Global equity market returns for the quarter was a tale of two halves. By mid- February - halfway through the period - the MSCI World Index was down 11%. This halfway mark also signalled the turn, with the Index clawing back almost all of the negative returns in the remaining half of the quarter. The index was thus left at a flattish -0.4% year to date. The short-term vagaries of the market are not always open to easy interpretation (despite what the daily and weekly commentators would have us believe), but these two halves of the quarter can nevertheless be said to have roughly corresponded with a relatively hawkish Fed, followed by expectations of a more dovish Fed after mid-February.

Even though the fund's cheap and battered financial businesses rallied harder than the rest of the market from the 11 February market bottom, climbing 11.0%, it was not enough to erase the torrid January the sector had experienced. Rather, the rally was led by the equally battered Energy and Materials sectors, where the fund is underweight.

Financials thus remained the main culprit of the fund's underperforming -3.1% return for the quarter. For the record, Financials are now trading at close to a 60% price-tobook discount to the market (as measured by the MSCI World Index). This is more than two standard deviations below the 15-year average value. It is also below the 50% prevailing discount at the height of the Global Financial Crisis, in early 2009.

Specifically, the largest detractors from performance were Citigroup (-19.3%), AIG (- 12.4%), Legal & General (-14.4%) and Bank of America (-19.5%). Outside of financial businesses, the homebuilders CalAtlantic Group (-11.4%) and M/I Homes (-10.2%) were poor performers, while Esprit fell 15.4% in the quarter after spooking the market somewhat with worse than expected fiscal second quarter results.

The fund's overweight IT exposure proved to be the best-performing sector, with Oracle rising 12.3%, HP Inc. up 4.9% and Cisco gaining 5.4%. The fund's some 3% weighting in Imperial Brands (+6.5%) contributed most to performance for a single holding, followed by Wal-Mart Stores, which was sold during the quarter after a 7.5% rally. We are wary of the myriad challenges faced by traditional food retailers globally and no longer feel comfortable with Wal-Mart's elevated rating in the face of these. Berkshire Hathaway was the third best contributor to performance (+7.5%) from previously oversold levels. Other gratifying contributors this quarter were Wesco Aircraft Holdings (+20.0%), Illinois Tool Works (+11.0%) and Nielsen Holdings plc (+13.6%).

Based on current consensus expectations the fund offers a significantly more attractive valuation (fwd P/E: 15.6x vs. 17.7x and P/NAV: 1.9x vs. 2.1x) than the overall market, while producing a similar return (ROE: 16.1% vs. 16.5%). Among other currently underappreciated attributes, we believe that this positions the fund well for the future.

Global equity markets recovered some of their earlier losses during the last quarter of the year, despite the fact that many of the issues that are routinely trotted out as reasons for periodic bouts of poor performance remain unresolved. The US Federal Reserve finally put paid to the "will they or won't they" (raise interest rates) speculation by raising their benchmark rate by 25bp in December. This was the first interest rate rise in the USA since mid-2006 and comes after almost seven years of a close to zero percent interest rate. Markets initially appeared to be quite sanguine about this development, but more recently appear progressively more uncertain about the consequences. The Fed's action was taken in response to data that confirmed that a sustainable economic recovery has taken root in the USA and is appropriate to their domestic situation, but from the perspective of most of the rest of the world it is ill-timed and is expected to exacerbate the pressure already being exerted on developing economies. The focus of speculation is now expected to move to prognostications about the incidence and pace of future increases.

The fund returned 3.82% during the quarter, while the benchmark MSCI World Index rose by 5.50%. Notable contributors to the fund's performance were its holdings in Esprit Holdings, Microsoft, Samsung Electronics, Medtronic and American International Group, while its holdings in CalAtlantic Group, Magnit, Countrywide and Wal-Mart Stores detracted.

The trading statement released by Esprit Holdings in October provided some reassurance that our patience with this investment will eventually be rewarded. The Hong Kong listed (but mostly Germany exposed) clothing retailer rallied very strongly after a first quarter update that ascribed much improved trading densities and strong retail turnover growth to their recently implemented "vertical products" manufacturing and merchandising model. This model is founded on the highly effective system pioneered by Inditex, the holding company of the very successful Zara, Pull and Bear and Massimo Dutti retail chains. The current Esprit CEO directed this system for more than a decade during his long career at Inditex.
Patience is similarly proving to be a virtue for the fund's holding in Samsung Electronics, which rallied by more than 20% during the quarter after this undervalued titan announced a KRW11.3trn special share buyback and pledged the return of between 30% and 50% of annual free cash flow to shareholders over the next three years. In combination, about 14% of the current market capitalisation of the company will be returned to shareholders in this way, in a move that was not widely anticipated from a notoriously reluctant dividend payer.
The price of CalAtlantic Group, a US homebuilding company, fell 14% during the quarter in response to weaker than anticipated new home sales data. Recent completed sales numbers have been negatively affected by the implementation of the new "Know Before You Owe" mortgage disclosure rules, which has noticeably slowed down the home purchasing process. In contrast, applications for new mortgages recorded a two-year high during November (the most recent available data), which bodes well for a resumption in the upward trend in new home sales.

Based on current consensus expectations the fund offers a significantly more attractive valuation (fwd P/E: 16.1x vs. 18.1x and P/NAV: 1.6x vs. 2.1x) than the overall market, while producing a similar return (ROE: 17.3% vs. 17.4%). Among other currently underappreciated attributes, we believe that this positions the fund well for the future.