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Auxier Report: Winter 2020

Dec 31, 2020

Download Auxier Report Winter 2020

Winter 2020 Market Commentary

Global equity markets continued a powerful rally in the fourth quarter.  In the US, the S&P 500 returned 12.15%. The swift recovery is surprising, following the worst economic decline in a first quarter since the Great Depression. Remarkable advances have been made with vaccines to address the COVID-19 pandemic; two were recently approved by the Food and Drug Administration (FDA). Normally it takes several years to develop an effective vaccine. The pace of innovation has been astounding. In addition, the global  fiscal and monetary response has been the most aggressive in history—nearly triple that of prior downturns. US money supply has been growing over 25% annually, the highest in over 150 years.  According to the International Monetary Fund (IMF), governments and central banks globally have provided over $19 trillion in stimulus in 2020.  They forecast 5.5% global gross domestic product (GDP) growth. Bank of America predicts 6% US GDP growth in 2021. Despite these forecasts, over $15 trillion in bonds are still priced to yield negative returns. Inflation adjusted fixed income markets are very unattractive.  The purchasing power risk combined with the potential price declines in a rising rate environment makes the risk/reward in bonds poor. The US dollar tends to depreciate 3% to 4% a year on average.

In the last quarter we have seen an outperformance in many of the beaten down value, cyclical and small cap areas of the market. A stronger economy should lead to better pricing, higher inflation and higher interest rates. The banks were decimated by low interest rates and high loan loss reserves resulting from the pandemic in the first half of the year, but came back to life in the fourth quarter.

With low inventories and strong demand, prices and margins are improving across many industries. We are seeing strong fundamentals in insurance, natural resources, used cars, semitrucks, lumber, farm commodities, etc. Wage gains look likely into 2021 as fast-food employees have been striking and there have been serious efforts by workers to unionize at Amazon. There is a strong push to raise the federal minimum wage. Transportation costs have been increasing as the Baltic Dry Index is up 128% over last year. Since early December, the index increased by nearly 60%. In Europe, 40-foot container shipping rates rose from $2,150 in November to $16,500 in January.  Online shopping is the rage, but higher shipping costs and record returns are material headwinds.  We watch inflation trends carefully as higher inflation and interest rates can compress price/earnings ratios, increasing the threat of “torpedoes” in the portfolio. Highly valued, high expectation stocks and longer-term bonds can be especially vulnerable.

The Millennial generation is quickly becoming the most important focus for many businesses. As of 2019, the number of Millennials reached 72.1 million and finally overtook the Baby Boomer generation in the US. The housing market is primed to begin benefiting from Millennials, with 90% planning to buy someday. The oldest of the generation have recently turned 40. Research by Goldman Sachs found that the peak home-buying age for Millennials is now 45. According to Coldwell Banker, by the year 2030, Millennials will have inherited over $68 trillion from their parents. We believe this massive generation of wealth will only strengthen the housing market. Pew Research estimates that, due to immigration, the Millennial population will continue to grow, peaking in 2033.

The Digitization of Media

We have seen five years of rapid digitization compress in less than a year. The conversion to streaming in media has been a major disrupter.  Large players like Netflix and Disney dominate the streaming conversation, but one player we like that tends to be overlooked is Alphabet’s YouTube, which has over two billion monthly active users watching over a billion videos per day. As YouTube is a free, ad-supported platform it brings substantial traffic and is the world’s most visited website after Google.com. YouTube is also the second largest search engine in the world, processing more than three billion searches a month. According to Pew Research, 73% of US adults use YouTube. Around 50% of US adults pay for or use a Netflix account. YouTube’s reach is immense. According to the Wall Street Journal, YouTube reaches more 24-49 year-old users than all cable channels combined. While YouTube has had a positive impact on Alphabet’s earnings, it has also greatly benefited creators, with the number of channels earning six figures growing by 40% every year. Along with YouTube, we also have our eye on the potential growth opportunities that newcomer Discovery+ could bring to the streaming landscape. Discovery, Inc. has been facing headwinds due to cord cutting, and launching their own service could be the spark the company needs to reinvigorate their growth. We see Discovery’s focus on unscripted content as a unique offering when compared to the scripted content of other major streaming players which could allow Discovery+ to sit comfortably alongside existing services. With cord cutting only anticipated to accelerate in the future, we like companies like Alphabet and Discovery, Inc. that offer unique streaming products that drive engagement and capitalize on digital entertainment.

Vaccine Update

Developing and distributing an effective vaccine to COVID-19 is a top priority for pharmaceutical companies such as Pfizer, Moderna and Johnson & Johnson (JNJ). While the Pfizer and Moderna vaccines have been given emergency use authorization by the FDA, JNJ’s vaccine has not yet been approved. Even though JNJ’s vaccine is behind Pfizer’s and Moderna’s, it does present some clear advantages that could help it become the best vaccine option for many. JNJ’s vaccine only requires one dose compared to the two doses required for the Pfizer and Moderna vaccines. A one-dose vaccine will be much easier to distribute around the country in a reasonable amount of time compared to a two-dose vaccine which requires time to pass between each dose. Another significant benefit of JNJ’s vaccine is that it is expected to be stable at refrigerated temperatures of 35.6 to 46.4 degrees Fahrenheit. Pfizer’s vaccine has more challenging storage needs and must be kept at minus 94 degrees Fahrenheit. This means that JNJ’s vaccine will not require new infrastructure to store and transport the vaccine. JNJ estimates that they will be able to produce enough doses to vaccinate 100 million Americans by April. Quick and effective vaccines for COVID-19 are needed to help protect the most vulnerable populations, such as those living and working in nursing homes. Data from early December indicates that about 40% of COVID-19 deaths in the US have been in nursing homes. Since JNJ’s vaccine requires fewer doses and can be more easily transported and stored than other vaccines, they may be the best option to treat this vulnerable group. It is estimated these vaccines will need to be taken every year due to the changing mutations. In time, as genetic testing improves, drugs will be better targeted to cure diseases. Today a company called OneOme, co-founded by the Mayo Clinic, offers pharmacogenomic solutions combining genome mapping and precision medicine testing. By building genetic databases specific drugs can be administered, improving the odds for favorable outcomes.

UnitedHealth Group Shows Resilience

The fourth quarter marked the end of a year that demonstrated UnitedHealth’s resilience to uncertainties as they were able to grow consistently throughout the year. Revenue for the company has increased every quarter for well over 10 years now as UnitedHealth has been able to keep operating at a high level despite economic disruptions like the financial crisis and the COVID-19 pandemic. UnitedHealth ended the fiscal year with record revenue thanks to the strength of Optum, their information and technology-enabled health services segment. Management expects their cash flow generation will continue to grow and reach $20-$21 billion in 2021. UnitedHealth has paid a consistent dividend for the last decade and with a payout ratio of just 30% the company has the flexibility to continue returning capital to shareholders.

Property Casualty Insurance Seeing A Recovery

The fourth quarter marked an improvement during a tough year for insurance providers as high catastrophe losses and COVID-19 charges impacted profitability. According to Swiss Re, total insurance losses in 2020 were estimated to be $83 billion, making it the 5th costliest year since 1970. Notable catastrophe events during the quarter included the California wildfires, with losses estimated to be in the $7 billion to $13 billion range. The North Atlantic hurricane season saw 30 big storms lead to $20 billion in claims. Swiss Re’s loss estimates do not include claims related to COVID-19, so total losses could be higher, though many insurers have pandemic-related exclusions in their contracts. Insurance companies have been trading at a discount due to investors’ fears of the impact of the pandemic, but these exclusions mean that the pandemic has had less of an impact than many investors expected. Travelers, for example, saw their core income grow by 45% over the fourth quarter of 2020 thanks to lower catastrophe claims and an increase in market returns. Exclusions to COVID-related losses helped Travelers beat analyst estimates. The massive catastrophe losses during 2020 will be the driving force of higher pricing in 2021. Pricing in insurance renewals was favorable and is expected to remain positive into 2021. January 1st reinsurance renewals were reported in the 5%-7% range. The US has seen the largest increases, followed by Europe and Asia. Rising primary pricing, low interest rates and increased risk concerns around catastrophes and COVID-19 are driving renewal growth. Strong pricing and lower catastrophe losses compared to 2020 are expected to lead to better profitability going forward. We believe Berkshire Hathaway, Marsh & McLennan, Aon, AIG and Travelers will all benefit from this improved pricing as the worst economic pressures on top lines are likely in the past.

CVS Undervalued After Successful Turnaround

CVS Health Corp is the nation’s foremost integrated healthcare services provider. CVS finished 2020 at $68.30 with projected earnings of $7.45 per share and a $2.00 dividend. This gives them a price-to-earnings ratio of slightly over 9x with a dividend yield of 2.93%. New entries into the pharmacy market, such as PillPack from Amazon, have scared investors away despite CVS’s long history of success and institutional knowledge. Amazon’s approach has been more focused on mail order, not face-to-face, which is a strength of CVS. The same thing happened to grocers in 2017 when Amazon purchased Whole Foods, but over three years later grocers have yet to see much of an impact. Executing in highly competitive markets is often harder than anticipated. Meanwhile CVS is preparing for the future with more vertical integration from the Aetna acquisition. While they dramatically increased their debt with the move, they brought on their CEO-in-waiting, Karen Lynch, while moving into the insurance space. We owned Aetna prior to the acquisition and have been following Karen Lynch for years. She takes over on February 1st and is expected to continue to expand the insurance division of CVS. In the interim, CVS will continue to pay down debt with their tremendous free cash flow, which is expected to break $10 billion in 2020. While they suspended share buybacks to pay down their debt from the Aetna acquisition, they are expected to hit their goal of 3x debt-to-cash flow sometime this year and could return significant value to shareholders as soon as 2022. All of CVS’s performance takes place in the backdrop of the COVID-19 pandemic. In 2020, they were the #1 testing site in the United States and have been working closely with the US government to help facilitate the vaccination of hundreds of millions of Americans in 2021. Nearly 70% of Americans live within 5 miles of a CVS, while over 85% live within 10 miles. Access to healthcare today is a major issue and CVS is determined to improve that access. 10,000 Americans turn 65 every day and it looks like the Biden administration wants to increase both Medicare and Medicaid coverage. With their near ubiquity, as well as their institutional experience delivering vaccines, CVS is likely to play a significant role in the vaccine rollout, exposing millions of new customers to the value CVS can provide. While the headlines might not be as exciting as those of a company like Amazon, CVS has the potential to provide significant returns with the fundamentals to back it up.

Fourth Quarter 2020 Performance Update

Auxier Focus Fund’s Investor Class returned 11.99% in the fourth quarter vs. 12.15% for the cap-weighted S&P 500 Index and 10.73% for the DJIA. The equal-weight S&P 500 returned 18.46%.  Emerging markets as measured by the MSCI Emerging Markets Index were up 19.70%. A 60/40 S&P 500 and Bloomberg Barclays US Aggregate blended index returned 7.54% for the quarter. Stocks in the Fund comprised 97.8% of the portfolio. The equity breakdown was 86.1% domestic and 11.7% foreign, with 2.2% in cash and short-term debt instruments. A hypothetical $10,000 investment in the Fund since inception in July 1999 to December 31, 2020 is now worth $46,967 vs. $40,426 for the S&P 500 and $37,543 for the Russell 1000 Value Index. The equities in the Fund (entire portfolio, not share class specific) have had a cumulative return of 609.59% since inception and the Fund as a whole has had a cumulative return of 369.66% vs. 304.26% for the S&P. This was achieved with an average exposure to the market of 80.4% over the entire period.

Contributors to the quarter:  Our outlook on a cross section of positions with a positive impact on the portfolio for the quarter ended 12/31/2020.

 

Bank of America Corp. (BAC)
Bank of America’s performance continued to be below 2019 levels as revenues have been pressured by low interest rates and expenses have been elevated due to COVID-related costs. However, performance improved sequentially in the second half of 2020. One area that has benefited during the pandemic is Bank of America’s digital usage. The company has seen over 2.3 billion quarterly digital banking logins. Over 70% of checks are now deposited digitally on the Bank of America platform.  The company’s partnership payment service, Zelle, now has 12.2 million active users and their most recent data shows transfers are up 88%. Management will continue to invest in the digital side of their business as they believe many users will prefer digital banking even after the pandemic has passed. Bank of America holds the #1 position in the US deposit market, with 85% of deposit transactions being made digitally.

Discovery, Inc. Series A (DISCA)
Revenue growth for Discovery slowed in 2020 due to reductions in TV advertising and cord-cutting, but future growth looks promising with the launch of their new streaming service Discovery+. Advertising currently makes up 50% of the company’s revenue so management is hoping that the launch of Discovery+ will begin to shift their revenue mix. Discovery currently has over 800 million monthly viewers around the world and has the #1 TV portfolio based on hours watched in the US. Management is confident that their service will be a good supplement to larger players like Disney+ and Netflix since Discovery+ will be the only major streaming service focused solely on unscripted content. Discovery expects 2021 to have the highest expenses for the streaming service due to the need to acquire new users, but expenses will decrease as the service scales. Along with investing in their digital offerings, Discovery generated over $3 billion in free cash flow this past year for a 7% free cash flow yield.

CAE, Inc. (CAE)
CAE is the global leader in training for civil and defense aviation. It is a much lower risk way to play the eventual turn in travel.  Earlier in 2020, CAE suspended operations in over half their civil training facilities, however all previously suspended locations have now been re-opened. This provided a tremendous bargain price in their stock. Management stated that they are now seeing recoveries in training utilization, particularly in business aviation training. After the Boeing 737 problems, pilot training is emphasized to a much greater degree. Management is confident that they will be able to recover once global travel gets closer to pre-COVID levels. Over 60% of CAE’s business comes from recurring business and long-term agreements with many airlines and defense forces. The company’s total backlog currently stands at over $8 billion.

Citigroup, Inc. (C)
Citigroup is selling for less than 80% of tangible book value. As stock buybacks resume, they are in a position to add tremendous value. A stronger global economy should lead to a reduction and further releasing of reserves and higher rates will benefit the record low net interest margin. Consensus estimates for Citigroup’s 2021 and 2022 earnings per share are $6.44 and $8.03, respectively. At nine times earnings the stock trades at a 60% discount to the market.

Detractors to the quarter:  Our outlook on a cross section of positions with a negative impact on the portfolio for the quarter ended 12/31/2020.

Microsoft Corp. (MSFT)
One of the largest companies in the world by market capitalization, Microsoft has managed to continue to grow and thrive despite the pandemic. The stock returned over 40% in 2020 behind strong growth from their Office suite of products, cloud businesses and gaming. Their cloud computing service, Azure, grew 48% last quarter. The work-from-home movement helped increase demand for their products as it further accelerated the trend towards digitization. Microsoft has invested heavily in the gaming industry with their Xbox system and their recent acquisition of ZeniMax Media. The gaming industry is already larger than the film industry and the global sport sector combined and is projected to continue its explosive growth over the coming years. Despite their investments Microsoft is still flexible with cash, cash equivalents and short-term investments of nearly $138 billion as of their most recent quarter.

Kroger Co. (KR)
Kroger is incredibly cheap compared to its peers. While Kroger’s price-to-earnings ratio is under 10, Walmart is over 20 and Target is over 25. In addition, Kroger’s dividend yield is substantially higher at 2.3% compared to Walmart’s 1.5% and Target’s 1.5%. Kroger’s price is depressed despite a strong year as people shopped more due to stay-at-home orders. While many still view Kroger as a traditional brick-and-mortar grocer, they have been successfully digitizing their business and currently trail only Walmart in online grocery sales. They plan to open their first automated fulfillment center in early 2021. Kroger has also started ramping up their preparations for the rollout of the vaccines. As one of the leading distributers of the influenza vaccine, they have extensive experience and their 2,200 pharmacies and 220 clinics could prove vital in the effort to vaccinate hundreds of millions of Americans over the coming months.

Mastercard Inc. (MA)
While they are still below pre-COVID-19 expectations, Mastercard has continued to see purchases increase after the abrupt drop off in March. The hardest hit unit has been cross-border transactions which was down 36% last quarter. However, cross-border transactions are likely to rebound quickly once COVID-19 restrictions are lifted and business starts to return to normal. In the meantime, Mastercard has focused on returning value to shareholders while maintaining a flexible balance sheet. In the third quarter alone, they repurchased 6.5 million shares for $2.1 billion while still finishing the quarter with over $10 billion is cash and cash equivalents. Mastercard also announced a 10% dividend increase in December to $0.44 per share.

Merck & Co. (MRK)
Merck has the second largest research budget of the major pharmaceutical companies.  Oncology sales continue to grow over 26%. The company is refocusing on vaccines, hospital acute care, animal health and oncology. They are spinning off the biosimilars, woman’s health and legacy brands into a new company called Organon. Merck estimates that the pandemic has so far negatively impacted revenue by over $2 billion due to reduced access to health care providers and reduction in demand for some of their vaccines. Despite these headwinds, they are on track for full-year revenue growth and a robust oncology and virology pipeline. Merck trades at a very cheap 13 times earnings, almost a 40% discount to the overall market. I first bought Merck in 1983 during the personal computer IPO frenzy where more than 30 personal computer companies went public. Over 90% failed to survive, yet Merck with a heavy emphasis on R&D is still going strong.

In Closing

The recent speculation in markets is nothing new. Charles Mackay’s book Extraordinary Popular Delusions and the Madness of Crowds published in 1841 was one of the first investment books I read back in the early 1980s. Human behavior, especially in groups, can be crazy at times.  “Easy money” contributes to momentum that detaches from reality and underlying cash flows. We are always ready to take advantage of bargains that result from irrationality and forced liquidations resulting from excessive borrowed money. There is an old saying that “financial genius is leverage in an up market.” In declining markets leverage takes you out of the game fast. Back in 1999 internet mutual funds had doubled in a year and were out of business within three years. From 1995-2000 the Nasdaq climbed 456% but then crashed 80% to end up back where it started. Steep losses can really interrupt the compounding of returns. We see the same kind of downside in many story-stocks that have been riding momentum as the emphasis is on revenue growth to the exclusion of other value yardsticks.  High prices and group behavior tend to attract a constituency that is often devoid of rational thought and behavior. We never lose sight of the power of the compounded return over long periods and the necessity of a persistent research effort to mitigate risk. If you drop 50% you need to recover 100% to break even and if you drop 90% you need to gain 1000% to break even. Although securities markets in the US have been good the past several years, they can have periods of flat performance like 1999-2009. During that decade, the S&P 500 returned a cumulative -4.27% while the Auxier Focus Fund returned a cumulative 83.67%. We tend to add the most value in those kinds of difficult periods.

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.

Fund holdings and sector allocations are subject to change and should not be considered a recommendation to buy or sell any security.

Foreside Fund Services, LLC, distributor.

Earnings growth is not representative of the Fund’s future performance.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 market-capitalization-weighted widely held common stocks. The Dow Jones Industrial Average is a price weighted index designed to represent the stock performance of large, well-known U.S. companies within the utilities industry. The S&P 500 Equal Weight Index (EWI) is the equal-weight version of the widely used S&P 500. The index includes the same constituents as the capitalization weighted S&P 500, but each company in the S&P 500 EWI is allocated a fixed weight (0.2%) of the index total at each quarterly rebalance.  The MSCI Emerging Market Index captures mid and large caps across more than two dozen emerging market countries. The index is a float-adjusted market capitalization index and represents 13% of global market capitalization. The Russell 1000 Value Index refers to a composite of large and mid-cap companies located in the United States that also exhibit a value probability. The Russell 1000 Value is published and maintained by FTSE Russell. The 60/40 Hybrid of S&P 500 and Bloomberg Barclays U.S. Aggregate Bond Index is a blend of 60% S&P 500 Composite Index and 40% Barclays U.S. Aggregate Bond Index, as calculated by the adviser, and is not available for direct investment.  The Baltic Dry Index (BDI) is a shipping and trade index created by the London-based Baltic Exchange. It measures changes in the cost of transporting various raw materials, such as coal and steel. One cannot invest directly in an index or average.

Cash flow is the net amount of cash and cash-equivalents being transferred into and out of a business.

An initial public offering (IPO) refers to the process of offering shares of a private corporation to the public in a new stock issuance.

Free cash flow (FCF) represents the cash a company generates after accounting for cash outflows to support operations and maintain its capital assets.

The price-to-earnings ratio (P/E ratio) is the ratio for valuing a company that measures its current share price relative to its per-share earnings (EPS).

Free cash flow yield is a financial solvency ratio that compares the free cash flow per share a company is expected to earn against its market value per share. The ratio is calculated by taking the free cash flow per share divided by the current share price.

Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock.

The dividend yield, expressed as a percentage, is a financial ratio (dividend/price) that shows how much a company pays out in dividends each year relative to its stock price

Book value is the value of a security or asset as entered in a company’s books.

Nasdaq:  The Nasdaq Composite Index is the market capitalization-weighted index of over 2,500 common equities listed on the Nasdaq stock exchange.

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 2020

Sep 30, 2020

Fall 2020 Market Commentary 

The unprecedented events of 2020 have led many companies and industries to have wildly varying performance in the market. The pandemic has created a clear digital divide. The essential businesses who have digitized aggressively and kept strong balance sheets have adapted and outperformed year to date. However, this past quarter, after meeting firsthand with many CEOs, we are starting to see undervalued businesses that are more cyclical in nature outperform for the first time in many years.  Smaller companies are starting to perform better as well.  We try to stay on the pulse of businesses to catch the turn up in fundamentals. Inventory levels are very low and will need to be rebuilt. Manufacturing numbers out of China and the US are the best in two years. In the US, housing and autos have a positive multiplier effect. Record low mortgage rates are fueling a refinance boom and strong housing numbers, especially in suburban markets. Cheap gas and diesel prices are contributing to surging sales of trucks and SUVs. Used car prices are up over 12% for the year. The stock market is excited about the total addressable market for electric vehicles, but there are still over 278 million cars on the road that operate on gasoline or diesel. Boat, RV and bike sales have all seen shortages as people spend more time outdoors. The transportation sector, outside of airlines, has been recovering. FedEx and UPS have been able to take advantage of an increase in e-commerce as more people migrate to online purchases. Because of this change in consumer behavior, FedEx and UPS have seen their stock grow over 70% and 45% respectively this quarter. Other strong performers during the quarter were smaller companies like FirstService Corporation, Celanese Corporation and Lincoln Educational Services, gaining 31%, 25% and 40% respectively. I met the FirstService chief financial officer in 2003. They were a very small property management firm with a ton of energy and integrity. It has been the best performing stock in the Fund since inception.  That is why we like companies that are family owned or founder run, because management tends to care more about the business and its reputation over the long term, not a quick-hit lottery ticket. On the downside, the energy, aerospace, travel and service sectors have been pummeled. In-person conferences and global travel have suffered. Goods have been outperforming services, especially where groups are involved. Spending on goods was up 6.7% versus spending on services, -7.7% for the quarter. Commercial real estate and the proliferation of collateralized mortgage obligations are suffering, forcing dramatically higher banking reserves. This and low net interest margins are hitting banks’ income statements hard.

Digital Ad Growth

We are seeing an accelerated move to digital ads due to COVID-19. Companies like Snap, Pinterest, Facebook, Alphabet, Alibaba and Amazon with advanced data analytics are transforming the industry. The Interactive Advertising Bureau (IAB) expects digital ad spending to increase by 6% in 2020 despite virus-related headwinds. The IAB also estimates that traditional media advertising will decline by 30% this year indicating that companies are prioritizing digital ads as many consumers are spending so much more time at home. Alphabet’s YouTube is enjoying digital ad growth greater than 31%.

Housing

The housing market has also been performing well amid the pandemic. According to Bankrate and Freddie Mac, the 30-year fixed-rate mortgage fell to an all-time low of 2.86%. Demographically, there are over 90 million millennials in the US which represents the potential for strong multiyear demand. The “work from anywhere” trend is helping people move out of cities into suburban, highly aesthetic and low-tax locations. The pandemic and remote technology have increased the demand for space and living areas with yards. The National Association of Realtors (NAR) found that completed housing transactions in September rose to 6.54 million on a seasonally adjusted annual rate, up 20.9% from September 2019. The highest in 15 years. Home remodeling has been strong with a surge in mortgage refinancing. A downside is the cost to maintain many of these houses and the potential for higher property taxes in areas where municipalities are enduring record revenue shortfalls.

Bubble Watch

With the suppression of interest rates the past few years, a momentum strategy rooted in  “growth at any price” has prevailed. Bubbles have historically started during periods of easy money and exciting technological developments. Eventually price levels get too far detached from cash flows, leading to crashes. Railroads in the 1830s, airplanes, cars and radios in the 1920s and the internet in the late 1990s are examples. Recently bitcoin and marijuana stocks soared the past few years then plummeted over 80%. Today, electric vehicles and enterprise software with IPOs like Snowflake priced over 100 times sales are experiencing excessive exuberance. This speculative activity can change overnight if inflation and interest rates were to reverse course. Over the long term, price and value are important despite generally being de-emphasized today. Overpriced momentum strategies tend to revert to the mean. The two big sins of investing I have witnessed over the decades that have consistently destroyed shareholder value have been CEOs overpaying in times of euphoria and adding more risk with borrowed money. There is a famous saying in the airline industry: “There are old pilots and bold pilots but no old, bold pilots.” Investing is similar. To endure over the long term it takes a committed, rational research effort to avoid permanent capital losses. Ego, emotion and “winging it” combine to blow up many portfolios and take investors out of the game. We have found humility and flexibility to be necessary character traits in order to survive the incredible competitive challenges that most businesses face. In the current environment, the focus of the market has been on revenue growth, almost to the exclusion of all other investment yardsticks.  Many losing companies have had tremendous returns based on exciting stories with little underlying cash flow. We have experienced these kinds of markets before. Disney, for example, was extremely popular in 1973 and the stock traded up to a price-earnings ratio of 81. Their revenue had grown 3.3 times over the prior seven years, yet in the 12 years from 1973 to 1985 the stock had a negative return despite sales growing five-fold. Popular, highly valued, “high expectation” stocks can torpedo a portfolio when they disappoint. Over the very long term it is difficult to maintain even a 13% growth rate. So high valuations tend to revert to the mean. Historically, index funds purchased at over 20-times earnings have had a negative return over the following ten years. Socialism is inflationary and inflation is the enemy of high price-to-earnings stocks. We continue to focus on doing deep dives into undervalued companies with strong or improving fundamentals that we believe have the potential to achieve “double-play” returns where improving fundamentals lead to expanding valuations.

COVID-19 Developments

Many companies are still feeling the impact of pandemic-related shutdowns while the race to find a treatment or vaccine for COVID-19 continues. Companies like Abbott Laboratories, Thermo Fisher Scientific, Quest and LabCorp are working to improve testing to help prevent future contact with the virus while others, like Pfizer, Merck and Johnson & Johnson, are working on vaccines. Merck may be best positioned to scale a vaccine, with decades of experience in mass producing vital vaccines. A recent study from the American Society of Hematology found that T-cells taken from the blood of recovered COVID-19 patients could be used to protect others from infection, as the cells maintain the ability to target the key proteins of the virus. T-cells are a critical part of the immune system that attack infected cells and pathogens.  The cures for cancer are coming through the immune system and CAR T-cell therapies are growing in importance not only in cancer, but in vaccines for viruses like the flu and COVID-19. We also see mineral deficiencies as a major contributor to many diseases. The cattle industry learned early on that in order to keep vet bills low, mineral supplementation was a necessity. Low vitamin D levels have been found in over 90% of COVID-19 deaths.  It appears that the best way to protect people is to focus on strategies and diets that will bolster individual immune systems. However, with cases rising in certain areas, some states and countries are weighing the possibility of additional COVID-19 lockdowns to help slow the spread of the virus, which could lengthen the recovery time for industries like energy, travel and entertainment. We continue to monitor these vulnerable industries closely during this time and remain focused on finding those select companies that have been able to find success.

Discounts on Managed Care Companies

Managed care companies like Anthem and UnitedHealth have historically seen discounts in election years as the healthcare industry is a common point of contention between candidates and uncertainty over the future of the industry is high. In the past four elections we have been a buyer of quality healthcare names that were bargains due to negative headlines. According to UBS, discounts relative to the S&P 500 peak around elections and then improve in the months afterwards as politics fade and the industry acclimates to any changes made. UBS has found that managed-care stocks have rallied 21% in the six months after the last 7 presidential elections. These stocks were up 44% a year after the last 7 elections, higher than the gains of the S&P 500. Post-election, companies like Anthem and UnitedHealth could see some positive tailwinds. The repeal of an Affordable Care Act tax on health plans in 2021 could save health insurers an estimated $15 billion annually. According to AARP, 10,000 people in the US turn 65 every day which would boost enrollment in Medicare plans. Election cycles provide unique opportunities to add strong, diversified companies that are trading at a discount relative to the market and have the potential to run.

Pandemic-Related Insurance Losses

An industry that could see a benefit from the pandemic would be the insurance industry. Pandemic-related claims have seen a spike and Lloyd’s estimates that total losses for the industry could reach $107 billion for 2020. This would be the largest loss on record for insurers due to a single event. The result of these losses is leading to a drop in capital levels and we are seeing prices on policy renewals spiking broadly. This improvement in pricing will greatly benefit insurers like Travelers, Chubb and Berkshire Hathaway. Insurance brokers like Aon and Marsh & McLennan should see an improvement as they thrive in what is known as a “hard market” for pricing.

Imminent Threat to Oil and Gas Overblown?

The global slowdown in air travel and the move to alternative energies have contributed to a supply glut in oil and fuel. Most oil stocks have dropped by over 50% this year. The shale industry is facing over $300 billion in asset write-downs. According to the Energy Information Administration (EIA), global consumption of oil reached 101.4 million barrels per day in 2019 and they currently expect consumption to fall by 8.6 million barrels per day for 2020. COVID-19 has greatly impacted transportation in the US, whether that be for entertainment or simply commuting to work. Transportation is a very important area for the industry as it was responsible for 68% of petroleum consumption in the US in 2019, according to data from the EIA. Shutdowns have changed how businesses operate, with many employees working remotely. Research from freelancing platform Upwork found that reduced commuting has saved Americans $90 billion since the start of the pandemic. While travel is still below pre-COVID-19 levels, it could slowly improve as shutdowns continue to be lifted. Increased e-commerce activity could help increase demand for oil from freight shipping and offset some of the lost demand from personal travel. Freight shipping has already seen a boost this year with online sales in the US growing 30.1% in the first 6 months of 2020 according to US Department of Commerce data. Deloitte is expecting holiday e-commerce sales to grow by 25%-35% for 2020 compared to growth of 14.7% in 2019. We continue to watch the industry carefully and, while the pandemic has greatly impacted global demand for oil and gas, we see a path to recovery as consumers begin to travel and commute to work again. Since gas powered vehicles make up most of the demand for oil, the rise of electric vehicles could threaten the oil and gas industry. Many auto manufacturers have begun to release plans to fully electrify their fleet in the future. Volkswagen has said that they will no longer develop gas or diesel-powered cars after 2026. Many countries have plans to ban sales of new gasoline cars by 2030-2040. Recently, California governor Gavin Newsom signed an order that would ban the sale of new gas cars and trucks by 2035. Other states could follow suit. Moves like these do present a possible threat to oil and gas demand but there are several factors which indicate that the world may not be ready yet for a transition away from traditional energy sources. Electric vehicles in California make up about 5% of the total fleet, more than any other state, and they are already facing rolling blackouts as energy supply cannot meet demand. To transition to fully electric by 2035, California will face challenges of even more blackouts. According to the EIA, natural gas was the largest source of US electricity in 2019 at 38%. Until renewable sources of energy become more widespread and consistent, the role of fossil fuels such as natural gas will continue to be vital, especially if the country is moving towards electric vehicles. As electric vehicles continue to grow, the demand for fossil fuels will need to increase to support the increase in electricity consumption. Even with the rapid growth of electric vehicles, they still represent an incredibly small portion of total vehicles on the road in the US. According to the Bureau of Transportation Statistics, there were over 1 million electric vehicles on the road in the US in 2018, representing less than 1% of total vehicles. Another positive for the industry is that low gas and diesel prices could increase demand for gas-powered vehicles as lower fuel costs are a big reason for consumers to switch to EVs. Renewed COVID-19 fears could keep the price of transportation fuels low until uncertainty subsides. Even if sales of gas-powered cars are eventually phased out, there will still be many on the road for years after that. Consumer Reports found that the average life expectancy of a new vehicle is around eight years, or 15 years for a well-built and well-maintained vehicle, which could lead to steady demand for oil and gas even years after gas-powered cars are phased out.

Long-Term Thinking a True Competitive Advantage

Staying in the market during volatile times is one of the hardest things for investors to do. Like Peter Lynch used to say, in the stock market “the key organ here isn’t the brain, it’s the stomach.” Over the longterm, markets tend to be resilient, but recency bias may lead many investors to sell low when stock prices go down or bad economic conditions arise. An internal study by Fidelity, which looked at their customers’ top returns between 2003 and 2013, showed that the best investors were either dead or had forgotten about their accounts. These types of accounts did not sell in uncertain times or downturns and instead allowed the power of compounding returns to work over the course of many years. Investors who panic and sell low can risk losing out on gains when the market rebounds. Below is a chart from Natixis Portfolio Research & Consulting Group showing the returns of the US stock market (S&P 500 TR) after the 10 worst months between 1985 and 2019.

Investors who sold after volatile times missed out on these market rebounds. Many investors do not have long-term time horizons and therefore could be missing out on gains from recoveries. Reuters analysis of New York Stock Exchange data showed that the average holding period for US stocks was just five and a half months in June. The average holding period has been falling for many decades. In 1999, the average was 14 months and in 1990 it was over 2 years. While long-term strategies may not be as widespread as they once were, we still believe holding stocks for the long term even through uncertain and volatile times provides the best opportunity to take advantage of potential rebounds.

 

Third Quarter 2020 Performance Update

Auxier Focus Fund’s Investor Class returned 5.64% in the third quarter vs. 8.93% for the cap-weighted S&P 500 Index and 8.22% for the DJIA. The equal-weight S&P 500 returned 6.75%. Small stocks as measured by the Russell 2000 were up 4.93%. Emerging markets as measured by the MSCI Emerging Markets Index were up 9.56%. Stocks in the Fund comprised 97% of the portfolio. The equity breakdown was 85.7% domestic and 11.3% foreign, with 3.0% in cash and short-term debt instruments. A hypothetical $10,000 investment in the Fund since inception in July 1999 to September 30, 2020 is now worth $41,938 vs. $36,047 for the S&P 500. The equities in the Fund (entire portfolio, not share class specific) have had a cumulative return of 601% since inception and the Fund as a whole has had a cumulative return of 319.37% vs. 260.47% for the S&P. This was achieved with an average exposure to the market of less than 80% over the entire period.

Contributors to the quarter:  Our outlook on a cross section of positions with a positive impact on the portfolio for the quarter ended 9/30/2020.

MasterCard Inc. (MA)
Cross-border volumes fell about 50% at the start of the pandemic and volumes have only slightly improved since then due to travel and entertainment spending remaining below 2019 levels. Cross-border volumes are important for Mastercard due to the higher fees they realize on these transactions. In other areas though Mastercard has seen some positive developments. Consumer spending in the US has begun to recover as the Commerce Department showed that spending increased 1.5% in July and 1% in August. Another positive development during the year is that due to concerns over hygiene and cleanliness, the use of contactless credit cards and mobile payments has increased. A study by Forrester Research found that 67% of retailers they surveyed accept contactless payment and since January, contactless payments have increased for 69% of retailers. Growth in digital payments means a continued shift away from cash which could benefit Mastercard in the long term.

Corning Inc. (GLW)
Though Corning’s business continues to be down compared to last year, the company has seen sequential growth in sales, earnings and free cash flow. Corning recently introduced their new Gorilla Glass Victus, which can survive higher drops and is twice as scratch-resistant as their previous version. Gorilla Glass is the most common glass used in smartphones. With the growth of 5G connectivity and wireless charging, the use of glass on smartphones is expected to become more widespread as glass casings do not interfere with 5G or wireless charging signals like metal casings do. As 5G connectivity becomes the standard, demand for Corning’s optical fiber could see a boost. For 5G technology to work and be consistent, a tighter mesh of radio antennas is needed compared to 3G or 4G connectivity which requires more fiber to be deployed. Higher demand for optical fiber could provide a boost to Corning’s biggest revenue generating segment. Management expects that the sequential improvement they have seen amid the pandemic will keep them on track to be cash flow positive for the full year.

FedEx Corporation (FDX)
FedEx has been able to take advantage of increased e-commerce activity in 2020 as people have spent more time shopping at home. During the quarter, FedEx reported pricing improvement in both its freight and ground shipping units. FedEx air freight has also been able to capitalize on less competition as commercial airlines have drastically cut flights. On the company’s most recent earnings call, management stated that the company is preparing for a peak like no other this holiday season as the pandemic continues to push more people to shop online. Before the pandemic, FedEx predicted the US would hit 100 million packages a day by 2026 and now they predict it will reach that number by 2023. FedEx could also benefit from a potential COVID-19 vaccine as the company manages 90 cold storage facilities and has experience in shipping temperature-sensitive products.

Medtronic plc (MDT)
During the quarter, Medtronic faced headwinds from the pandemic as patients continued to defer elective procedures, though management has seen sequential improvement as procedure volumes have begun to recover, especially in international markets. Even amid uncertainties surrounding the virus, Medtronic remains committed to returning at least 50% of their free cash flow to shareholders through dividends and repurchases. Medtronic has been incredibly consistent with their dividend and has increased the annual payment for 43 consecutive years. Medtronic continues to invest in new products to bolster their portfolio and this year they have already had over 130 regulatory approvals globally. Medtronic has been investing in a digital future with a focus on AI-driven surgical planning, robot-assisted surgeries and data analytics. Management believes their investment in these areas will lead to more effective surgeries and products as well as reduced costs.

United Parcel Service Inc. (UPS)
Like FedEx, UPS has seen a substantial increase in shipping volumes due to COVID-19 as people have been spending time at home. The company has seen a surge in residential shipments, healthcare-related shipments and strong demand from Asia. Holiday shopping, specifically online shopping, is expected to grow, which could help UPS reach record levels of revenue for 2020. Management is planning to hire 100,000 additional workers for the holiday season to help meet demand after already hiring 39,000 people in its second quarter. Through the pandemic, UPS has been able to maintain a steady balance sheet with increasing cash flow generation.

Abbott Laboratories (ABT)
Abbott Laboratories has been one of the most high-profile medical companies during 2020 thanks to their research on COVID-19 and their successful diagnostic tests. Abbott has released six different tests for COVID-19; four identify active infections and two are intended to identify past infection. Abbott has now sold over 40 million tests worldwide. The company has announced a new test called BinaxNOW which promises to deliver results in 15 minutes for as little as $5 per test. This test requires no special lab equipment, and its low cost could prove vital to widespread global testing as typical lab tests require special hardware and could cost over $100 per test. Aside from the strong performance of the diagnostics business, the rest of Abbott’s segments continue to be impacted by deferred procedures. Even with sales contracting due to the coronavirus, Abbott remains profitable with positive cash flow generation which should help the company remain flexible until the market stabilizes.

Detractors to the quarter:  Our outlook on a cross section of positions with a negative impact on the portfolio for the quarter ended 9/30/2020.

Bank of New York Mellon Corp. (BK)
Bank of New York Mellon has been hurt by the Fed’s zero rate policies which compresses their net interest margin. With $35 trillion in assets the bank will do much better as the economy recovers and interest rates rise. It sells at one of the lowest valuations in over twenty years.

CVS Health Corp. (CVS)
COVID-19 has led to lower than expected revenues for CVS as they had fewer new therapy prescriptions due to a drop in physical meetings. However, earnings were up over 50%, primarily due to reduced costs from deferrals of elective procedures and other discretionary utilizations in the Health Care Benefits Segment. While COVID-19 has led to a lot of disruption in the industry, CEO Larry Merlo is using this disruption to accelerate their transformation into a much more integrated healthcare company. He said they are excited about the opportunity to demonstrate “the ability to deliver care to consumers in the community, in the home and in the palm of their hand.” In the first six months of the year, CVS had over $10 billion in cash from operations, up over 40% year-over-year. CVS is also incredibly cheap, trading at under eight times earnings with free cash flow in excess of $9 billion.

Cigna Corp. (CI)
Fears of increased regulation and negative political headlines have hurt all health insurers and Cigna is especially cheap. The stock trades at a very low valuation with double-digit sales and earnings growth and a single digit P/E ratio. From 2014-2019 Cigna’s earnings compounded over 16% and the company generates free cash flow in excess of $9 billion annually. That is a free cash flow yield in excess of 13%. Cigna expects earnings to reach $20-$21 per share by 2021. The company maintains a 97% customer retention rate and management expects 10%-15% customer growth over the next 5 years.

Kroger Co. (KR)
Kroger has been a major beneficiary of the pandemic as more people continue to cook and eat at home. In their most recent quarter, Kroger reported sales ex-fuel grew 13.9% year-over-year and repeated 2020 EPS guidance of $3.20-$3.30. Their only headwind has been fuel, which has been hurt by low prices for oil and a decrease in demand as people have cut back on driving. Despite the positive trends through the year, Kroger stock is still cheap, trading at around a 10 times P/E ratio. Management has invested heavily in digital sales which doubled in the quarter. In September, Kroger’s board authorized a $1 billion share repurchase program.

Microsoft Corp. (MSFT)
Microsoft hit all-time highs in August before a market correction in tech took hold in September. While it slightly trailed the market in the third quarter, Microsoft has thrived through the work-from-home movement brought on by COVID-19 and has maintained consistent revenue and earnings growth through the pandemic. Daily active users on their Teams collaboration software has more than tripled since the beginning of the year. Quarterly revenue growth for their Azure cloud has remained over 40% due to strong demand as more businesses transition to digital operations. It has invested heavily in gaming with its Xbox systems as well as more recent investments in cloud gaming with xCloud. At the end of September, Microsoft agreed to purchase ZeniMax Media, parent company of Bethesda Softworks, for $7.5 billion. Gaming is one of the fastest growing forms of entertainment and is expected to reach nearly $160 billion in 2020 according to Reuters. In addition, the Microsoft Office product line has seen strong demand this year as more businesses and schools switch to remote work. Microsoft has over $136 billion in cash, equivalents and short-term investments.

The Travelers Companies (TRV)
While the net effects of COVID-19 on The Travelers Companies have been modest, they have had significant setbacks from higher-than-expected catastrophe losses. Hurricane Laura alone caused between $8-$12 billion in wind and storm surge losses in Louisiana and Texas. As large storms and fires become more frequent, catastrophe losses will go up. While this is tough on Travelers’ bottom line in the short term, the price increases on policy renewals   are broad and significant. Travelers has been in business for over 165 years and has been one of the most disciplined underwriters over the past decade. The stock is historically very cheap on a P/E and price-to-book.

In Closing

We believe the potential for government-driven shutdowns in response to the COVID-19 pandemic are far riskier than the virus itself. The lockdowns are a wildcard and disproportionately hurt the poor and schoolchildren. It creates a “winner-take-all” environment where technology driven platform companies grow even stronger. Another risk we monitor is the move to extreme statism and socialism. That can lead to a downward revaluation of financial assets as higher inflation leads to P/E compression. After dozens of meetings with CEOs in numerous industries over the past three months we are finally seeing fundamentals turning positive for many of the businesses we own. We are astounded at the pace of private sector innovation in healthcare and are optimistic that the COVID related problems will be resolved over the next several months.

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.

Fund holdings and sector allocations are subject to change and should not be considered a recommendation to buy or sell any security.

Foreside Fund Services, LLC, distributor.

Earnings growth is not representative of the Fund’s future performance. 

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 market-capitalization-weighted widely held common stocks. The Dow Jones Industrial Average is a price weighted index designed to represent the stock performance of large, well-known U.S. companies within the utilities industry. The S&P 500 Equal Weight Index (EWI) is the equal-weight version of the widely used S&P 500. The index includes the same constituents as the capitalization weighted S&P 500, but each company in the S&P 500 EWI is allocated a fixed weight (0.2%) of the index total at each quarterly rebalance.  The Russell 2000 index is an index measuring the performance of approximately 2,000 smallest-cap American companies in the Russell 3000 Index, which is made up of 3,000 of the largest U.S. stocks. It is a market-cap weighted index. The MSCI Emerging Market Index captures mid and large caps across more than two dozen emerging market countries. The index is a float-adjusted market capitalization index and represents 13% of global market capitalization. One cannot invest directly in an index or average.

Cash flow is the net amount of cash and cash-equivalents being transferred into and out of a business.

An initial public offering (IPO) refers to the process of offering shares of a private corporation to the public in a new stock issuance.

Free cash flow (FCF) represents the cash a company generates after accounting for cash outflows to support operations and maintain its capital assets.

The price-to-earnings ratio (P/E ratio) is the ratio for valuing a company that measures its current share price relative to its per-share earnings (EPS).

Free cash flow yield is a financial solvency ratio that compares the free cash flow per share a company is expected to earn against its market value per share. The ratio is calculated by taking the free cash flow per share divided by the current share price.

Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock.

The price-to-book ratio (P/B ratio) is used to compare a firm’s market capitalization to its book value. It’s calculated by dividing the company’s stock price per share by its book value per share (BVPS)

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 2020

Jun 30, 2020

Download Auxier Report Summer 2020

Summer 2020 Market Commentary

During the second quarter digital business ushered in new innovations and we saw an increased focus on technology due to COVID-19. Companies that used technology to adapt their business models during this time have been able to shield themselves from pandemic-related disruption. While computers and other technologies have been rapidly evolving over the years, the lithium-ion battery was created in 1985 and is still the battery that we use today. Many companies are working on developing new types of batteries and energy storage solutions that will support the growing use of digitally connected devices like computers, phones and vehicles. IBM is researching a new battery chemistry that relies on materials extracted from seawater which could outperform lithium-ion batteries. Fisker Automotive is developing a solid-state battery for electric vehicles that could enable a range of 500 miles and a charging time of just one minute. Samsung just released their own 500-mile battery, although it is not yet commercially available. With the growth of digital businesses, we have seen small teams disrupting entire industries. These companies operate capital light business models by utilizing cloud software and artificial intelligence (AI) to scale more rapidly than large businesses that rely on a massive workforce and years of physical infrastructure. We look for businesses that are using mobile, the cloud, AI and data analytics at the core of their operations because these will only become more vital as the number of connected devices grows.

Recognize Investment Cycles

Easy money and industry deregulation often contribute to great booms and busts. The telecom deregulation in the late 1990s and aggressive Fed easing combined to cause massive oversupply leading to a severe   downturn. Blue chip telecom leader Lucent dropped over 98%. Soon after the telecom deregulation, the US banking industry was deregulated with the repeal of the Glass-Steagall Act.  Eventually, leverage ratios went to extremes—often 100:1—which contributed to the banking crisis and recession in 2008. More recently, relaxed lending standards in the oil shale industry led to a major boom  and now bust  with  $300 billion in projected asset write-downs in 2020, according to Deloitte. Understanding and tracking investment cycles is important to survival. We believe we are getting late in the current tech cycle given extreme valuations in many money losing enterprises. Euphoric pricing is the enemy of the compounded return. As great as Microsoft has performed recently, if you invested at the peak of excitement during the tech boom of 1999 you lost over 45% the following ten years.

Homework Needs to be Done Before the Crisis

We have found over the past forty years that a voracious daily research effort is the key to investment survival. You need to know what you own and what you want to own ahead of time to take advantage of opportunities presented by  recessions, stock market panics, wars, etc., when the headlines turn scary  and the consensus is “this is no time to be investing in stocks.” We strive to know which businesses are executing and where operating fundamentals are strong or turning up. The Carlos Slim family made their big returns buying into Mexican stocks when the country defaulted in 1982. This was after three generations of study. The top five oil families in Texas made it on the buy side as well when oil dropped to three cents a barrel in the 1930s. In both cases the families had years of diligent homework and cumulative knowledge of individual businesses and acted when the price was right.

COVID-19 Update

Even as daily new COVID-19 cases in the US continue to reach all-time highs, the average deaths per day from the virus have not increased at the same rate. This could be due to the greatly increased level of testing. As testing has increased, more mild cases of the virus have been found which has driven the death rate down. This could also indicate that the country has made positive progress on keeping the most vulnerable people isolated and that less vulnerable people have begun making up a larger portion of new cases.  While we still do not know the long-term impacts of the virus, the decline in death rate is a positive sign as the country works to contain this pandemic.

The Danger in Government-Mandated Shutdowns

Each year over 750,000 people die from the flu globally, yet there is little tracking by the media or mandated shutdowns for this deadly result.  The disruption in food chains by government-forced shutdowns could lead 265 million people worldwide into starvation by year end 2020, according to the World Health Organization. In 1932-33 the Soviet Union’s socialist leader Joseph Stalin collectivized farms and diverted key grain production from the Ukraine to Moscow, resulting in the starvation death of over three million Ukrainians in one year! This was a man-made famine which affected the major grain-producing areas of the country. This followed 1918 election propaganda of socialist “utopia”, free health care, free education, etc. Socialism sounds enticing to the masses but has a 100% failure rate with untold cases of human misery and suffering since 1918. Modern day Venezuela, once Latin America’s richest nation, now faces hyperinflation, chronic shortages, and corruption. It is estimated that one third of the population, or 9.3 million people, do not have enough food to eat. Another man-made government disaster.

Spending Stays Home

Stay-at-home orders have changed travel and entertainment habits for many people. In April, the TSA reported a 96% drop in international air travel as the pandemic forced the borders of many countries to close. The fall in global travel could bring opportunities for growth in domestic travel as people look for summer destinations in the US. In May, a survey of more than 14,000 US and Canadian travelers found that 57% of those surveyed said that if they were to travel in 2020 it would be domestically, with 43% saying they would be interested in traveling by road. Our channel checks show robust sales  in RVs, boats, bikes, camping supplies and off-road vehicles. RV sales have increased 170% compared to last year as people look for alternative ways to travel instead of flying. A “nesting” trend has stimulated sales for home offices, pools, computer games, garden supplies and pets.

Many non-essential businesses are suffering the effects of stay-at-home orders as demand fell dramatically during the second quarter. During the first half of the year Chapter 11 bankruptcy filings grew by 26% with a total of 3,604 businesses filing for the protection. Commercial Chapter 11 filings in June were up 43% over last year, bringing filings near 2008 recession levels.

Unusual times like these strengthen our focus on businesses with strong balance sheets and ample cash over pure growth stories. After the second quarter 43% of the Russell 2000 was losing money, yet largely due to the surge in government stimulus and money printing, lower quality money losers outperformed profitable companies by over 32%. Globally, over $18 trillion was pumped into the markets following the sharpest first quarter decline since the 1930s. Although the digitization of the economy has been a powerful theme, many of the stocks in the technology space are trading on euphoria and pure momentum.  The current Fed stimulus is more than three times that which preceded the internet bubble in 1999. In addition, in an unprecedented move the Fed has started buying individual companies’ bonds. This is a big factor in the rising prices.  A reversion to the mean could be painful for those speculating in exciting stories with little cash flow support. Sometimes it is easy to get swept up by these rapid growth stories, but it is always important to look past the stories and find the most financially sound businesses.

Acceleration of Digital Trends

Though COVID-19 forced many businesses to close their physical locations, the rate of digitization has dramatically accelerated. Many companies have had to quickly transition to utilizing digital collaboration tools to support most of their employees working from home. Apps from companies like Microsoft and Alphabet have seen substantial growth in users and meeting minutes because of the coronavirus. Microsoft’s Skype saw daily users increase 70% to 40 million at the start of the shutdown and their Teams app has reached over 75 million daily active users. Growth in collaboration apps like Skype and Teams could also benefit Microsoft’s other products like their Office suite. Businesses will be able to fully integrate other Microsoft apps like Word, Excel and PowerPoint into their digital meetings, creating a more seamless and effective work environment. Google Meet has been adding about three million new users each day and has seen a thirty-fold increase in usage since January. If companies can find success with a large portion of their employees working from home, then the increase in digital collaboration usage could become the norm going forward. Another area of digitization that has benefited from the current economic environment is the cloud. Cloud revenues for the major players, Amazon, Microsoft and Alphabet, have remained essentially unaffected by the pandemic. According to the Wall Street Journal, companies spent $34.6 billion on cloud services in the second quarter up 30% from the prior year. The public Infrastructure as a Service (IaaS) and Platform as a Service (PaaS) segments performed the best as businesses have moved more functions like databases and software to the cloud to better facilitate remote work. Another area where COVID-19 has made the need for digitization more apparent than ever is in physical retail, as stay-at-home orders have taken a toll on many businesses that were not prepared for disruption at this scale. Coresight Research has recorded a total of 4,005 announced closures by US retailers so far in 2020, and they estimate that retailers could announce between 20,000 and 25,000 closures this year due to the coronavirus, a record for the industry. These store closures could benefit some businesses as they will be able to reevaluate their footprint and downsize to a more sustainable level. In 2019 there were 8.5 billion square feet of retail space in the US which equates to about 24.5 square feet of space per person, over five times Europe’s average of 4.5 square feet per person. This overcapacity has crippled big retailers like Macy’s and JCPenney and a shift must take place for the industry to survive in a digital age.  By reducing their physical footprint and building out their e-commerce capabilities, physical retailers could become more resilient to future disruptions while also improving profitability. Rapid shifts in the market like what we have seen with COVID-19 emphasize the need to find companies on the right side of digital that will be able to succeed in a digitally focused economy. Things like working remotely and increased online shopping activity could become the norm once the dust settles and it is important to know which companies will be ready for that new environment.

Blockchain a Potential Disruptor

As the world becomes more reliant on the internet and digital business, the topic of data security has become more important than ever. Blockchain technology was originally created to securely manage transactions of digital currency but there are many more potential uses for the technology that could change the way people and businesses interact on the internet. One of the biggest advantages of storing data in a blockchain is that the data is secure, nearly impossible to alter and it can be verified by anyone in the world without having to rely on a third party for ensuring its authenticity. Blockchain is a public ledger of all transactions executed in a particular market that works by placing data into blocks with a unique identifying number; these blocks are then linked to the blocks before and after them, creating a chain. Thousands or millions of computers can then independently check and verify that this data is correct and then add the block to their ledger. These blocks all remain in the exact order they were placed into the network so that any data can be quickly and easily traced to its origin and verified. This creates a safe data environment that makes it effectively impossible for someone to alter or steal data in the blocks, because any change to a previous block of data will change every block that follows it. So, an attacker would have to change every block in the blockchain on more than 50% of every single computer in the network for their change to go unnoticed. Blockchains automatically update every 10 minutes, so an attacker would have to do this in that timeframe which would be nearly impossible. Because of this security, companies are looking at using the technology for many different applications that could disrupt existing online cloud solutions. The medical industry could use blockchain technology for safe recordkeeping. Patient data could be stored on the blockchain which could then only be accessed by authorized medical professionals. Ranchers in Wyoming are using blockchain with radio frequency identification (RFID) to track animals while greatly improving transparency. Other applications in the food industry include using blockchain to accurately track where products were produced and where they have traveled. Walmart and IBM have been using this technology and have been able to reduce the time for tracking certain food products from seven days down to 2.2 seconds. This can be vitally important as the World Health Organization estimates that 600 million people get sick from contaminated food every year. The future of blockchain technology is unknown but it has the potential to disrupt many industries including the massive cloud infrastructure industry. Cloud providers like Microsoft host their services on centralized servers which can face outages and outside attacks. Decentralizing the cloud could help lower the chances of these risks. One problem that blockchain technology currently faces is that its decentralized nature means that it is much slower and more expensive to operate than traditional cloud services. Even though blockchain offers increased reliability and security, consumers may choose to stay with traditional cloud providers to take advantage of lower operating costs and faster service. Blockchain technology is still in its early days and even with its current limitations it has the potential to one day disrupt many industries, so it will be important to see how the technology evolves and improves over the coming years.

Potential for Biotech and Medtech

Microsoft founder Bill Gates is predicting that more people will die from pandemics in the next thirty years than in wars. As a result, we have increased our research in biologics, specialty pharma, genomics and other areas of medical technology. We own many companies that are working on therapeutics and vaccines being developed to fight COVID-19. We see the focus on the immune system as a critical factor in not only the battle against cancer but also current and future pandemics. The exponential growth in critical data should accelerate cures for many debilitating diseases. We see this as an exciting investment opportunity for years to come.

Second Quarter 2020 Performance Update

Auxier Focus Fund’s Investor Class returned 13.59% in the second quarter vs. 20.54% for the cap-weighted S&P 500 Index and 18.51% for the DJIA. The equal-weight S&P 500 returned 21.73%. Small stocks as measured by the Russell 2000 were up 25.42%. Emerging markets as measured by the MSCI Emerging Markets Index were up 18.08%. Stocks in the Fund comprised 95.3% of the portfolio. The equity breakdown was 83.9% domestic and 11.3% foreign, with 4.8% in cash and short-term debt instruments. A hypothetical $10,000 investment in the Fund since inception in July 1999 to June 30, 2020 is now worth $39,699 vs. $33,092 for the S&P 500. The equities in the Fund (entire portfolio, not share class specific) have had a cumulative return of 564.19% since inception and the Fund as a whole has had a cumulative return of 296.98% vs. 230.92% for the S&P. This was achieved with an average exposure to the market of less than 80% over the entire period.

Contributors to the quarter:  Our outlook on a cross section of positions with a positive impact on the portfolio for the quarter ended 6/30/2020.

Microsoft (MSFT)
During the quarter, Microsoft’s cloud and digital collaboration tools helped the company grow during uncertain times. Stay-at-home orders forced many companies to rethink how they do business as they begin to look for ways to digitize their operations more rapidly. Azure cloud continued to drive growth for Microsoft and its revenue has grown over 45% in each of the last 4 quarters. The shift to working remotely has significantly boosted collaboration apps like Teams and Skype. COVID-19 has also had a positive impact on the gaming industry in which Microsoft has an interest with their Xbox brand. Play time on Xbox’s subscription service increased by 130% during the peak of the shutdown and the Xbox ecosystem now has nearly 90 million monthly active users. As a software focused company, Microsoft should be able to capitalize on the continued shift to digital following the disruption caused by COVID-19.

Mastercard (MA)
Even though stay-at-home orders have drastically reduced spending in areas such as travel and entertainment, Mastercard was still able to find success during the quarter. As more people were forced to stay home, spending in areas such as grocery, gaming and home improvement slightly offset the decrease in spending in travel and entertainment. According to JP Morgan Chase, total spending from customers fell 40% during the height of the stay-at-home orders in April compared to last year. While Mastercard could face some near-term headwinds due to a drastic drop in air travel and entertainment spending, management is confident that they will return to a position of strength once the economy begins to recover and the use of digital currency grows.

Lowe’s Companies Inc. (LOW)
Lowe’s has performed well as spending on home improvement has seen a boost during the pandemic. Home improvement spending grew 16.4% in May. E-commerce sales for the company grew by 80% as people took on more do-it-yourself (DIY) projects while staying at home. As many other companies temporarily laid off workers, Lowe’s has been able to continue hiring and recently announced another $100 million in bonuses for their hourly employees in the US. Home improvement retailers like Lowe’s can defend against the digitization of retail due to many large products being too expensive for online retailers to ship. DIY consumers also value the in-person help from the experts at Lowe’s stores that is difficult for an online home improvement retailer to replicate. Recently lumber prices are up over 40% for the year. We are hearing about extreme shortages of lumber at Home Depot (HD) due to supply disruptions. Interest rates on home mortgages are hitting record lows–near 3%–boosting housing demand.

Quest Diagnostics Inc. (DGX)
As a leading provider of diagnostic information services, Quest Diagnostics has been vital in testing for COVID-19. At the start of the crisis, testing was limited and volume for Quest fell as much as 50% due to stay-at-home orders and the overwhelmed healthcare system, but the last few months have marked an uptick in testing. At the peak of the crisis, Quest accounted for nearly 50% of all COVID-19 testing across the US, and by June Quest was processing as many as 100,000 active infection tests and 200,000 antibody tests per day. As the US continues to increase testing for the virus, Quest management is confident that their scale will offer significant cost advantages compared to hospital-based labs and smaller regional players. The company’s nationwide footprint and extensive network of patient service centers would be difficult for another company to replicate from scratch.

DuPont de Nemours Inc. (DD)
DuPont CEO Ed Breen has a very strong capital allocation track record. He achieved a 700% return over his tenure at Tyco. COVID-19 has created headwinds for segments like transportation, but the pandemic helped increase sales of the company’s Tyvek personal protective equipment (PPE) by 55%. Once shutdowns are lifted, management is expecting demand for leading products like Kevlar and Nomex will normalize as people spend less time working from home. DuPont still plans to sell off and merge their nutrition business with International Flavors & Fragrances in the first quarter of 2021, which would further tighten their focus on a smaller portfolio of products.

UnitedHealth Group Inc. (UNH)
As the largest health insurer in the US, UnitedHealth has seen positive tailwinds from deferred elective procedures due to social distancing policies. The deferring of procedures caused earnings for the June quarter to double, but management reaffirmed their guidance for 2020 indicating that they believe the benefit will be short-lived once stay-at-home orders are lifted and elective procedures normalize. The company generates healthy annual cash flow of $19 billion. It has a top three pharmacy benefit manager in OptumRx and an analytics platform in Optum Insight which means the company can interact more with their patients during the health care process. This can create a network effect as patients who utilize more of UnitedHealth’s services can take advantage of discounts that would be hard for smaller regional competitors to replicate.

Detractors to the quarter:  Our outlook on a cross section of positions with a negative impact on the portfolio for the quarter ended 6/30/2020.

Berkshire Hathaway Inc. (BRKB)
Berkshire Hathaway has suffered from major exposures to insurance, banking, energy and aerospace industries. According to the Wall Street Journal, property casualty insurance losses tied to Covid-19 are estimated to come in between $50 to $100 billion. This is the largest loss in history. Zero interest rates also diminish the value of Berkshire’s insurance float while negatively impacting bank net interest margins. Banks, as measured by the KBW Bank Index recently traded under 85% of book value—the cheapest since the early 1990s thrift crisis. Jet engine demand has crashed negatively impacting Precision Castparts. The stock is very cheap and represents good value selling close to book value with over $130 billion in cash.

Molson Coors Beverage Co. (TAP)
While many types of alcohols saw record sales during the stay-at-home orders, non-craft beer was not one of them. Major brands for Molson Coors, such as Coors Light and Miller Lite, saw their sales decline as bars, restaurants and sports venues shut down. The pandemic has also accelerated consumers’ changing alcohol preferences from beer to hard seltzers and marijuana. Still, the company has a powerful North American distribution network and is working hard to develop attractive offerings in hard seltzers, wine spritzers, CBD drinks and hard coffee.  Molson Coors has a history of survival.  Molson was founded in 1786 while Coors was founded in 1873. The stock is selling at one of the lowest valuations in a decade.

Philip Morris International Inc. (PM)
Philip Morris is making great strides with their smokeless, heated tobacco product IQOS that was recently approved by the FDA. It greatly reduces the risk for those who enjoy the taste of nicotine. This product is seeing sales growth from 15%-40% throughout the world.  The company continues to evolve as they are focusing heavily on ESG (Environmental, Social, and Governance), recently putting out a 192-page report.

Biogen Inc. (BIIB)
In June, a judge in West Virginia ruled that the patent for Biogen’s drug Tecfidera was invalid. While Biogen intends to appeal the ruling their chances for success are not high. Mylan (MYL), who brought the lawsuit, has said they will start producing biosimilars as soon as possible. In 2019, Tecfidera had sales of $4.4 billion which was around 31% of Biogen’s total revenues. Despite the setback from Tecfidera, Biogen still has a promising pipeline, headlined by their Alzheimer’s drug Aducanumab, and a fast-growing drug in Spinraza for spinal muscular atrophy (SMA). In 2019, sales of Spinraza grew 22% year-over-year to over $2 billion. Meanwhile management at Biogen is confident the FDA will approve Aducanumab, giving them another potential avenue for growth.  Biogen had over $4.8 billion in cash and equivalents and sells for less than 12 times earnings.

Medtronic plc (MDT)
Medtronic has been hit by the pandemic as elective surgeries have been postponed. It is the largest pure-play medical device maker and is utilizing advances in technology to attack a wide range of chronic conditions in diabetes, neurology, cardiac care and spinal conditions. The management is very innovative and the company has a fortress balance sheet with over $6 billion in free cash flow.

Merck & Co., Inc. (MRK)
Merck is one of the many companies currently working on producing a COVID-19 vaccine. In May they bought the company Themis, which has a COVID-19 vaccine in development based on an existing measles vaccine. Merck has also teamed up with the nonprofit group IAVI to develop a vaccine based on their already existing Ebola vaccine. With the sheer number of companies attempting to develop a COVID-19 vaccine, it remains unlikely that any one company will be the first to succeed, however Merck’s size and vast resources make them a better bet than most. Even if their vaccine efforts fail, Merck could benefit in the long run from a positive change of perception. Recently, the FDA approved animal health drug Bravecto for dogs to treat ticks and fleas. The fundamentals for the pet business are strong and we are monitoring many stocks in the space including Zoetis and IDEXX Labs. However, the biggest value driver for Merck is in battling cancer through their PD-1 drug Keytruda which has the potential to be the top selling drug globally by 2023.

In Closing

This pandemic has been horrible for many nonessential segments of the economy and has accelerated digital trends from years to months. We have never seen such a high percentage (over 90%) of the world’s economies drop into recession nor have we seen such a swift and powerful response by the US Federal Reserve. They have aggressively cut rates to zero, expanded their balance sheet by three trillion to $7.2 trillion and are buying junk bonds for the first time in history. M2 money supply has been growing at a 24% annual clip. Total government stimulus is running $5 trillion through June. This is more than double what was administered in the 2009 recession, in a fraction of the time. It has totally distorted the bond market. The ten-year treasury rate recently dropped under 0.6%.  Rampant speculation has returned following exciting stories with little cash flow.  With interest rates at 5000-year lows and the printing presses rolling we believe purchasing power risk is rising. $1 in 1940 would require $19 today. The Fund portfolio is currently far more attractive based on measures of earnings yield, return on equity and free cash flow yield than anything we are seeing in the fixed income market. We utilize years of cumulative knowledge and ownership not only to mitigate risk but to be prepared for double play opportunities by knowing intimately the fundamentals of each investment. Rather than trying to predict markets we try to research and monitor daily the operating reality of great managers and businesses that can endure the most challenging economic conditions. There are no shortcuts when protecting one’s hard earned savings.  Andy Grove, one of the greatest technology CEOs of Intel wrote about crisis investing. “Bad companies are destroyed by crisis, good companies survive them, great companies are improved by them.”

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.

Fund holdings and sector allocations are subject to change and should not be considered a recommendation to buy or sell any security.

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 market-capitalization-weighted widely held common stocks. The Dow Jones Industrial Average is a price weighted index designed to represent the stock performance of large, well-known U.S. companies within the utilities industry. The S&P 500 Equal Weight Index (EWI) is the equal-weight version of the widely used S&P 500. The index includes the same constituents as the capitalization weighted S&P 500, but each company in the S&P 500 EWI is allocated a fixed weight (0.2%) of the index total at each quarterly rebalance.  The Russell 2000 index is an index measuring the performance of approximately 2,000 smallest-cap American companies in the Russell 3000 Index, which is made up of 3,000 of the largest U.S. stocks. It is a market-cap weighted index. The MSCI Emerging Market Index captures mid and large caps across more than two dozen emerging market countries. The index is a float-adjusted market capitalization index and represents 13% of global market capitalization. The KBW Bank Index is a benchmark index for the banking sector made up of 24 banking stocks selected as indicators for large U.S. national money center banks, regional banks and thrift institutions. 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: Spring 2020

Mar 31, 2020

Download Auxier Report Spring 2020

Spring 2020 Market Commentary

 

In the first quarter we witnessed an unprecedented demand shock as many governments around the world instituted stay-at-home social distancing lockdowns to contain the exponentially spreading coronavirus pandemic. In addition to throwing millions out of work, the government mandated shutdowns have led to many supply-demand imbalances. Quality agricultural products are being wasted as demand is shut off from institutions and restaurants. The supply chains cannot adapt fast enough to get food to  homes, markets and food banks. Many industries, such as energy, are running out of storage leading to major gluts in supply and material price declines. This contributed to a forced liquidation in some highly indebted exchange traded funds (ETFs)–many utilizing over ten to one leverage. Between February 20 and March 23, the S&P 500 declined 35% and the Dow Jones Industrial Average lost 37%. Smaller stocks fared even worse, with the Russell 2000 losing over 40%. To compound the pain in the oil sector, a price war between Russia and Saudi Arabia broke out, adding millions of barrels of supply just as demand went into freefall. Before the outbreak, the travel sector was growing far faster than the general economy. Young and old cherished “experiences.” As many as 135 million Chinese tourists were visiting and spending in other countries. That stopped suddenly.

Financial innovations like exchange traded funds have grown in popularity because of the ease in trading, claims of liquidity and typically lower cost. However, during this correction the herd behavior, massive borrowing and illiquid underlying markets have accentuated the downturn. Walter Bagehot, editor of The Economist between 1860 and 1877, argued that financial panics occur when the “blind capital” of the public floods into unwise speculative investments.  Recently, the popular United States Oil Fund, LP (USO is an exchange traded fund organized as a limited partnership), was misperceived by retail investors as a lower risk play to buy oil but was actually a speculation in the futures market. The fund dropped over 70% in six weeks. Sound investing is about careful due diligence and knowing what you own. Pooled products can lack transparency and some operators have no “skin in the game.” You can’t have more liquidity than the underlying asset. Investment products can be very expensive if you don’t know what you own. There is no free lunch.

Over the last few quarters, the health insurance sector has been engulfed in pessimism due to the threat of socialized medicine. That risk has been diminished now that Bernie Sanders has dropped out of the race.  Companies like UnitedHealth Group, Cigna, CVS and Anthem were driven to bargain price levels due to the negative headlines.

In March, the Fed lowered its benchmark federal funds rate by 1% to a range of 0% to 0.25% which marked the fifth rate cut in the last 12 months. The continued rate cuts have hurt the profitability of both the banking and insurance sectors. Banks are likely to see interest revenue fall as a result. Bank of New York Mellon saw net interest revenue decline 3% during the quarter and their management does not expect the recessionary environment will fully recover until they get into 2021. The insurance sector has been similarly impacted as companies in this sector have substantial investments in interest-sensitive assets such as bonds. Another source of volatility in the market during the quarter was the ongoing global oil price war. In March, Brent Crude prices fell by nearly a third when Russia refused to cut their production. This caused the biggest drop in oil since 1991.  Challenging downturns like this emphasize the need for deep dives and daily research as we continue to look for companies with durable business models and balance sheets that may survive in both up and down markets.

Essential Businesses Provide Relief to the Job Market

COVID-19 has rocked the global economy as countries around the world enact social distancing or isolating policies to slow the spread of the virus. Many businesses have closed their doors and were forced to either lay off or furlough their workers resulting in record jobless claims of 3.28 million at the end of March. In the face of this economic shock, businesses selling necessities like CVS, Walmart, Kroger, PepsiCo and Amazon have seen a boost in traffic and are hiring thousands of new employees to meet increased demand. Kroger, for example, had hired more than 23,500 at the end of March and plans to hire an additional 20,000 for its stores, manufacturing plants and distribution centers. Walmart has hired 25,000 and plans to hire a total of 150,000 new workers by the end of May. Amazon plans to add 100,000 new full and part-time positions nationwide to support its delivery business. Companies like CVS have plans to hire workers who have been furloughed by other big companies like Hilton and Marriott.

Healthcare Companies Step Up to Fight COVID-19

With the novel coronavirus spreading all over the world, many healthcare companies have stepped in to help those who have been impacted. Companies like Johnson & Johnson and Gilead Sciences are working on treatments for the virus while Abbott Laboratories is working on a more efficient and effective method of testing. Johnson & Johnson is partnering with the US Department of Health and Human Services to fund over $1 billion in vaccine R&D. Management wants to begin human clinical trials by September with the first batches being made available for emergency use by early next year. Gilead (who introduced a cure for hepatitis C in 2014) is making great strides with antiviral drug Remdesivir. Abbott Laboratories will begin shipping a new coronavirus test kit that could make diagnosing COVID-19 as easy as diagnosing the flu. Abbott management stated that the test will be able to generate a positive result in 5 minutes and a negative result in 13 minutes. Faster and more effective testing could greatly improve efforts to slow the spread of the virus.  Johnson & Johnson, Gilead and Abbott ended the most recent fiscal year with free cash flow of $20 billion, $8.3 billion and $4.5 billion, respectively.

The Importance of Finding Enduring Businesses

Data from the US Commerce Department indicates that total retail sales from February to March were down 8.7%. This marked the biggest decline since 1992. One of the hardest hit sectors was clothing and accessories, where sales declined 50.5%. The best performing sector was food and beverage, with sales up 25.6%. Companies like PepsiCo saw increased sales as people stocked up on popular brands, especially snacks, in anticipation of stay-at-home orders.  According to our source from a large beverage distributor, for the first two weeks of the shutdown, every day was the equivalent of Thanksgiving and Christmas sales combined. Companies like Kroger and Walmart have seen robust demand in food and beverage retail. Kroger’s same-store sales grew 30% in March, up from the 2% sales growth in the fourth quarter. Walmart saw US sales grow nearly 20% in March. Since most of the population has been forced to stay at home, many people have had to learn to cook for the first time, and once these skills are learned they can last for a lifetime. We envision a newfound frugality after this crisis which could further benefit the grocery channel longer term.

Given that global debt to GDP is now in excess of 350%, we are more attracted to businesses that sell lower ticket items which are less dependent upon a strong economy for their demand.

First Quarter 2020 Performance Update

Auxier Focus Fund’s Investor Class returned -21.10% in the first quarter vs. -19.60% for the cap-weighted S&P 500 Index and -22.73% for the DJIA. The equal-weight S&P 500 lost 26.7%. Small stocks as measured by the Russell 2000 were down 30.61%. Emerging markets as measured by the MSCI Emerging Markets Index declined 23.6%. Stocks in the Fund comprised 94.1% of the portfolio. The equity breakdown was 81.9% domestic and 12.2% foreign, with 5.9% in cash and short-term debt instruments. A hypothetical $10,000 investment in the Fund since inception in July 1999 to March 31, 2020 is now worth $34,948 vs. $27,452 for the S&P 500. The equities in the Fund (entire portfolio, not share class specific) have had a cumulative return of 491.81% since inception and the Fund as a whole has had a cumulative return of 249.48%. vs. 174.52% for the S&P. This was achieved with an average exposure to the market of less than 82% over the entire period. According to Dimensional Fund Advisors in Mutual Fund Landscape 2019, only 42% of equity mutual funds launched before 1999 were still standing 20 years later, and only 23% of the surviving funds managed to beat their benchmark (as of 12/31/2018).

Contributors to the quarter:  Our outlook on a cross section of portfolio positions with a positive return for the quarter ended 3/31/2020.

Kroger (KR)
Unlike many businesses this quarter, Kroger saw increased traffic and demand amid the government lockdowns.  Due to uncertainty around the potential impact of the virus and how long the world will be affected, many people have been stocking up on the basics which has translated to strong fundamentals for Kroger. In March alone, Kroger experienced a 30% nationwide rise in sales and was one of the few stocks to gain during the first quarter, up 5.1%.

Biogen (BIIB)
Biogen continues to be one of the most focused biotech companies on diseases of the brain. They have a broad neurology pipeline. Sentiment around Biogen continues to be driven by positive results surrounding the company’s Alzheimer’s drug Aducanumab. With no current cure for Alzheimer’s, the potential that Biogen could have the only successful drug in that space helped keep the stock price up this quarter.  Biogen has worked to fortify their supply chain in order to ensure that patients will continue to receive their treatments. Along with Aducanumab, Biogen has four other treatments currently in phase three trials and twelve in phase two trials.

Microsoft Corporation (MSFT)
Microsoft’s continued shift to more digital services helped offset some of the virus-related headwinds during the quarter. Their earnings release in January showed that Azure cloud revenue grew 62%. Azure revenue has grown over 50% in each of the last four quarters. Work-from-home policies have led to increased usage of Microsoft’s online services. The company revealed that their Teams collaboration and communication service had 75 million daily active users during the shutdown, adding 31 million in just one month. Globally, usage of the company’s virtual desktop software has tripled since the crisis began.

Detractors to the quarter:  Our outlook on a cross section of portfolio positions with a negative return for the quarter ended 3/31/2020.

Mastercard Inc. (MA)
Mastercard has seen a deceleration in business from the lockdowns. Roughly 22% of their revenues are cross-border transactions which are sensitive to global travel. With the growth in online shopping, the use of digital payments has accelerated over cash. Also, cash tends to carry more germs and requires face-to-face interactions. They are likely well situated to survive any short-term negative environment with nearly $7 billion in cash and equivalents and the historical ability to generate over $8 billion in cash from operating activities annually.

Bank of America Corp. (BAC)
The projected economic slowdown and low interest rates have severely weakened banks’ outlooks. Bank of America increased loan loss reserves by $3.6 billion in the quarter. The Fed’s zero interest rate policy is terrible for the entire banking industry. A positive is BAC’s leadership in digital banking with 39.1 million digital customers. They have also kept a clean balance sheet with a common equity tier (CET1) ratio1 of 11.2%. Berkshire Hathaway owns close to a 10 % stake.

Bank of New York Mellon Corp. (BK)
Bank of New York has consistently been number one or two in the US with assets under custody over $35 trillion. Although they are not a spread lender, low interest rates have impacted cash balance returns. In the past financial crisis in 2009 the US government parked their cash with Bank of New York. They have historically earned over 15% on tangible equity while maintaining a strong balance sheet with a CET1 ratio of 11.5%. Berkshire Hathaway has been a recent purchaser of Bank of New York Mellon and now owns approximately 9% of the company.

Past Epidemic Market Returns

We have included a chart that shows past epidemics and market returns six months and 12 months later. The results are encouraging and illustrate how quickly recoveries can take place. However, this virus has the new variable of government mandated lockdowns which adds risk. If California were a country it would rank as the seventh largest on earth, with a GDP of $2.9 trillion. They are instigating one of the harshest stay-at-home orders of any state, contributing to shocking unemployment levels–over 20 million nationally.

In Closing

As we face a once in a generation pandemic, we strive to position the Fund’s portfolio to survive the most challenging markets and economic downturns. After witnessing spectacular blow-ups over the years, we have learned to verify facts and not just trust “experts” and models which are often blindly taken for truth. Our focus on enduring businesses with solid free cash flow and balance sheet strength becomes even more critical during these stressful periods. Short-term the Fed has unleashed an off-the-charts $6 trillion stimulus package that could soon reach $10-12 trillion. This is so powerful it can drive up stock prices dramatically, often at levels detached from underlying cash flows. This stimulus is monumental–three times larger than any prior action. The Fed is buying all kinds of assets, including distressed debt, for the first time. Long-term, earnings and cash flows will ultimately drive the intrinsic value of each company. Our approach to the markets has been consistent since we started the Fund in 1999. Instead of predicting markets we would rather focus on making great buys of quality business models and diligent management that have the potential to survive and thrive in any environment. During these times of heightened volatility and fear we seek wisdom from the likes of Bernard Baruch, a financier who successfully navigated during the Great Depression. He preached, “Facts are facts even in the height of emotion.” Perception of risk can often be distorted in markets when volatility is extreme.  The risk can be far lower when fear is high. Conversely, euphoria can be extremely risky with the greater chance of permanent capital loss.

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.

1CET1 ratio compares a bank’s capital against its risk-weighted assets to determine its ability to withstand financial distress. The core capital of a bank includes equity capital and disclosed reserves such as retained earnings.

The S&P 500 Index is a broad-based, unmanaged measurement of changes in stock market conditions based on 500 market-capitalization-weighted widely held common stocks. The Dow Jones Industrial Average is a price weighted index designed to represent the stock performance of large, well-known U.S. companies within the utilities industry. The S&P 500 Equal Weight Index (EWI) is the equal-weight version of the widely-used S&P 500. The index includes the same constituents as the capitalization weighted S&P 500, but each company in the S&P 500 EWI is allocated a fixed weight (0.2%) of the index total at each quarterly rebalance.  The Russell 2000 index is an index measuring the performance of approximately 2,000 smallest-cap American companies in the Russell 3000 Index, which is made up of 3,000 of the largest U.S. stocks. It is a market-cap weighted index. The MSCI Emerging Market Index captures mid and large caps across more than two dozen emerging market countries. The index is a float-adjusted market capitalization index, and represents 13% of global market capitalization. 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 2019

Dec 31, 2019

Download Auxier Report Winter 2019

Winter 2019 Market Commentary

In the fourth quarter, the combination of a US-China trade deal, a resolution of Brexit and sharp declines in interest rates provided strong tailwinds for equities both domestic and international.  A record low unemployment rate, declining energy prices and historically low borrowing costs have aided consumer spending and the service sector. Long-term interest rates, as measured by the 30-year Treasury bond, declined from 3.02% at the end of 2018 to 2.39% as of December 31, 2019. Rock bottom interest rates led to a refinancing boom which accounted for 38% of mortgage originations in 2019 (WSJ). Declining rates also helped price-earnings (P/E) multiples expand as operating earnings for the full year 2019 were lackluster. Earnings growth only contributed 8% of the market gain according to Goldman Sachs. The S&P forward P/E expanded from 14 times to 19 times and accounted for 92% of the gain. Corporate share buybacks provided more demand than any other source as individuals were generally net sellers. Some estimate corporate share purchases offset individual sales seven-fold. While increased refinancing could indicate consumers’ confidence in a strong economy, we remain focused on thorough research to be able to navigate a market that may be in a state of euphoria.

Cloud Services at the Front of Digitization

The public cloud service industry has become incredibly important in our rapidly digitizing world. The global cloud industry was estimated to be worth $227.8 billion in 2019 and is expected to reach $266.4 billion in 2020 (Gartner). The cloud market is currently made up of dozens of companies but the two leaders, Amazon and Microsoft, dominate the rest of the market. There are three main types of cloud computing services: Infrastructure as a Service (IaaS), Platform as a Service (PaaS) and Software as a Service (SaaS). IaaS is one of the most important types of cloud services because it provides users online access to servers for storage and networking. PaaS allows customers to use a provider’s servers to develop and host applications without needing to maintain and manage the backend infrastructure. Amazon is the current leader in IaaS and PaaS with a market share of nearly 40% (Synergy Research Group). SaaS is the third type of cloud service and it is how companies like Microsoft provide their users with software such as Microsoft Office. SaaS allows providers to automatically update their applications to ensure that users always have the best experience. Microsoft is the current leader in SaaS with a market share of 17% (Synergy Research Group). More companies are looking to move their data to the cloud due to the greater security and flexibility it provides which is creating healthy growth for the market. From 2019 to 2022 global public cloud service revenue is expected to grow at a compound annual growth rate (CAGR) of

15.89% (Gartner). One positive aspect of the growth in the cloud industry is just how diverse the market is. Companies specialize in different areas like Amazon with infrastructure, Microsoft with software and Oracle with data security. These specialties provide consumers with greater choice and flexibility in the type of cloud service they need. Many customers will use the cloud services from several providers to build the most efficient and effective solution for their business. Because of this, companies like Amazon and Microsoft can afford to expand and grow without necessarily taking market share from each other. We like these market dynamics as it gives us the ability to invest in different cloud companies with different strengths and priorities in the same market. Keeping an eye on developments in this space will be important as more companies shift from on-premise solutions to cloud solutions.

Technological Innovation is Key

Technological innovation continues to be an important driving force in the market as businesses look for ways to disrupt their industries and improve their operations. Data analytics, cloud computing, artificial intelligence (AI) and 5G connectivity are major disruptors. Oracle is a company that is looking to shake up the cloud market with their autonomous database. Using AI and data analytics, the database can cut down on workloads and server downtimes as it can detect and patch security flaws, as well as perform regular maintenance, autonomously. We dig deep to find new technologies like this that have the potential to change the landscape of an industry so we can be on the forefront of that disruption. Another business we like with a focus on digital innovation is Medtronic. Medtronic has created smart medical devices that can improve the lives of patients such as a closed loop insulin pump that can detect changes in blood sugar levels and automatically administer the correct amount of insulin. Watching developments in technological innovation remains vital to our work as they can have a large impact on the market. The top 5 contributors to the returns of the S&P 500 in 2019 were all technology stocks. Apple and Microsoft led the returns for the S&P 500 and together accounted for 14.8% of the total return in 2019 (CNBC). It is easy to get swept up in the exciting stories of these fast-growing tech stocks, but it is important for us to remain vigilant and prioritize enduring business models and strong fundamentals over exciting stories. 5G connectivity, which boasts incredible speeds and low latency, is another technology that is expected to be a disruptor in the market. 5G technology could have many applications such as allowing for remote surgical operations with essentially no lag time. Self-driving technology could improve by allowing cars to communicate with each other to increase safety. Though there are many potential uses for 5G technology, Cowen predicts that 5G is still in its infancy and won’t be available for mass market adoption until at least 2022. Developments with 5G will be on our radar as more companies begin to adopt the technology.

Fourth Quarter 2019 Performance Update

Auxier Focus Fund’s Investor Class returned 8.28% in the fourth quarter vs.  9.07% for the S&P 500 Index,  6.67% for the DJIA and 5.12% for the Lipper Balanced Fund Index.  Stocks in the Fund comprised 96.3% and returned 8.93%. The equity breakdown was 82.6% domestic and 13.7% foreign, with 3.7% short-term debt instruments. For the full year 2019 the Fund returned 20.20%, DJIA 25.34%, S&P 500 31.49% and the Lipper Balanced Fund Index 19.44%.  A hypothetical $10,000 investment in the Fund since inception in July 1999 to December 31, 2019 is now worth $44,294 vs. $34,144 for the S&P 500. The equities in the Fund had a cumulative return of 501.26% since inception and the Fund as a whole had a cumulative return of 342.93%. This was achieved with an average exposure to the market of less than 79% over the entire period.

Contributors to the quarter:  Our outlook on a cross section of portfolio positions with a positive return for the quarter ended 12/31/2019.

UnitedHealth Group (UNH)
During 2019 UnitedHealth stock was heavily impacted by discourse around the 2020 presidential elections. Several candidates support a single-payer healthcare system that could have a negative effect on companies like UnitedHealth. During the quarter healthcare stocks moved higher as talk of a single-payer system died down. The business side of UnitedHealth performed well during the most recent quarter as revenue and earnings per share grew 6.7% and 13.3%, respectively. Management has provided guidance for high single digit revenue growth and cash flow generation of over $19 billion in 2020. Positive cash flow generation has allowed the company to maintain a steady dividend yield even as their stock price has risen.

Bank of America Corporation (BAC)
The company has been growing their reach by adapting to the shift towards digital banking and transactions. 100% of Bank of America’s 16,626 ATMs are contactless enabled to allow customers the convenience of only needing to use their phones. The company’s digital payment partner, Zelle, continues to grow, ending the most recent quarter with 8.9 million active users and 80.8 million transactions. Management hopes that their continued investment in digital technology will appeal to a wider range of consumers, specifically the younger generation. The Fed voted in December to keep interest rates steady, which after several rate reductions, is seen as a positive development for the banking industry.

Anthem, Inc. (ANTM)
Like UnitedHealth, Anthem has been affected by the primary debates, but the recent change in expectations of a single-payer healthcare system has boosted the stock price over the last quarter. Future price movements for Anthem may continue to be impacted by ongoing election year debates. Anthem’s membership base stood at nearly 41 million members as of October 2019, an increase of 2.7% over October of last year. Both revenue and earnings increased by double digits during the quarter due to membership growth and premium rate increases. The company has been consistent with returning capital to their shareholders returning over 50% of their net income through share repurchases and dividends.

Mastercard (MA)
The strength of the U.S. economy continued to drive growth in the top and bottom lines for Mastercard. Gross dollar volume for the most recent quarter was up over 10%. Management runs an asset-light business which gives the company the flexibility to acquire new companies and technologies to grow their reach. The company recently acquired the cybersecurity firm  RiskRecon as growth in digital transactions will require more secure systems. Even as digital payments continue to grow, cash is still the most widely used form of payment in the world which signifies the massive potential for growth for Mastercard as consumers continue to move away from using cash. In the US, digital transactions have been growing at nearly twice the GDP growth rate (McKinsey & Company). Digital wallets like Apple Pay have made electronic payments more convenient and secure which could benefit companies like Mastercard if fewer consumers feel the need to carry around a physical wallet full of cash.

Microsoft Corporation (MSFT)
In the most recent quarter, Microsoft saw their revenue and earnings increase by 14% and 21% respectively. This growth was led by the strength of their Azure cloud which grew by 59%.  Management has been investing in their cloud AI platform and their investments are starting to pay off as Azure AI is used by more than 85% of the Fortune 100 companies. In October, Microsoft won the contract for the Pentagon’s Joint Enterprise Defense Infrastructure (JEDI) service. The contract is valued at $10 billion over the next 10 years. As part of the contract, Microsoft will provide cloud-based enterprise services to the Department of Defense. This contract win is another positive step in improving Microsoft’s competative edge in the cloud services industry. The company plans to continue to invest in their digital and cloud services and management still expects double digit revenue and operating income growth for the full-year 2020.

Alphabet Inc. (GOOG)
Even as one of the largest companies in the world, Alphabet has continued to innovate with new services and technologies which has led to consistent growth. Alphabet  operates with low levels of debt and positive cash flow. In November, Alphabet purchased fitness and health company Fitbit for $2.1 billion. Alphabet currently develops the software that other smartwatch makers use, but this acquisition will allow them to compete with companies like Apple on the hardware side . This purchase also gives Alphabet access to valuable user data that they will be able to use to improve their other products and services. Alphabet made advances in AI with their BERT program. This AI  can recognize more subtle patterns in language which will allow Alphabet to provide better search results. Cloud services grew 38.5% in the most recent quarter and Alphabet plans to continue to focus on the rapidly growing industry. The company announced a 10-year partnership with Mayo Clinic to provide advanced cloud computing and data analytics to help improve their healthcare outcomes. In December, the company announced that Sundar Pichai would be taking over as CEO following the decision of co-founder Larry Page to step down from the role. Pichai is focused on bringing more transparency to the company which could help ease user’s concerns over Alphabet’s use of data.

Detractors to the quarter:  Our outlook on a cross section of portfolio positions with a negative return for the quarter ended 12/31/2019.

The Travelers Companies Inc. (TRV)
The Travelers Companies took a hit in October when they released their third quarter results. Travelers has been particularly hurt by asbestos related claims as well as unfavorable general liability and commercial auto reserves. Due to these challenges we are seeing a favorable trend in pricing. Despite these headwinds, Travelers increased their net written premiums by 7% due to growth from all three of their business segments. Management is focused on cutting costs in order to return capital to their shareholders. In the first nine months of 2019, Travelers returned $1.8 billion to shareholders through dividends and share repurchases

American International Group (AIG)
Much like Travelers, AIG has had to work against a tough macro environment for insurance companies. However, they have managed to post positive results with total premiums and deposits increasing over 10%. AIG also managed to return to profitability after difficult results in 2018 due to high catastrophe losses from the 14 separate natural disasters that caused over a billion dollars in damages (NOAA). Premiums tend to rise after natural disasters and AIG is well positioned to take advantage with higher margins. In November, AIG announced that they were selling a 77% ownership stake in Fortitude Group to The Carlyle Group and T&D Holdings for approximately $1.8 billion in order to streamline their business.

Molson Coors Brewing Co. (TAP)
In 2018 alone, the volume of beer consumed in the United States declined by 1.6% with most of the decline coming in below premium brands such as Keystone Light and Coors Light (IWSR). With this trend not expected to slow anytime soon Molson Coors Brewing is working to transform into a total beverage company by diversifying into other beverages. Their two main goals in their diversification have been in growing their premium brands such as Blue Moon and Peroni and expanding into beverages beyond beer such as seltzers, wines, hard coffees, and THC and CBD non-alcoholic beverages. According to BDS Analytics and Arcview Market Research, the US CBD market is expected to grow from $1.9 billion in 2018 to over $20 billion by 2024 for a CAGR of 49%. With its size and distribution experience, Molson Coors could scale their operations faster and more efficiently than smaller businesses. Molson Coors is expecting $1.4 billion in free cash flow in 2019 as they reduce costs and work to make their company more efficient.

Oracle Corporation (ORCL)
As part of their ongoing restructuring, Oracle has continued to shift more of their business to their cloud services and license support unit which now accounts for 71% of their revenue. While they are operating on a smaller scale than market leaders Amazon and Microsoft, they recently announced an initiative to allow their software to work with Microsoft’s in order to compete better against Amazon. Oracle is leading the field in autonomous databases and that fast-growing unit could provide a revenue tailwind in the future. Management has expressed interest in small acquisitions to improve their services, however, in a high market environment they have attempted to avoid overpaying for acquisitions and have instead spent their cash on stock buybacks. In 2019 they had a buyback yield of 14.77%.

Unilever plc (UL)
As Unilever is struggling to find growth opportunities in their developed markets in Europe and North America, their focus has shifted to emerging markets in Southeast Asia and South America. While underlying sales declined slightly in their developed markets, 5.1% growth in their emerging markets helped to boost the company to 2.9% underlying sales growth overall. Unilever CEO, Alan Jope, has worked to enhance their E-commerce capabilities since taking over at the start of 2019. Jope has also encouraged their divisions to work on increasing their local footprint with the 70-20-10 strategy. This attempts to combat the erosion large-cap consumer companies have experienced from smaller, local retailers who can more easily tailor their strategy to the market they are in. Unilever had strong free cash flow generation of €6.1 billion in 2019.

Yum! Brands, Inc. (YUM)
Yum! Brands has taken a hit on tough competition for Pizza Hut. They have struggled to keep up with Dominoes’ prices and delivery speed and have been slow to adapt to new fast-casual pizza chains such as Blaze, Mod and Pieology. Their $200 million investment in Grubhub has fared poorly. However, KFC and Taco Bell both had same-store sales growth of over 3% as well as operating margin expansion. Yum! Brands’ diversity in fast food affords them a greater stability should one of their three brands falter. They had over $700 million in free cash flow in the quarter and are projecting greater than 100% free cash flow conversion in 2020.

In Closing  

We have recently traveled to eight states on research and business meetings and have seen the rapid adoption and application of technology first-hand along with the effect that market competition has on efficiency. Increased competition between Uber and Lyft is improving the service of cabs and rental cars while Airbnb is disrupting the hotel industry. A smart phone in every pocket along with low gas prices are leading to more travel as young and old seek out meaningful experiences.  Airports and restaurants are busy. The exponential doubling of knowledge is accelerating the cures for chronic diseases and advances in data analytics. We remain focused on analyzing sustainable, enduring businesses with growing sales, cash flows and earnings. We are looking for high ethics and management teams that are using technology to stay relevant in a rapidly digitizing world. Data analytics, AI, enterprise software, cloud services and mobile applications are rapidly disrupting entire industries. We want to make sure we are on the right side of the digital transition.

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.

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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 Dow Jones Industrial Average is a price weighted index designed to represent the stock performance of large, well-known U.S. companies within the utilities industry. The Lipper Balanced Fund Index is an equally weighted index of the 30 largest US Balanced Funds. 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 Computer Link Northwest, LLC.