Portland General Electric and we saw the rapid buildup of off-balance sheet debt and sold the stock at $80 before it dropped to zero. Overpaying and overborrowing are the recurring sins of capital allocation.

Opportunities  

Corrections and recessions are necessary to purge imbalances in a market-based economy. They should be welcomed as an opportunity to shop for the best quality investments at bargain prices. I remember like yesterday personally investing in 1994, the last time T-bills outperformed stocks (S&P 500). The number two economy at the time was Japan which suffered from crushing debt, crashing stock and real estate markets. The fears proved to be overblown. Fast forward to today, and China’s slowdown has captivated the investment news. In 2017 US exports to China were $130 billion or .6% of our $21 trillion economy. Imports from China were $506 billion.  Our portfolio’s valuation is an attractive 13.9 times forward earnings with good free cash characteristics. Our greatest investments have been made in the time of market panics or recessions. Today, emerging markets (MSCI Emerging Markets Index) are interesting at 12 times earnings. The Fund is positioned for a slowdown based on quality, balance sheet strength and free cash flow yields.  Being late in the economic cycle, we have remained weighted in healthcare despite negative headlines. Since 1946 healthcare has outperformed the market, as measured by the S&P 500, 75% of the time in down markets. We like the innovation we are seeing in medical technology with data analytics leading to rapid advances in tackling cancer, brain and other chronic diseases.

We appreciate your trust.

 

Jeff Auxier

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses.  This and other information is in the prospectus, a copy of which may be obtained by calling (877) 328-9437 or visiting the Fund’s website.  Please read the prospectus carefully before you invest.

Fund returns (i) assume the reinvestment of all dividends and capital gain distributions and (ii) would have been lower during the period if certain fees and expenses had not been waived.  Performance shown is for the Fund’s Investor Class shares; returns for other share classes will vary.   Performance for Investor Class shares for periods prior to December 10, 2004 reflects performance of the applicable share class of Auxier Focus Fund, a series of Unified Series Trust (the “Predecessor Fund”).  Prior to January 3, 2003, the Predecessor Fund was a series of Ameriprime Funds.  The performance of the Fund’s Investor Class shares for the period prior to December 10, 2004 reflects the expenses of the Predecessor Fund. 

The Fund may invest in value and/or growth stocks. Investments in value stocks are subject to risk that their intrinsic value may never be realized and investments in growth stocks may be susceptible to rapid price swings, especially during periods of economic uncertainty. In addition, the Fund may invest in mid-sized companies which generally carry greater risk than is customarily associated with larger companies. Moreover, if the Fund’s portfolio is overweighted in a sector, any negative development affecting that sector will have a greater impact on the Fund than a fund that is not overweighted in that sector. An increase in interest rates typically causes a fall in the value of a debt security (Fixed-Income Securities Risk) with corresponding changes to the Fund’s value.

1 Cash burn aka burn rate is normally used to describe the rate at which a new company is spending its venture capital to finance overhead before generating positive cash flow from operations; it is a measure of negative cash flow.

Foreside Fund Services, LLC, distributor.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 widely held common stocks. One cannot invest directly in an index or average.

The views in this shareholder letter were those of the Fund Manager as of the letter’s publication date and may not reflect his views on the date this letter is first distributed or anytime thereafter.  These views are intended to assist readers in understanding the Fund’s investment methodology and do not constitute investment advice.

Auxier Report: Fall 2018

Nov 16, 2018

Download Auxier Report Fall 2018

Fall 2018 Market Commentary

In the third quarter the US was a global leader in equity returns. Strong GDP growth, tax cut stimulus, deregulation, employment gains and higher wages contributed to strong consumer confidence and spending. However, after recently meeting with CEOs and CFOs of over 50 companies we learned firsthand about negative headwinds weighing on earnings forecasts for 2019. Namely, a strong dollar hurting export demand, tariffs, higher oil, transportation, labor and interest costs, which all can negatively impact profit margins. China’s depreciating currency has posed additional challenges while emerging market currencies have reached multi-decade lows. The stocks of industrials, autos, chemicals, semiconductors and homebuilders have been discounting a global growth slowdown–possibly an earnings recession.  Rising mortgage rates, loss of deductions in high-tax states and overheated markets are hampering high-end housing. Auto affordability has declined with high prices and tighter bank credit as most buyers make payments, although domestic truck sales are surging. With US oil companies solidly profitable at $50 a barrel, fundamentals support lower fuel inputs as commodities will tend to trade close to the cost of production over time.

Rising Interest Rates Are Bringing Back Discipline to Capital Allocation

For the past decade momentum strategies continued to outpace those based on price, value and buying at a discount to intrinsic value. That may be changing. Overpaying and overborrowing are recurring investment sins that tend to destroy intrinsic value over time. General Electric is a good example of a company that mispriced long term care policies, and grossly overpaid for energy assets. A $10,000 investment in GE in July of 1999 when GE was one of the most popular and highly valued companies in the world is now worth less than $6,300. When money is free and easy it is common to pay for “growth at any price.” Rising interest rates are starting to expose the misallocation of capital while flushing out excesses.  Money losing speculations are suffering. Bitcoin has corrected over 75% from its speculative high earlier this year (source Standard & Poor’s.)  83% of initial public offerings (IPOs) are losing money (WSJ) while the cash burn1 of the top 200 private Silicon Valley startups is 5-10 times worse than at the peak of the tech mania in 2000 (source Benchmark Capital.)  Do we really need 130 food delivery companies? Wall Street tends to ignore signs of excess supply which often follows exuberance in an industry doing well.

Overall supply of publicly traded stocks in the US continues to decline as stock buybacks in the US is expected to reach $1 trillion in 2018 according to Goldman Sachs. This demand is favorable, although ultimately rising revenues and cash flows are the critical metric in building underlying intrinsic values. Global mergers exceeded $2.5 trillion in the first half of 2018, up 61% over the prior year. Mergers for the full year 2018 are on pace to exceed $5 trillion (source Thomson Reuters.) According to KPMG over half of mergers negatively impact shareholder value.

Watch the Growth in Borrowed Money

Historically, a financial crisis usually follows a rapid buildup of debt. We are witnessing steep corrections in countries where economic policies are poor and where there has been excessive borrowing, especially in dollar denominated debt. Turkey, Argentina, Italy and China are a few examples of countries that have been struggling with deteriorating balance sheets. Excess borrowings can create a risky situation for companies perceived to be conservative. AT&T has accumulated a massive $250 billion in liabilities. Leverage loans seem to be the preferred method for funding speculative grade companies and excesses continue to build with the proliferation of covenant-lite loans. That market now is larger than the high yield bond market. The price to EBITDA (earnings before interest, taxes, depreciation and amortization) paid for acquisitions between 2007-2015 averaged nine times. The past two years that price has jumped to 15 times EBITDA, reflecting increased risk from higher acquisition costs.   It is vitally important to know the status of individual balance sheets. Higher interest rates and the withdrawal of liquidity should help to normalize volatility in the stock markets where the average NYSE stock has typically fluctuated 50% a year.

Third Quarter 2018 Performance Update

Auxier Focus Fund’s Investor Class returned 7.37% in the third quarter vs. 7.71% for the S&P 500 Index. The stocks in the Fund returned over 8.3%. Domestic stocks comprised 80%, foreign 15%, with cash and “workouts” 5%.  From inception at the top of the market in 1999 to September 30, 2018, a hypothetical $10,000 investment in the Fund has grown to $41,111 with an average equity exposure of 80%. This compares favorably to $30,027 for the fully invested S&P 500. Healthcare names, from health insurers, pharmaceuticals and biotech were strong recent performers in the Fund. Many were purchased at attractive prices in the teeth of negative headlines over the past two years.

Contributors to the quarter:  our outlook on a cross section of portfolio positions with a positive return for the quarter ended 9/30/2018.

Express Scripts Holding Co. (ESRX) 23.05%
Cigna is acquiring pharmacy benefit manager Express Scripts for an estimated $67B or over $95 a share. The deal includes $48.75 in cash and 0.2434 shares of Cigna for each share of Express Scripts and is expected to close by the end of the year. We originally invested in ESRX at $7.63 a share after a face-to-face meeting with management late on a Friday.

Abbott Laboratories (ABT) 20.79%
Abbott is a leader in nutrition, diagnostics, pharmaceuticals and medical devices. One of their new devices, MitraClip, did better than expected on the Cardiovascular Outcomes Assessment of the MitraClip Percutaneous Therapy leading to high expectations for the future of the device. The introduction of the FreeStyle Libre blood glucose monitor is an exceptional new innovative product.

Biogen Inc. (BIIB) 21.73%
Biogen is a market leader in the treatment of Multiple Sclerosis (MS) and Spinal Muscular Atrophy (SMA). In addition to their current treatments, Biogen has been heavily investing in research into Alzheimer’s drugs with two drugs, Aducanumab and E2609, currently in phase three trials. According to analytics company GlobalData, the Alzheimer’s market is expected to grow to over $15 billion over the next decade. Biogen’s free cash flow for 2018 appears likely to exceed $4 billion.

Zimmer Biomet Holdings (ZBH) 18.21%
According to AARP, 10,000 baby boomers in the US turn 65 every single day. The demographics for Zimmer Biomet medical devices are improving. Zimmer Biomet is a leader in hip, shoulder, elbow and knee replacements as well as producing vital devices for heart and spinal surgery. Their free cash flow is over $1 billion annually.

Merck & Co. (MRK) 17.80%
Merck’s signature drug, Keytruda, is an immunotherapy that is currently approved to treat seven types of cancer. Keytruda works by blocking the PD-1 pathway that cancerous cells use to hide from the body’s T cells and then letting the patient’s own immune system destroy the cancer. Keytruda was recently approved in China for adults with unrespectable or metastatic melanoma. In addition to Keytruda, Merck has a strong pipeline that includes nineteen drugs in phase 3 trials and three drugs that have already passed phase 3 trials and are awaiting FDA approval.

Microsoft (MSFT) 16.43%
Microsoft has been very successful in their transition into the new age of computers. Personal computing now only makes up 33% of their revenue and that includes their Xbox, Surface and advertising revenues. LinkedIn now has over 575 million users while Office 365 reaches over two billion first-line users. Microsoft Azure, growing over 70%, is a cloud product that is not in direct competition with its customers. The company has over $130 billion in cash and short-term assets.

Medtronic (MDT) 15.55%
Hoping to take advantage of the rapidly growing medical sector, Medtronic has focused on four high growth areas: Cardiac and Vascular, Restorative Therapies, Minimally Invasive Therapies, and Diabetes. The diabetes group has seen particularly strong growth from the MiniMed 670G featuring Smartguard, which is the world’s first hybrid closed loop insulin system. The Tax Cuts and Jobs Act freed up over 40% of their cash helping them towards their goal of returning 50% of free cash flow to shareholders.

Corning Inc. (GLW) 29.05%
The maker of Gorilla Glass, Corning has enjoyed a rebound period with the introduction of the new iPhones and surging demand in the automotive sector. Gorilla Glass is a durable, light, scratch-resistant glass that is in high demand in smartphones, tablets and laptops. As automobile companies look to add touch screens in their new cars, the demand for Gorilla Glass looks solid.

Detractors to the quarter:  our outlook on a cross section of portfolio positions with a negative return for the quarter ended 9/30/2018.

Quest Diagnostics Inc. (DGX) -1.15%
Despite missing top line expectations, Quest Diagnostics has established a close partnership with UnitedHealth. They are now the in-network lab for all of UnitedHealthcare’s 48 million patients as well as collaborating with UnitedHealth on a variety of programs designed to increase standard of care while reducing costs.

Lamb Weston Holdings (LW) -2.51%
Based in Idaho, Lamb Weston is a leader in the frozen vegetable industry with a focus on potatoes. They saw a significant boost in earnings per share from the Tax Cuts and Jobs Act as well as rapidly increasing sales after their spin-off from Conagra Brands in November of 2016.

Bank of New York Mellon Corp (BK) -4.95%
Under the leadership of Charles Scharf, BK is investing heavily to improve operating platforms and their technology infrastructure while working to keep their costs down across the rest of the company. Mr. Scharf had great success using the same formula at Visa. Higher interest rates should also enhance earnings power as the company is a huge generator of free cash. We see good value in the banks both large and small, with many selling at price earnings ratios of 10-11 times 2019 earnings estimates.

Cognizant Technology Solutions (CTSH) -2.08%
Cognizant is one of the world’s top regarded IT firms with operations all over the world. Management is excited about the possible program servicing opportunities that come with growing Medicare and Medicaid. They are a leader in connecting companies to the cloud.

Central Pacific Financial Co. (CPF) -7.02%
With most of their holdings in Hawaii, Central Pacific has recently suffered from the unusual hurricane season in the Hawaiian archipelago. Despite the strange hurricane season, total deposits increased year over year to $4.98 billion while core deposits also increased to over $4 billion. On September 27th, Central Pacific announced that Paul Yonamine would take over for Catherine Ngo as president and CEO effective October 1st. John Dean has done an exceptional job turning around this franchise.

Manitex International Inc. (MNTX) -15.62%
Manitex International was helped in their deleveraging efforts by Tadano buying 14.9% of their shares in May of this year. After seeing steady growth in market share in straight-mast cranes over the last five years, Manitex management is excited about the opportunities for knuckle boom cranes where their current market share is under 5%. After meeting management a little over a year  ago we were very impressed with their plans to turn the business around.

Molson Coors Brewing Co. (TAP) -9.02%
Molson Coors is working to reduce costs and diversifying their brand as consumer demand has shifted away from macro beer brands. In addition to investing in spiked seltzer, iced coffee, kombucha, non-alcoholic beer and craft beer Molson Coors has been testing non-alcoholic cannabis infused teas, seltzers and beers. Recreational marijuana became legal across Canada on October 1st and is currently legal in nine US states covering over a quarter of the US population. Coors  has been in business since 1873.

Franklin Resources Inc. (BEN) -4.43%
Franklin Resources has had several quarters of negative growth in operating revenues, net income, and assets under management as they work to improve their company. Management at Franklin Resources is focused on reducing risk and augmenting their investment capabilities. Their earnings per share have not decreased as much as the rest of their financials due to management’s aggressive share buyback program. Over half the companies market capitalization is in cash. The Johnson family has run the company since 1947.

A Proven Approach to Volatile Markets

We strive to invest carefully in well-researched businesses that have enduring products or services with the historical ability to survive and thrive in the most stressful market and economic downturns. We see meaningful advantages to our size, cumulative knowledge and experience negotiating severe market declines. We don’t pay steep premiums, sometimes referred to as control premiums2, like private equity firms who are attempting to gain a controlling interest and have a wide mandate with flexibility to try to protect in down markets.  We have major “skin in the game.”  It was the “other people’s money” syndrome that contributed to the last financial downturn. The true cost in investing is the lack of knowledge in what you own.  The big advantage to buying pieces of businesses in the auction markets is the emotion, volatility and liquidity that can contribute to bouts of irrational behavior and unprecedented bargains when compared to private markets. Panic may be a profitable backdrop for investing whereas euphoria may be disastrous. The proliferation of exchange traded funds (ETFs) and mathematical algorithms have further enhanced volatility.  We generally know ahead of time–usually after years of research–what we want to own, and welcome negative headlines to provide the best entry point. In the past many attractive purchase prices below intrinsic value, combined with quality operating performance, lead to the double-triple play investment return over time while deferring tax bites. There are so many forces at work to separate you from your hard-earned savings. Without cumulative knowledge and the right temperament, the risks to compounding returns can be very high.

 

We appreciate your trust.

Jeff Auxier

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses.  This and other information is in the prospectus, a copy of which may be obtained by calling (877) 328-9437 or visiting the Fund’s website.  Please read the prospectus carefully before you invest.

Fund returns (i) assume the reinvestment of all dividends and capital gain distributions and (ii) would have been lower during the period if certain fees and expenses had not been waived.  Performance shown is for the Fund’s Investor Class shares; returns for other share classes will vary.   Performance for Investor Class shares for periods prior to December 10, 2004 reflects performance of the applicable share class of Auxier Focus Fund, a series of Unified Series Trust (the “Predecessor Fund”).  Prior to January 3, 2003, the Predecessor Fund was a series of Ameriprime Funds.  The performance of the Fund’s Investor Class shares for the period prior to December 10, 2004 reflects the expenses of the Predecessor Fund. 

The Fund may invest in value and/or growth stocks. Investments in value stocks are subject to risk that their intrinsic value may never be realized and investments in growth stocks may be susceptible to rapid price swings, especially during periods of economic uncertainty. In addition, the Fund may invest in mid-sized companies which generally carry greater risk than is customarily associated with larger companies. Moreover, if the Fund’s portfolio is overweighted in a sector, any negative development affecting that sector will have a greater impact on the Fund than a fund that is not overweighted in that sector. An increase in interest rates typically causes a fall in the value of a debt security (Fixed-Income Securities Risk) with corresponding changes to the Fund’s value.

1 Cash burn aka burn rate is normally used to describe the rate at which a new company is spending its venture capital to finance overhead before generating positive cash flow from operations; it is a measure of negative cash flow.

2 Control premium is an amount paid to gain enough ownership interest to control a corporation or other entity. This would typically be an amount in excess of the simple fair market value of the shares sought to be purchased.

Foreside Fund Services, LLC, distributor.

 The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 widely held common stocks. One cannot invest directly in an index or average.

The views in this shareholder letter were those of the Fund Manager as of the letter’s publication date and may not reflect his views on the date this letter is first distributed or anytime thereafter.  These views are intended to assist readers in understanding the Fund’s investment methodology and do not constitute investment advice.

Auxier Report: Summer 2018

Jun 30, 2018

Download Auxier Report: Summer 2018

Summer 2018 Market Commentary

In the second quarter, the US enjoyed improving fundamentals in terms of GDP1, employment, service sector and manufacturing gains. Home equity continues to increase, hitting records.  Rising interest rates are pressuring bonds, bond surrogates and businesses with poor balance sheets.  Lower taxes and regulation rollbacks are being offset somewhat over the worries of escalating trade tensions. The tax act expensing allowance is stimulating capital spending which in turn should improve overall productivity. While earnings in general are rising so are input costs like labor, fuel and transportation. Tariffs are leading to steep price increases in goods like steel and lumber.  There continues to be a growing and acute shortage of truckers with a projected shortfall of over 50,000 drivers.  We are seeing rolling industry corrections with increased volatility, in part due to tightened liquidity and the concentration of high frequency exchange-traded funds (ETFs). Higher interest rates and a strong US dollar have led to a sharp correction in emerging market currencies where low rates have led to a borrowing binge the last few years. Higher rates expose bad behavior and poor investment decisions.

Second Quarter 2018 Performance Update

Auxier Focus Fund’s Investor Class returned 2.39% in the second quarter vs. 3.43% for the S&P 500 Index. The stocks in the Fund returned 3%. Domestic stocks comprised 81% and foreign 15%, with cash and “workouts” 4%.  From inception at the top of the market in 1999 to June 30, 2018, a hypothetical $10,000 investment in the Fund has grown to $38,289, with an average equity exposure of 78% compared to $27,878 for the fully invested S&P 500. When we started the Fund, General Electric was one of the most highly valued and popular companies in the world. $10,000 invested in General Electric back then is worth less than $6,500 as of June 30. Buy, hold and forget, without aggressive research, can be costly.

Contributors to the quarter:

UnitedHealth Group (UNH)
Revenues for the quarter grew 13.3% to $55.2 billion. Earnings from operations increased 18.8% to $4.1 billion. Every business segment reported double-digit earnings growth. Cash flows from operations for the quarter were $8.37 billion, up 29.63%. UnitedHealth repurchased 11.6 million shares for $2.65 billion during the first quarter. They also paid $722 million in dividends, an increase of 21.1%. UnitedHealth ended its exclusivity deal with Lab Corp this quarter and added Quest Diagnostics as one of its diagnostic service providers. This will provide their customers with more diverse diagnostic options in the future.

Valero Energy Corp. (VLO)
Valero saw revenues of $26.44 billion during the quarter, up 21.44%. EPS2 was $1.09, up 60.29%. Net income for the quarter was $469 million, up 112.79%. Net cash flow from operating activities was $138 million, down 86.03%. The decrease in cash flow was due largely in part to the company’s continued investments in the future growth of the business. Capital investment plans for 2018 remain at $2.7 billion. $1 billion of this amount is for growth projects and the remaining $1.7 billion is for sustaining the business. Continued increase in US oil production and the decision to increase OPEC3 production by 1 million barrels per day will increase Valero’s earning potential. Growth prospects for Valero include renewable energy ventures such as a wind farm in Texas and a renewable diesel plant in Louisiana that will produce 10,000 barrels per day. Valero plans to increase production in this plant by 70% by the end of 2018.

Anthem Inc. (ANTM)
Total operating revenues in the most recent quarter remained flat at $22.3 billion. The total operating margin increased by 130 basis points to 8.4%. Net income for the quarter increased by 30% to $1.31 billion. The increase in net income was driven by improved cost management and a lower tax rate. Anthem paid dividends of $0.75 per share in both Q1 and Q2 which equates to an annual dividend of $3.00 per share.

Quest Diagnostics Inc. (DGX)
Revenues for the quarter were up 3.7% to $1.88 billion. This marks 16 consecutive quarters of revenue growth. Quest realized $180 million in tax savings and will use $75 million of this to reinvest into and grow the business. Quest’s new partnership with UnitedHealth Group provides an avenue for continued growth as they saw a net increase of 28 million lives available to them due to the partnership. Quest’s annual savings from its cost savings program ‘Invigorate’ were $1.3 billion, and they expect these savings to continue into next year. Currently working with multiple partners on a data management program that will utilize blockchain technology to increase data security as well as decrease costs.

Becton Dickinson (BDX)
Becton Dickinson saw strong revenue growth in all three of their main segments leading to overall revenue growth of 47.2%. The continuing integration of Bard is going faster than expected.

Express Scripts (ESRX)
Cigna is acquiring Express Scripts for $48.75 in cash and 0.2434 of Cigna stock per share, which is over $90 a share. The deal is expected to close by the end of 2018.

Kroger (KR)
Kroger has focused on staying ahead of competitors as it adds three automatic warehouses for grocery delivery via robots this year. Their investments prove worthwhile, as their digital sales grew by 66% last quarter. In the next few years they expect their warehouse number to reach 20 and to benefit from their recently announced partnership with Nuro, an autonomous driving company. In terms of products, Kroger’s Simple Truth brand has reached $2 billion in annual sales, helping drive their adjusted net earnings up 14%.

Merck and Co., Inc (MRK)
Merck beat estimates in the second quarter of 2018 with $10.5 billion in revenues and EPS of $1.06. They were buoyed in the quarter by their signature cancer drug KEYTRUDA which allows the body’s immune system to destroy cancerous cells by blocking a protective enzyme in cancer cells. Sales grew 89% in the quarter to $1.667 billion and are expected to continue to grow to upwards of $13 billion annually by 2026. Recently KEYTRUDA was approved in China and the EU for metastatic melanoma.

Mastercard (MA)
Both transaction numbers and gross dollar volume were up for Mastercard, with net revenue rising 27% this past quarter to $3.6 billion. They have exemplified a strong push for growth in emerging markets with the recent acquisition of Oltio, which resides in South Africa. Acquiring Oltio enables Mastercard to introduce digital payments to even the smallest of local businesses to accelerate growth. In addition, their VocaLink subsidiary continues to drive their “Other Revenues” category, which was up 33% via its real time payments. As cash still makes up 80% of world’s total transactions, many believe Mastercard has plenty of room to grow even as an established company.

Biogen (BIIB)
Biogen saw revenues increase by 9% to $3.4 billion. Revenue growth was driven by Spinal Muscular Atrophy drug Spinraza which saw a 108% increase in revenue. Spinraza is Biogen’s fastest growing drug which they hope will be able to offset the slowing Multiple Sclerosis product line. Biogen presented the detailed results for the phase II trials of their Alzheimer’s drug BAN2401 on July 25th. The results of the trial were positive with tested patients showing 30% less cognitive decline over 18 months than those who received the placebo, but the presentation garnered a mixed reception and caused Biogen’s stock to fall 9% in after-hours trading. Earlier in July, Biogen announced that the trials of the drug were looking very positive without giving any details, and this announcement may have caused many to anticipate that the results would be better than what was ultimately shown. Currently, Biogen’s stock is hurting from the results announcement, but their outlook is still positive in the long-run due to the strength of their pipeline. Another Alzheimer’s drug in Biogen’s pipeline, Aducanumab, just finished its enrollment for two phase III trials. This drug has been regarded as more promising than BAN2401, and if it is successful Biogen will have the only drug in a $12 billion market.

Twenty-First Century Fox (FOXA)
Twenty-First Century Fox has been in the news recently due to the bidding war between Disney and Comcast. The merger that was eventually approved by shareholders, between Disney and Twenty-First Century Fox, will give Twenty-First Century Fox shareholders $38 a share or stock consideration. The collar on the stock consideration gives Twenty-First Century Fox shareholders an exchange ratio of 0.3324 if Disney stock is above $114.32. At the current price of $115.62 a share, the value on the consideration is about $38.50 a share. In addition to the deal with Disney, Twenty-First Century Fox will spin-off their news, sports, and broadcast businesses to create a new “Fox”. The new “Fox” will include Fox News Channel, Fox Business Network, Fox Broadcasting Company, Fox Sports, Fox Television Stations Group, and sports cable networks. The deal has already been approved by the DOJ4 but still awaits approval in foreign markets.

Detractors to the quarter: 

Johnson & Johnson (JNJ)
One of only 22 companies to increase dividends every year for at least 50 consecutive years, Johnson & Johnson increased total sales in the first quarter 12.6% to over $20 billion. As the world’s largest medical conglomerate, they are well positioned to provide medicine and care for aging Baby Boomers.

Travelers (TRV)
Travelers is coming back down from historic highs early this year. Last quarter they posted revenue gains of 5% and net income gains of 12%.  Hurricane losses in 2017 exceeded $200 billion. In 2018 losses have continued to be severe in hail and fires. This could further reduce capacity which should benefit premium pricing.

Philip Morris (PM) and Altria (MO)
Both stocks are starting to move higher after Q2 results came out for PM.  Shipments on their “reduced risk products” were up, boosting their revenue.  With the ability to raise prices, popularity of vaping and their inevitable entry into the marijuana market (anticipated to be a $50 billion market by 2026), the long-term fundamentals look solid. Both companies are structured to take advantage of developing trends.

Molson Coors (TAP)
Coors stock has struggled with 10% tariffs on aluminum, increasing competition from micro-breweries and a roaring marijuana market cutting into the overall beer market. Trying to take advantage of this growing market, Coors has assembled a team in Canada to find a way to best tap into the cannabis industry.                                                                                                                                            

Inflation

The US employment-cost index, which measures wages and benefits, rose 2.8% in the twelve months ended in June.  According to Standard and Poor’s, strong employment gains could lead to a further drop in the unemployment rate, to 3.6% over the next few months. Historically, in a more normalized interest rate environment, the 10-year Treasury would yield 2% higher than the prevailing inflation rate. This makes bonds vulnerable with the current rate under 3%. Through six months the Barclays intermediate bond index has declined 2.63%. Higher inflation rates tend to compress stock price-earnings ratios making high expectation momentum strategies vulnerable to sharp corrections on earnings disappointments. One of the best inflation hedges I have seen in the past thirty-five years is a well nurtured business, with disciplined capital allocation, that earns high returns on capital, enjoys rapid inventory turns and has the ability to raise prices while requiring little in mandatory capital expenditure to grow. We strive to be long term owners of such enterprises. Conversely, utilities have high mandatory cash needs and can suffer if faced with large construction projects. In the 1980s I remember watching utilities get crushed in the market as higher inflation led to cost overruns on the construction of nuclear power plants. In our research we have not been able to identify one utility in the US that currently has positive cash flow.

In socialist Venezuela, inflation rates are running more than 40,000%, yet stock returns in local terms have still exceeded inflation. Bonds have been wiped out. There is a misperception that government bonds are safe. Argentina has defaulted over six times and recently raised interest rates 40% to defend their currency.

Risks

Technological disruption is a constant threat as the economy digitizes.  Platform changes need to be scrutinized. The move from 3G to 4G decimated phone companies like Nokia, Blackberry and Motorola leading to a duopoly with Android and Apple.  5G could be as equally disruptive. Voice enabled assistants, artificial intelligence and augmented reality are potential platforms that could change the status quo. The growth of the cloud has led to centralized market power with Amazon, Microsoft and Google. However, blockchain technology decentralizes the internet through digital ledgers and could prove to be a powerful disrupter that claims to be less corruptible.

The popularity and performance of many technology stocks is acting as a magnet for enormous flows of capital which can lead to supply gluts. We are seeing exuberance in venture funding from Japan, China and Silicon Valley. This happened in the late 1990s when the rage was internet hosting and fiberoptic. Massive capacity was built for businesses losing money and when interest rates rose a crash followed. Telecom companies like Lucent and Level 3 lost over 85% of their value. It is estimated by the venture firm Benchmark that today the top 200 Silicon Valley start-ups have cash burn rates 5 to 10 times 1999 levels. The potential problem, like 1999, is that much of the technology infrastructure is being built for businesses losing money and with interest rates rising the funding can cease abruptly. Softbank is driving crazy valuations in businesses like WeWork, which provides basic workspaces. Softbank is seeking a valuation in excess of $20 billion for this company that lost over $900 million last year. Many venture firms will often set private market pricing far higher than underlying fundamentals warrant.  In addition, record amounts of money have been raised in private equity (leveraged buyouts). Carlyle Group recently raised a record $18.5 billion. Many of our portfolio companies are attractive to these leveraged buyout firms because of their high free cash flow characteristics. However, bond protection via debt covenants has never been this poor. This is a new cyclical low in the quality of covenant protection, which is common near the end of booms.

Opportunities

We are seeing exciting innovations in medtech and biotech. Many of the larger companies’ stocks trade at very reasonable valuations by historic standards. Fred Hutchinson Cancer Research Center out of Seattle has stated cures for cancer are in sight as “immunotherapies” that unleash the body’s own immune system to seek out and destroy cancer cells have “shown mind-blowing results in early testing on blood cancers.” CAR T cell therapies are being developed by companies like Celgene and Gilead. Merck’s KEYTRUDA has shown good potential for the treatment of lung cancer. Companies like Alkermes, led by founder CEO Richard Pops, are at the forefront in the treatment of opioid addictions, which have led to over 50 million deaths this past year. Exciting strides are being made in transaortic valve replacement led by Medtronic.  Cerner is an attractive leader in digitizing hospitals and doctors’ offices. They recently landed a major multiyear contract with the Veteran’s Administration.

Alphabet is taking a leadership in artificial intelligence and predictive data analytics. YouTube, with over 1.8 billion users has grown over 20% this past year and has an annual growth rate nearly twice as fast as Facebook’s. YouTube users spend over an hour a day on the YouTube mobile app alone. Waymo is a leader in self-driving car technology. It took Waymo six years to test their first one million miles, this year they went from seven to eight million in one month.

In the industrial sector, fears over deepening trade wars have led to more attractive prices for quality franchises like Parker Hannifin and Caterpillar.  Higher short-term interest rates will help earnings for companies and households with high cash balances which have suffered under central bank interest rate suppression over the past decade.

We are looking for management teams focused on using predictive data analytics and the “customer experience.” Those on the right side of digital are being rewarded with premium valuations. With internet transparency, high-grade ethics are more important than ever in building intrinsic value. We strongly believe that the best way to enjoy high compounded returns over long periods is through the well-researched selection of high return businesses that are ideally founder or family controlled and where the management is diligent in capital allocation and relentlessly focused on improving value. Usually the best buys have been when there is a plethora of negative headlines and the consensus is “this is no time to buy stocks.” Those purchased at an attractive price can reward investors with the double-triple play over years while deferring taxes and providing more than adequate compensation for the risk taken.

Trade

It appears the Trump administration is using tariffs as a tool to bring countries to the negotiating table on a more bilateral basis. Negotiations surrounding Europe and The North American Free Trade Agreement (NAFTA) appear to be moving forward.  China is tougher. What is needed is a united front by allies to increase the leverage for a level playing field respecting intellectual property rights. We see President Trump as resolute with China. On the downside, the Smoot-Hawley Tariff Act of 1930 raised tariffs on over 20,000 imported goods which led to a drop of American exports and imports by over half. So free trade is the obvious choice vs protectionism. Given China’s growing debt load, nearly 300% of GDP, steep stock market correction and surplus trade position, it looks like a good time for the US and Europe to push for meaningful reforms. We are hopeful that this is a bargaining stance to ultimately lead to lower overall global tariffs. While there is immediate pain in the farm sector, negative headlines create opportunities to add to world class business franchises that rarely trade at bargain prices.

China has been a big creditor to Venezuela where the Maduro policies have led to starvation, human rights atrocities and hyperinflation. The “Black Book on Communism” published by Harvard University Press in France illustrated work carried out by a team of professors and researchers from the National Center for Scientific Research—the most important scientific institution in France. They listed the number of people killed by communism. China led the list with an estimated 82 million dead under communist rule. Since 1999 Venezuela, where the leadership follows Marxism-Leninism, they figure more than 252,000 dead. That is why we put so much time into daily research to identify facts and fundamentals and those policies that can destroy intrinsic value. Integrity in financial markets, political checks and the rule of law are all critical to enduring long term. The only constant in investing is change and the key to risk management continues to be a rational approach rooted in a daily tenacious research effort.

I sought for the greatness and genius of America in her commodious harbors and her ample rivers—and it was not there…. in her fertile fields and boundless forests—and it was not there…. in her rich mines and her vast world commerce—and it was not there…. in her democratic Congress and her matchless Constitution—and it was not there. Not until I went into the churches of America and heard her pulpits flame with righteousness did I understand the secret of her genius and power. America is great because she is good, and if America ever ceases to be good, she will cease to be great. – Alexis de Tocqueville. 

We appreciate your trust.

Jeff Auxier

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses.  This and other information is in the prospectus, a copy of which may be obtained by calling (877) 328-9437 or visiting the Fund’s website.  Please read the prospectus carefully before you invest.

Fund returns (i) assume the reinvestment of all dividends and capital gain distributions and (ii) would have been lower during the period if certain fees and expenses had not been waived.  Performance shown is for the Fund’s Investor Class shares; returns for other share classes will vary.   Performance for Investor Class shares for periods prior to December 10, 2004 reflects performance of the applicable share class of Auxier Focus Fund, a series of Unified Series Trust (the “Predecessor Fund”).  Prior to January 3, 2003, the Predecessor Fund was a series of Ameriprime Funds.  The performance of the Fund’s Investor Class shares for the period prior to December 10, 2004 reflects the expenses of the Predecessor Fund. 

The Fund may invest in value and/or growth stocks. Investments in value stocks are subject to risk that their intrinsic value may never be realized and investments in growth stocks may be susceptible to rapid price swings, especially during periods of economic uncertainty. In addition, the Fund may invest in mid-sized companies which generally carry greater risk than is customarily associated with larger companies. Moreover, if the Fund’s portfolio is overweighted in a sector, any negative development affecting that sector will have a greater impact on the Fund than a fund that is not overweighted in that sector. An increase in interest rates typically causes a fall in the value of a debt security (Fixed-Income Securities Risk) with corresponding changes to the Fund’s value.

Foreside Fund Services, LLC, distributor.

1 Gross Domestic Product (GDP) is the monetary value of all the finished goods and services produced within a country’s borders in a specific time period.

2 Earnings per share (EPS) is the portion of a company’s profit allocated to each outstanding share of common stock. Earnings per share serves as an indicator of a company’s profitability. EPS is calculated as: EPS = (Net Income – Dividends on Preferred Stock) / Average Outstanding Shares.

3 OPEC is an abbreviation for Organization of Petroleum Exporting Countries, which is a union of oil producing countries that regulate the amount of oil each country is able to produce.

4 DOJ is an abbreviation for The Department of Justice, a department of the federal executive branch, headed by the attorney general, which administers the Federal Bureau of Investigation (FBI), prosecutes violations of federal law, and is responsible for enforcing all civil rights legislation.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 widely held common stocks. One cannot invest directly in an index or average.

The views in this shareholder letter were those of the Fund Manager as of the letter’s publication date and may not reflect his views on the date this letter is first distributed or anytime thereafter.  These views are intended to assist readers in understanding the Fund’s investment methodology and do not constitute

 

Auxier Report: Spring 2018

Mar 31, 2018

Download Auxier Report Spring 2018

Spring 2018 Market Commentary

The first quarter of 2018 brought back more normal volatility which has been rare in this recent era of artificially low interest rates. We are seeing a long overdue, much needed correction to help purge excesses in the global markets. Speculation has been boiling in the cryptocurrencies, along with pre-public technology stocks and can also be seen with record margin debt used to buy stocks. The excitement in January over lower tax rates, deregulation and strong corporate earnings has been replaced with concerns of higher commodity prices (oil up over 30%), wage pressures, transportation costs and rising interest rates which can threaten profit margins.  Aggressive trade rhetoric between the US and China has fueled fears of global trade wars. With the growth of online shipping and driver regulation, there is a meaningful shortage in both trucks and truck drivers leading to an unprecedented rise in logistics costs often climbing over 20% this past year. Amazon’s recent shipping costs are up over 35%.  Housing prices are still showing gains in excess of 6% year over year, driven in part by a strong job market and millennial demand which now exceeds baby boomer demand. Housing inventory is down 12% this past year. Seattle has seen housing prices appreciate 45% the past three years (Zillow). Higher inflation and interest rates tend to compress price-to-earnings ratios making high expectation, highly valued companies vulnerable to steep declines as there tends to be a reversion to the mean.

We are currently amidst the longest stretch in history where growth has outperformed value.  Price and value have taken a back seat to momentum and the rate of change in earnings and sales. However, according to the Wall Street Journal, from 1926 through the end of 2017 value outearned growth stocks by an average of 3.1 percentage points annually. Higher interest rates in time tend to alter behavior and punish the “buy at any price mentality,” especially stocks sporting exciting stories that lack healthy cash flows. Digital disruption and the “Amazon effect” have negatively impacted share prices in numerous industries like grocers, media, healthcare, and logistics companies like FedEx, creating selective opportunities resulting from material misappraisals. The massive inflows to pooled vehicles with little transparency and “skin in the game” has increased the risk of emotional and irrational behavior via the “electronic herd.” It is easy to sell when you don’t know what you own.  Much like the 2008 crash, where bundles of low-quality mortgages were all the rage, compiling a group of overpriced stocks may have the same effect on those investing in pools based on upward momentum without adequate due diligence. We believe we are entering a time where cumulative knowledge of managements, business models and the supply/demand characteristics of industries is critical to mitigate risk.

First Quarter 2018 Performance Update

 

Auxier Focus Fund’s Investor Class declined 2.64% in the first quarter vs. a decline of 0.76% for the S&P 500 Index.  Domestic stocks comprised 78% and foreign 15%, with cash and “workouts” 7%.  Since inception at the top of the market in 1999, a hypothetical $10,000 investment in the Fund has grown to $37,394, with an average equity exposure of 78% compared to $26,952 for the fully invested S&P 500. Bonds as measured by the Bloomberg Barclays US Aggregate Bond Index declined 1.5%. The STOXX® Europe 600 declined 4%, and the FTSE 100 declined 8.2%. The foreign component detracted from Fund performance for the quarter.

Contributors to the quarter:

Mastercard Inc. (MA)
Mastercard ended their fiscal year with fourth quarter sales up 20% to $3.31B benefiting from strong holiday spending. The continued focus on international growth opportunities has paid off as there are now three times as many cards outstanding worldwide than in US markets. Vocalink, a payment system headquartered in the UK, and Oltio, a mobile payments and banking technology company out of South Africa, along with other acquisitions contributed 3% to overall sales growth in the quarter.

Microsoft Corp. (MSFT)
Microsoft Corporation’s focus and investment in their Intelligent Cloud continues to be beneficial with overall segment revenue growth of 15% to $7.8B. This was driven by Azure revenue growth of 98% with computer usage more than doubling year over year. Adjusting for the $13.8B net charge related to the Tax Cuts and Jobs Act, net income grew 20% in the quarter to $7.5B. Management has done an excellent job transforming the company to the cloud over the past three years.

Bank of America (BAC)
At the end of 2017, Bank of America had total loans and leases of $936B and total deposits of $1.3T. Given the large low-cost deposit base there is considerable positive leverage in a rising interest rate environment.

America Movil (AMX)
With around two-thirds of the wireless and broadband market controlled, the largest wireless carrier in Latin America is executing well. Industry growth is resulting from growing mobile data usage and low market penetration. AMX has a strong competitive position with family ownership,  high returns on invested capital,  a strong balance sheet  and scale.

Raytheon Company (RTN)
The defense contractor’s stock spiked up this quarter due to increased defense spending set by the Trump administration. International sales, which account for 30% of revenue, are expected to increase due to greater political instability. Raytheon’s backlogs remain robust, although we worry that margins are peaking.

Visa (V)
Visa has a strong business model that is continuing to perform well. They are global leaders in electronic payments with their market share of digital transactions accounting for around 58% worldwide. Visa produced over $8 billion in free cash flow in 2017, has been growing earnings at a double-digit pace, and has great room to increase their dividend.

Detractors to the quarter:

Johnson & Johnson (JNJ)
Despite beating Wall Street’s fourth quarter earnings and revenue expectations, Johnson & Johnson lost investor confidence on a projected 2018 operational revenue growth of 3.5% to 4.5%. J&J’s $30B acquisition of Actelion last summer contributed 4.2% towards their Worldwide Pharmaceutical sales growth of 8.4% to $36.3B in the quarter.

DowDuPont Inc. (DWDP)
Although DowDuPont recorded a $1.1B benefit from the Tax Act, restructuring and goodwill impairment items of $3.11B led to a reported pro forma loss of $1.21B, or loss of $0.52 per share, in the quarter. The plan to split into three different companies post-merger was originally anticipated to take up to two years but is now expected to take between 12 and 14 months. DowDuPont also increased its expected annual cost savings by 10% to $3.3B. We really like the Chief Executive Edward Breen who has an exceptional capital allocation record and will oversee the split up of the company. Low natural gas inputs continue to be a material benefit to chemical producers.

Biogen Inc. (BIIB)
On February 15, 2018, Merck discontinued a phase 3 trial of their BACE1 inhibitor, verubecestat, adding the potential Alzheimer’s treatment to a growing list of clinical failures from pharmaceutical companies. This shook investor confidence in Biogen who also has a BACE1 inhibitor currently in late-stage testing. However, Biogen’s leading Alzheimer’s candidate, aducanumab, takes a different approach than BACE1 inhibitors by reducing amyloid plaques in the brain vs. preventing the build-up. Biogen’s expansion by 510 patients in aducanumab’s late-stage study to confront the high variability in the primary endpoint has increased fears of another industry failure. With earnings over $22 this year the stock seems very cheap.

PepsiCo (PEP)
The North American beverage unit has struggled but management is focusing on fixing the problem with innovative new offerings. Beverage companies in general have fallen out of favor in the market and lower prices could provide an attractive entry level for long-term investors.

Mergers and Acquisitions

On January 22, 2018, Sanofi announced the acquisition of Bioverativ for $105 per share in cash, a 64% premium to their previous closing price. The cost basis in the Fund was $41.14.  Bioverativ is the hemophilia business unit that was spun-off from Biogen in 2017. Sanofi completed the $11.6B takeover at the beginning of March adding Bioverativ’s two hemophilia extended half-life therapies, Eloctate and Aprolix, which represented the first major treatment advancements in almost 20 years when launched in 2016. While most acquisitions destroy value, we like to see spinoffs as they generally energize management teams and enhance intrinsic value.

On January 29, 2018, Dr. Pepper Snapple Group and Keurig Green Mountain Inc. entered into a definitive merger agreement to create Keurig Dr. Pepper (KDP) for $123 a share. The Fund’s cost is $15.23. We bought Dr. Pepper shortly after it was spun out of Cadbury Schweppes for less than ten times earnings. We discovered a highly focused and competent management team.  The two companies will bring iconic brands such as 7 Up, A&W, Mott’s and Sunkist together with Green Mountain Coffee Roasters, Keurig’s single serve coffee system, and more than 75 owned, licensed, and partner brands. Dr. Pepper Snapple shareholders will receive $103.75 per share, or $18.7B, in a special cash dividend and retain 13% of the combined company. KDP is targeting $600M in synergies on an annualized basis by 2021 and a dividend of $0.60 per share at the close of the transition. Total net debt is expected to be approximately $16.6B with a target net debt/EBIDTA ratio below 3.0x within two to three years after closing. KDP will have combined proforma 2017 annual revenues of approximately $11B. This is another example of private equity firms buying our high free cash flow generating businesses–which has been a common occurrence in our portfolio over the years. Private equity firms have close to one trillion dollars in buying power and could be a material source for mergers, especially as prices correct and become more enticing.

On March 8, 2018, Cigna entered into a definitive agreement to acquire Express Scripts Holding Company for $67B, or $92 per share. This buyout would broaden the portfolio of Cigna’s specialty services and boost their focus on advanced analytics. Combining the companies’ strengths will allow them to use a patient’s medical history to improve treatments and lower costs while simplifying the healthcare supply chain. The merger consideration will consist of $48.75 in cash and 0.2434 shares of stock of the combined company per ESRX share. Upon closing the transaction, Cigna shareholders will own approximately 64% of the company and Express Scripts shareholders will own 36%. Current CEO of Cigna, David Cordani, will lead the combined company with Tim Wentworth, current CEO of Express Scripts, transitioning to President of Express Scripts, Inc. The deal is being closely watched and scrutinized by the Department of Justice who recently asked both companies for additional information. The Justice Department successfully blocked both Aetna from buying Humana Inc. and Anthem Inc. from acquiring Cigna in 2017, but Cigna is still confident in their ability to gain regulatory approval and complete the acquisition by the end of 2018.

Opportunities

Negative headlines when detached from strong fundamentals create opportunities. Companies like FedEx and UPS recently hit attractive levels due to fears over global trade wars. Google and Facebook have suffered sharp declines due to the mishandling of personal data by Facebook and uncertainty over tightening regulation. However, both have strong underlying demand trends and powerful platforms driven by predictive data analytics, artificial intelligence and a network effect. As a group, industry leading biotechs have been trading at a very cheap 12 times 2018 earnings vs. 17 times for the S&P. Exciting research breakthroughs are leading to major advances against many diseases. Quality medtech firms like Medtronic and Zimmer trade at very reasonable valuations versus free cash flow. A good buy results when a powerful franchise suffers under horrible emotional headlines. Like John Train, author of The Money Masters has said, “The safe time to invest is when investors are discouraged and desperate.” An example is our purchase of Visa and Mastercard. Back in 2010 they were under a cloud of negative headlines regarding interchange fees. The fundamental digital trends were strong. Our cost basis in Mastercard is $22 and it recently traded above $174. Our Visa basis is $16, and it recently hit $125.  It can be so expensive to get caught up in news headlines and the emotion of markets if it detracts from focusing on facts underlying operating reality. As financier and Presidential advisor Bernard Baruch used to say, “Facts are facts even in the height of emotion.” Strong sales, earnings and cash flows together with diligent managerial capital allocation will drive intrinsic value and ultimately stock returns. Consumer staples like beverages have been declining in 2018 but we see private equity stepping in if prices remain weak as those businesses are enduring, generate attractive free cash and are better able to handle increased leverage.

Risks

Nearly a quarter of the S&P is weighted in technology stocks with a trailing price earnings of 33. Huge capital investments (over $90 billion) are entering the industry via the likes of Softbank, a Japanese conglomerate dedicated to technology investment. Back in 2000, Softbank dropped over 90% due to enthusiastic purchases of inflated technology stocks. We are watching the IPO markets for even further supply. The cloud is so popular that it is attracting enormous capital spending, just like fiber optic in the late 1990s and more recently the farm sector and natural gas. Exuberance over exciting growth prospects can often lead to a flood of entrants and capital, leading to overinvestment and supply gluts.

We continue to see increasing volatility with headline risk. However, overall the fundamentals for US earnings look the best since 2011. The supply of public stocks is still down over 50% since 1998. Private equity has over $1 trillion in buying power. Companies in the S&P 500 could retire an additional $800 billion in stock this year via buybacks. In the first quarter corporate mergers and acquisitions are up 60%. The rule of law in the US is stronger this past year compared to Venezuela which has no rule of law and suffers annual inflation over 10,000%. After the Reagan tax cuts in 1986, I remember a period where earnings were so strong the market survived a three percent rise in long term interest rates before correcting in a major way in 1987.

In times of market turbulence and uncertainty we have found it is helpful to go back in history and study great, enduring investors. J. Paul Getty was one of the best during the 1930s. He writes, “The big profits go to the intelligent, careful and patient investor, not to the reckless and overeager speculator. The seasoned investor buys his stocks when they are priced low, holds them for the long-pull rise and takes in-between dips and slumps in stride.”

We appreciate your trust.

Jeff Auxier

 

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses.  This and other information is in the prospectus, a copy of which may be obtained by calling (877) 328-9437 or visiting the Fund’s website.  Please read the prospectus carefully before you invest.

Fund returns (i) assume the reinvestment of all dividends and capital gain distributions and (ii) would have been lower during the period if certain fees and expenses had not been waived.  Performance shown is for the Fund’s Investor Class shares; returns for other share classes will vary.   Performance for Investor Class shares for periods prior to December 10, 2004 reflects performance of the applicable share class of Auxier Focus Fund, a series of Unified Series Trust (the “Predecessor Fund”).  Prior to January 3, 2003, the Predecessor Fund was a series of Ameriprime Funds.  The performance of the Fund’s Investor Class shares for the period prior to December 10, 2004 reflects the expenses of the Predecessor Fund. 

The Fund may invest in value and/or growth stocks. Investments in value stocks are subject to risk that their intrinsic value may never be realized and investments in growth stocks may be susceptible to rapid price swings, especially during periods of economic uncertainty. In addition, the Fund may invest in mid-sized companies which generally carry greater risk than is customarily associated with larger companies. Moreover, if the Fund’s portfolio is overweighted in a sector, any negative development affecting that sector will have a greater impact on the Fund than a fund that is not overweighted in that sector. An increase in interest rates typically causes a fall in the value of a debt security (Fixed-Income Securities Risk) with corresponding changes to the Fund’s value.

Foreside Fund Services, LLC, distributor.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 widely held common stocks. The Barclays US Aggregate Bond Index is a broad-based benchmark that measures the investment grade, US dollar-denominated, fixed-rate taxable bond market. FTSE 100 Index, also called The Financial Times Stock Exchange 100 Index, FTSE 100 Index, FTSE 100, FTSE, or, informally, the “Footsie” /ˈfʊtsi/, is a share index of the 100 companies listed on the London Stock Exchange with the highest market capitalization.  The STOXX Europe 600 Index is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 Index represents large, mid and small capitalization companies across 17 countries of the European region: Austria, Belgium, Czech Republic, Denmark, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland and the United Kingdom. One cannot invest directly in an index or average.

The views in this shareholder letter were those of the Fund Manager as of the letter’s publication date and may not reflect his views on the date this letter is first distributed or anytime thereafter.  These views are intended to assist readers in understanding the Fund’s investment methodology and do not constitute investment advice.

This Internet site is not an offer to sell or a solicitation of an offer to buy shares of the Fund to any person in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. Foreside Fund Services, LLC. Distributor (www.foreside.com) | Hosted by clnw.com