The MSCI ACWI returned 8.20% in the first three months of 2024, building further on its 22.20% advance in 2023.

The global economy and markets are moving in very distinct and somewhat disparate ways this year. In the U.S., the economic backdrop remains fairly strong with the economy still expanding. Unemployment remains below 4% and inflation, while still evident, appears to be attenuating versus its level two years ago. The Federal Reserve has indicated a willingness to lower interest rates when it has greater conviction that inflation has definitively cooled. A relatively benign economic picture can no doubt be favorable for businesses.

The current positioning of the U.S. stock market presents some concentration and valuation risks that can be mitigated in our view with active management. Specifically, we note concentration around the top 10 largest stocks in the U.S. portion of the MSCI ACWI. These are primarily technology and communications companies whose average valuation is high relative to historical experience.

The way to navigate such markets in our experience is to look far beyond the top holdings of the index. We believe it is possible to buy businesses today that are capable of achieving very attractive economics yet trade at decent valuations. Our portfolio is focused on opportunities that stand out in their individual quantitative and qualitative strengths yet are in many cases hardly represented in the index at all.

In Europe, conditions vary by country and by sector, and thus call for selectivity, in our view. We hold primarily a select list of continental European banks as well as multinationals that are headquartered in Europe but truly multi-regional in business scope. We also own positions in companies that are more online-focused, including tech-enabled food delivery services.

Asia-Pacific is a super region of great long-term interest for us, but it has been a detractor from a relative performance standpoint against the MSCI ACWI, which is weighted towards developed markets. South Korea has been a contributor to results.

However, companies tied more closely to China based in Hong Kong and neighboring Singapore have lagged the rest of the portfolio due to China’s slow and uneven recovery after the COVID lockdowns. Our expectation is that the Chinese government will find ways to continue lending support to the economy and that over time the country will stage a recovery, however slow the progress has been. Our investments within China center on the consumer, specifically in the e-commerce and food delivery sectors.

In Asia more broadly, our investments in the region also include major multi-line insurance companies, select banks, and semiconductor-related businesses.

In contrast to passive index construction, which is driven by market capitalization, we are invested in a range of businesses that we select one at a time and which we manage in an active, judgment-supported way. We assign weightings and ranges for each of our positions based on business qualities and valuation parameters that we feel are appropriate and backed up by deliberate thought. We believe this combination of conscious selectivity and valuation discipline will be key to building value for shareholders over the long term, starting from today’s levels.

Davis Global ADR SMA portfolio is one way investors can access premier, durable businesses that are still at value prices, in our opinion, with the intention of holding them for the long term, across various geographies of the world.

In the first quarter of 2024 the portfolio’s performance exceeded the MSCI ACWI benchmark after trailing it in 2023. Given the disparate trends among sectors and geographies, we believe the environment today favors active management over passive. Effective stock selection and a strict valuation discipline are keys to our long-range success, in our view, and our current positioning reflects these priorities.

Below we provide the number of holdings in the portfolio along with its average five-year earnings per share (EPS) growth rate and forward price-to-earnings (P/E) multiple, as compared with the MSCI ACWI:

What the above figures show among other things is that we are highly selective. Our portfolio is focused on only 33 companies presently, all of which we have chosen on an individual, case-by-case basis. In our opinion, each of these businesses possesses attractive characteristics. As a rule, our businesses generate free cash flow, have opportunities to reinvest earnings and capital at relatively high rates, and have wide competitive moats, according to our analysis.

The trailing five-year earnings per share growth rate of 18% for the portfolio exceeds the MSCWI ACWI’s impressive mid-teens growth rate. However, our portfolio trades at almost 50% discount to the index portfolio on a forward P/E basis. Favoring premier, well-researched businesses at undervalued prices is at the heart of our investment discipline. It is how we construct portfolios that are differentiated from the market and from peers, and we believe it is a sensible and perennial way to invest in equities over the long term.

Presently, the major themes at work in our portfolio selections include:

U.S. Healthcare: A Rich Ecosystem

Our healthcare positions include two of the largest managed care health insurers in the U.S., including Humana, a recent add to the portfolio, as well as an independent labs and diagnostics service provider, and a large manufacturer of generic pharmaceuticals.

The demographics case for healthcare suggests a future where demand and spend for healthcare products and services are likely to rise. The national need for health insurance as well as for tests and generics presents a rich ecosystem that attracts us. That said, we are proceeding with caution on price because much of the for-profit healthcare industry relies on government reimbursement rates set through Medicare and Medicaid, which can be capricious, especially when the country is faced with budgetary constraints. Therefore, we have been thoughtful about which healthcare stocks to own based on our view of longevity and durability, as well as the multiples we are willing to pay. We believe our healthcare companies are generally vulnerable to good news based on their current valuations, but note that the opposite may apply in the case of some of today’s high flyers that we do not own.

Financial Services: Micro-Level Nuances

Our financials weighting consists of banks and insurers in various parts of the world.

Danske Bank is one of our largest positions in continental Europe. The company has been resuming growth after a several-year pause owing to past antimoney laundering weaknesses identified by regulators. Now, under new management and regulatory reprieve, it has become more of our most successful investments in European financials in some time. Danske Bank has very high capital ratios, operates in markets where deposit flight is less of a risk than in the U.S., with a strong brand, and has the capacity to distribute a large share of its earnings and excess capital through dividends going forward.

In addition, our portfolio holds certain “non-financial financial” businesses that are multi-industry conglomerates classified as financial businesses but having operations and earnings sources that run the gamut in terms of non-financial industries.

Finally, we have a relatively new position in KE Holdings, which is effectively an online real estate listings company in China, a country that otherwise has no equivalent to the U.S. Multiple Listing Service (MLS) database.

Technology: Following the Profit Pools

In the broad technology sector, we currently favor companies that are market leaders in e-commerce, cloud computing, social media and advertising, and online search spanning the U.S., Europe and Asia- Pacific. These sub-areas of technology are all quite mature, but we believe they are poised to generate much larger revenues and profits over time, however uneven their results could be in shorter time periods.

We have always had a prominent technology exposure in Davis Global ADR SMA portfolio, and the portfolio is evidence that it is possible to own growth at value prices. Since its inception in 1969, Davis Advisors has held some portion of our portfolios in technology companies, making this a core competency for our research team. In addition to having a finger on the pulse of one of the most dynamic sectors of the market, we also benefit from the insights that technology companies give as to how certain business models or even whole industries are being reimagined.

Having that early line of sight to a future where business models could be disrupted is especially important in today’s fast-changing world. As investors, we need to be perceptive of change, especially tidal sea changes that become new paradigms. The phenomenon of the internet presaged the days when retail would be conducted increasingly online. As such, we began taking today’s e-commerce giants very seriously at an early stage after their IPOs.

“We like companies with a dominant or rising share of growing markets, and we believe that global retail volume, while in the tens of trillions of dollars worldwide each year, still offers a long runway to cutting edge e-commerce leaders.”

E-commerce, while already producing stunningly large, advanced and successful companies, is still at the very early stages of its long-term story, in our opinion. We own leading e-commerce players in the U.S. and China, most notably.

Social media and online search, other parts of the technology and communications sectors represented in the portfolio, are fundamentally advertising businesses at their core. The largest players in the space leverage their vast data pools derived from user bases that count billions of people worldwide. In the case of social media, the value delivered to advertisers may not be apparent to a typical user, but the ability to mine such vast troves of information and dynamically manage campaigns for awareness, engagement and sales (in that order) is a nontrivial value proposition. The analytics attached to social media ad campaigns also deliver enormous value in the sense that such metrics can help advertisers make budgeting decisions, direct their efforts towards finely defined, targetrich demographics, and empirically measure impact, effectiveness and cost per user.

These techniques have existed for a long time, but today’s technology tools (including artificial intelligence) have largely replaced slow, expensive focus groups, telephone surveys, and so forth. As e-commerce has disrupted the offline retail world, so too have the major social media companies caused structural change to the traditional advertising and market research firms of times past.

Online search has similar features to social media with respect to advertising insofar as user bases of billions of people allow businesses to “advertise” based on search engine optimization and effectively pay to appear in rankings among search results. This is akin to the ways that the Yellow Pages once gave prominence visually to larger advertisers, but is far, far more scalable and intelligent. Once more, what used to be offline has gone effectively 100% online today.

“We were relatively early to acknowledge the new realities, still interested in accessing the same historical profit pools as before, just through those next-generation business models that would take share from the old guard.”

History forces investors at times to think critically about how they wish to access a large profit pool if it moves online. In the case of retailing and advertising, we have not held direct storefront retailers for some time, and we exited newspapers decades ago, in both cases in favor of online new entrants that have become behemoths today. This may have caused some to ask if we were trying something new by investing in online companies. Our position was that we were just relatively early to acknowledge the new realities. We were still interested in accessing the same historical profit pools as before, just through those next-generation business models that would take share from the old guard.

In the more traditional technology areas, we also hold a number of semiconductor-related companies in the U.S., South Korea and Japan. Electronic content has been expanding and evolving at a fast pace for decades, well before and beyond anything AI-related. But the trend is accelerating, hence the strong demand for chips in computers, communication devices, sensors, automobiles, airplanes, consumer electronics, appliances, and so forth. We want to own companies that participate in long-tailed growth but have selected our semiconductor names at valuations we feel allow us some margin of safety versus some of the most popular stocks today, which are trading at multiples outside of our range. Nothing in the market grows in a straight line and semiconductor technologies are no different. There are cyclical dynamics in the industry that may or may not be appropriately reflected in the stock prices of some of the market’s current darlings. We are happy to own part of the group but pay more reasonable prices for the opportunity.

Industrials and Materials: Boring but Beautiful

Another theme in the portfolio is industrial and materials companies which we consider “boring but beautiful” business models. We own shares of Teck Resources, a major copper producer headquartered in Canada, whose fortunes will be tied increasingly to electrification of vehicles as well as renewables such as wind and solar, all of which consume much more copper than previous technologies.

We also hold positions specialized in gaming (offline and online), such as MGM Resorts, as well as biofuel, and agriculture equipment and processes, among others.

Meanwhile, we sold our position in Hollysys, a Chinese IT and automation company, which is being acquired by a private buyer, and which has been a contributor to our long-term results.

The common thread running through the portfolio is that we selected each holding individually based on deep independent research for reasons having to do with business strength and valuation.

With just 33 holdings, Davis Global ADR SMA portfolio is constructed such that each position has the potential to contribute to our long-term results. Meanwhile, in a market where common indexes are heavily concentrated in high-multiple stocks (with the MSCI ACWI P/E ratio surpassing 18 times), it is noteworthy that our portfolio has a forward P/E multiple of only 9.7 times. We regard this as an attractive starting point for the future and for a portfolio that was capable of generating an average 18% earnings per share growth annually over the last five years.

The stock market is really a market of individual stocks. Given major changes afoot in the multi-speed global economy, some of which are temporary and others of which are secular and likely permanent, we believe our approach of researching companies thoroughly and then allocating capital in conscious, thoughtful ways has advantages relative to investing in high-multiple benchmark indexes at current levels.

In conclusion, as stewards of our clients’ savings our most important job is growing the value of the funds entrusted to us. With more than $2 billion of our own money invested alongside that of our clients, we are on this journey together.² This alignment with our clients is uncommon in our industry; our conviction in our portfolio of carefully selected companies is more than just words.