WASIX Commentary (Q3 2022)
October 2022
OVERVIEW
Stocks continued their downward trajectory through the third quarter. Our benchmark dropped 5.25% versus an 8.2% decline in the fund over the same period. The market drumbeat remained decidedly sour in nearly all developed markets with 80% of the benchmark geographies posting negative returns through the third quarter.
The chart below displays our track record over short- and long-term periods
| Periods ended 9/30/22 | WASIX | MSCI ACWI Index | Bloomberg Barclays US Aggregate Bond Index | MSCI World Small Cap Index |
|---|---|---|---|---|
| Quarter | -8.20% | -6.82% | -4.75% | -5.27% | Year | -34.67% | -20.66% | -14.60% | -24.80% | 3 Years | -0.84% | 3.75% | -3.26% | 2.96% | 5 Years | 1.11% | 4.44% | -0.27% | 2.32% | 10 Years | 5.35% | 7.28% | 0.89% | 7.02% |
Data shows past performance. Past performance is not indicative of future performance and current performance may be lower or higher than the data quoted. For the most recent month-end performance data, visit www.sevencanyonsadvisors.com. Investment returns and principal value will fluctuate, and shares, when redeemed, may be worth more or less than their original cost. The Advisor may absorb certain fund expenses, leading to higher total shareholder returns. The Advisor has contractually agreed to reimburse total annual fund operating expenses in excess of 0.95%. This agreement is in effect through January 31, 2023, may only be terminated before then by the Board of Trustees, and is reevaluated on an annual basis.
Yet, while we are confident in the long-term prospects of our positions, we are not immune from the current bear market doldrums created by significant unknowns. As we see it, developed markets have been digesting not only the unfamiliar lack of central bank lifelines, but also the fact that the central banks have seemingly morphed into foes. With inflation still running hot, the Fed has not budged from their price stability focus, and until that mandate is met demand destruction is the name of the game. Markets remain victim to a tone that will not change until our economic stresses appear obvious enough for a change of course.
Mismatched pricing is an apt description for the past few months. This mismatch has been as apparent in the stock market, with extremely low trading volumes over the summer, as it has been at the supermarket, used-car market, housing market, crypto market, et al. There is a gap between sellers and buyers that is slowing things down and, we believe, ultimately leading to a more rational economy. As painful as this period has been, we view the stall as encouraging. To us, it shows that the deflationary agenda is taking hold around the world, and the Fed’s medicine is having an effect. Without getting too far ahead of ourselves, we are beginning to see the silver-linings that large economic shifts create. As irrationality and fear take hold of market sentiment, panic-driven trading can expose unique opportunities. While the waters are still murky, risk, growth, and innovation continue to be overly punished. At the street level, we see the medicine now taking effect, and as it does the unknowns will start to fade. The coming clarity, no matter how good or bad it is, will provide a base where fundamentals will again be acknowledged and superior growth businesses will again find solid footing.
DETAILS FROM THE QUARTER
With investor focus turning exclusively towards macroeconomics and geopolitics, most of the dynamism evaporated from the small-cap space through the summer. Lack of focus on the fundamentals was apparent when we look at geographic performance. Our exposures helped us through the third quarter with ~50% of our investments in geographies that outperformed the overall benchmark. India was +11.5%, Japan -4.6%, and the USA -2.25%. India remains our largest exposure at 32% of the portfolio, and our positions returned +7.5%. Japan, our second largest exposure at 9.5%, returned +1.85%. USA, our third largest exposure at 8.5% of the portfolio, returned +1.9%. In these three top-performing markets the portfolio sales growth was 23% and EPS growth was 25%.
The performance of the other half of our geographic exposure looked very different. The average return for the bench in the other 19 geographies we have exposure to was -11.5% vs -16.5% for the fund. Fundamentals for the businesses we own in these remaining markets were also strong: revenues grew 19% and earnings per share (EPS) 18% in the most recently reported quarter. Solid results leading to double-digit stock declines is not the rational response. We remind investors that macro-driven markets ignore fundamentals. Macro-driven markets move en masse. And as we look at our geographic exposures, the markets seem to be reacting more to geopolitics than the potential of a recession.
While we are not macro allocators, we’d expect an exposure shift over the coming year. The selling in markets that are out of favor has been indiscriminate, and as a result we are seeing significant opportunities.
Looking at sector performance for the period, we saw every sector decline except Energy. We outperformed in Consumer Discretionary and Financials, but that was somewhat meaningless given that the outperformance was driven by the percentage of weight held in the strong geographies. This is highlighted in our top contributors and total returning companies. Seven of our top ten contributors were Indian companies, and six of our top ten performers were based in India. Sirca Paints (SIRCA IN) was our top contributor, adding +1.22 to performance and returning 35%. Appier (4180 JP) was our number two contributor, with the stock returning 34% in the quarter. On the detractor side, Intercars pulled 1% from performance with a stock return of -20%, and Future PLC (FUTR LN) lost us 98 basis points, with a total return of -29%.
OUTLOOK
The market's response to uncertainty is unsurprising, and on all accounts, this bear market doesn’t feel exceptional thus far. The drawdowns are painful and frustrating, the headlines menacing, and the negative sentiment only seems to grow. But, these are standard bear market attributes which historically have arisen every few years as the cycles ebbed and flowed. There is no doubt that this bear carries unique traits new to our generation. But regardless of the details, the experience will likely be similar to those from our past. With some hesitation, we submit that market corrections are healthy adjustments that shrewdly weed out excess and irrelevance. This characteristic gives us confidence in our unchanging style of investing. We own high-quality businesses with strong growth prospects that we believe were already inefficiently priced. As the market pulls back, we believe that the mispricing of our portfolio will increase as we anticipate earnings growth to continue.
Sincerely,
The WASIX Fund Management Team
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