Value Added


A Fund That Buys Foreign Stocks That Everyone Hates

Steven Goldberg

Oakmark International has been practicing its contrarian strategy with great success for more than 20 years.



It takes more than brains, in my view, to be a good investor. It takes guts, too. Call it discipline if you want to be less dramatic, but to beat the market you have to be willing to buy stocks that the crowd thinks are real stinkers and sell stocks that everyone loves.

See Also: Signs of Strength in Japanese Stocks

Enter David Herro, the co-manager of Oakmark International (symbol OAKIX). His record speaks for itself. Since the fund's inception in 1992 through April 8, it returned an annualized 10.5% — an average of about 4.1 percentage points per year better than the MSCI EAFE index, a measure of developed-markets stocks outside the U.S. Oakmark ranks in the top 1% among foreign funds that invest in large companies. (All returns are through April 8.)

Herro's record is one of the very best in the mutual fund world. And he hasn't lost a step in recent years. Over the past three years, for instance, the fund returned an annualized 8.5% — an average of four percentage points better than the MSCI index. Herro is the real deal.

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Oakmark International isn't a low-risk fund. It has been slightly more volatile than the MSCI index. In the 2007–09 bear market, it plunged 58.9% — a half of a percentage point less than the index fell. In short, to profit from Herro's picks, you have to be patient.

Now take a look at few of the 56 stocks that Herro and Robert Taylor, who became co-manager at the end of 2008, currently own. They look nuts. Take Daiwa Securities, the big Japanese brokerage house, in a country where the main stock index is trading at less than one-third of where it stood at its peak in 1989. It's one of the fund's largest holding, at 2.9% of assets. How about Italy's second-largest bank, Intesa Sanpaolo (3.6% of assets)? Italy, of course, looks as if it could follow Cyprus down the road to financial disaster. Or, Banco Santander (SAN), the sprawling Spanish bank (2.3% of assets)? Spain's unemployment rate is over 25%.

Herro is happy — at least from an investment point of view — to see the fear over the future of the euro zone. "If there's no fear, you're not going to get a bargain, because then the company's good news is in the price," he says. "We're able to take advantage of macroeconomic fears to buy stocks at good prices."

Not that Herro's a Pollyanna about Europe. Although he thinks the euro zone is moving, albeit glacially, toward resolving its woes, he finds Western Europe's labor laws badly in need of reform. Either Europe will undertake "extreme structural reform," by which he means the continent will have to change labor practices and laws, as well as boost productivity, or the euro will weaken markedly over the long term.

What's wrong with European labor practices? "It takes two years to fire someone," Herro says. He points to a Ford plant in Belgium that's closing. The 300 salaried workers being laid off negotiated a $750 million severance package with Ford, or an average of $187,500 per worker. Those kinds of practices badly damage Europe's competiveness and just won't do in a global economy.

As for Japan, Herro thinks the economy really is recovering after 20 years of deflation. That's because of massive monetary stimulus and fiscal stimulus from the newly elected government. "I think we're in the third or fourth inning of a Japanese recovery," he says. "There's a lot more room to go."

Japanese stocks are at a five-year high after a 50% rise since November. Yet Herro says the majority of Japanese companies are still trading below book value (assets minus liabilities). "You just have to look for the good companies," he says. Favorites include Toyota Motor (TM), at 2.7% of assets; Honda Motor ADR (HMC), 2.6% of assets; and Canon (CAJ), 2.7%.

Emerging markets? Herro isn't interested and hasn't been for quite a while. The problem, he says, is that the quality companies are all too expensive..

Take Coca-Cola Femsa (KOF), the Coke bottler in Mexico. Says Herro: "Great, great business. The stock is up fourfold in five years, and it trades at 28 times what analysts estimate it will earn in the coming 12 months." That's too rich for Herro's blood. The alternative, he says, is to buy "junky" emerging-markets commodity companies. Their stocks are cheap, Herro says, "but they're plagued with problems."

But wait. When emerging markets are flat on their back and no one wants to buy them, Herro will be poking among the wreckage for quality companies at bargain-basement prices. That's the way he's always done it. It has worked out pretty well for Oakmark shareholders.

Steven T. Goldberg is an investment adviser in the Washington, D.C. area.


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