30-01-2025
Steven Romick's FPA Crescent Fund 4th Quarter Letter: A Review
Dear Shareholder:
Performance Overview
The FPA Crescent Fund Institutional Class (Fund or Crescent) gained 1.05% in Q4 2024 and 13.96% in the trailing twelve months. Its twelve-month return was 79.8% of the global market (i.e., MSCI AWCI, the ACWI), outperforming its 69.2% average net risk exposure.
Performance versus Illustrative Indices (%) (1)
Fund
Q4 2024
TTM
FPA Crescent - FPACX
1.05
13.96
FPA Crescent - Long Equity
1.15
19.85
MSCI ACWI
-0.99
17.49
S&P 500
2.41
25.02
60% MSCI ACWI / 40% Bloomberg US Agg
-1.81
10.77
60% S&P 500 / 40% Bloomberg US Agg
0.21
15.04
Warning! GuruFocus has detected 2 Warning Sign with XAMS:HEIA.
Portfolio & Market Discussion
The ACWI increased 38.98% in the two years ending 2024, five times its 7.7% cumulative earnings growth. The global market is more richly valued than the target-rich environment at the end of 2022, with a price-to-earnings (P/E) ratio that is approximately 29% higher. Crescent's net risk exposure has migrated lower as valuations increased. As expected, and is typical, the Fund's exposure to the equity market declined 8.5 percentage points from year-end 2022 to 2024 as stock prices increased.
When exposure was higher at year-end 2022, we wrote, We think lower valuations and higher bond yields help position us to take advantage of any continued market weakness. We further explained at year-end 2023 that Today's less attractive valuations (relative to last year), particularly in the U.S., help explain the Fund's slightly lower risk exposure. (3) Therefore, it should be no great surprise that 2024's exposure is still lower. Over nearly three decades, we have leaned into market weakness and backed away from strength. We pursue an equity-like return when purchasing high-yield bonds. We prefer to assume credit risk, where we offer some analytical value, rather than interest rate risk, where direction or magnitude are less predictable. The Fund's credit exposure remains at 2.4% due to mediocre yields and low spreads.
Good stock market performance tends to breed investor complacency. Today, the largest proportion of investors since the Great Financial Crisis believe that there is less than a 10% probability of a stock market crash.
Believing that little can go wrong creates the danger that one can lose more than they believe possible. Greater exposure at higher valuations is rationalized. Three occasions occurred in the last thirty years when enterprise value-to-sales (EV/Sales) reached such a distended level. When complacency takes center stage, caution often finds itself relegated to the wings, allowing valuations to reach inappropriate levels.
Only a small percentage of stocks (~30%) in the S&P 500 outperformed the index in 2023 and 2024. The last time we witnessed such concentration was in the internet bubble at the turn of the century.
Momentum stocks have led the market, particularly in 2024. According to Morgan Stanley, momentum ruled more than any other factor. Sure, high growth and high-quality stocks have outperformed low growth and junkier stocks, but high momentum stocks have exploded higher (relative to low momentum stocks). The current momentum run is one of the top momentum runs since 1995, with high momentum stocks outperforming low momentum by +28% year-on-year as of Dec 11th, a two standard-deviation event. (8)
Momentum's gravitational pull can bring lesser planets into its orbit, as is the case with cryptocurrency which had a big year. We find it hard to believe that you can earn money by telling fart jokes, yet there's a billion-dollar market for the crypto FART COIN. This likely suggests that caution is warranted, though we don't know what or when things might implode. Many less flatulent companies trade at indefensible prices. Beyond the Magnificent Seven stocks (Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia, and Tesla), numerous other more mundane but good businesses have tapped into investor zeitgeist and in our opinion have achieved cult-like status. The admittedly curated list of companies below that, among other things, sell paint, uniforms, mops, air conditioning and heating equipment, and store old paper documents have seen their stocks soar and now trade at approximately 40x 1-year forward earnings. Their average P/E is nearly 3x the estimate of their next 3-year projected earnings growth. We find it difficult to accept that they trade at such high multiples, especially when we believe Crescent's equity positions offer better value, trading at a lower P/E with higher projected earnings growth.
A more expensive US market does not mean all stocks are expensive. We continue to find potentially better value overseas and in small and medium-sized US companies. Using third party consensus estimates, Crescent's diversified equity portfolio, of what we believe to be market-leading businesses, trades at 15.8x projected earnings and 2.1x book value, with 22% expected earnings growth over the next three years. We hold many stocks in the portfolio that the world has not fallen in love with, allowing for a portfolio that trades at a lower valuation and with projected above-market growth, which should serve our investors well.
We occasionally show global valuations to help explain changes in regional portfolio weightings. However, that does not take into account the quality of business or industry sector, and the US market ranks higher on both counts. Nevertheless, you can see the valuation gap is about as wide as it has been since 2000
Crescent's top five performers contributed 6.88% to its trailing twelve-month return while its bottom five detracted 2.00%.
We will review four companies that have impacted portfolio performance but that we have not recently discussed. (15)
Heineken (XAMS:HEIA) is a global beer business with 150 years of heritage and has market-leading positions in its various markets. Over the past year, the company's shares have derated and now trade at 11x earnings. With 55% of revenue coming from faster-growing developing countries, we think Heineken has a good chance to maintain the mid-single-digit growth (revenue and EBITDA) that the company produced in the last decade. We like that that company has a strong balance sheet, meaningful dividend and opportunity to begin share buybacks.
Glencore (LSE:GLEN) is a global mining and marketing company with essential positions in commodities of the past (thermal coal) and future (copper, cobalt, nickel, and met coal). Shares have derated on the back of Chinese economic weakness and softer commodity prices. We think that Glencore's management is the best in the business. The company operates with a strong balance sheet and returns excess capital to shareholders through a variable dividend and share repurchases. The shares currently trade at 9x FCF (average of the past 5 years and estimate for 2025).
Comcast (NASDAQ:CMCSA) is a leading broadband and media business. Competition in the broadband business and the media industry's evolution has pressured the company. The media side of the company tends to make headlines, but the broadband business is responsible for most of the economics. Competition from fixed wireless and overbuilders has resulted in shrinking subscribers. We think the business will emerge no worse than an average telecommunications company, which currently trades as such - our downside case. Pricing and the company's growing wireless offering, however, have allowed the company to continue to grow, which we believe leaves attractive upside for the stock.
LG Corp (XKRX:003550) is a Korean conglomerate with exposure to various businesses, ranging from chemicals and cosmetics to the local Coca-Cola bottler, to name those that start with C. Despite the multiple operating businesses that introduce some complexity to the investment thesis, the actual structure of the holding company is relatively clean, and the parent company's balance sheet is robust. We continue to find the valuation to be highly asymmetric, with a look through earnings multiple on after-tax earnings that we calculate to be in the single digits on a look-forward basis, complemented by recent share repurchases and a trailing dividend yield of more than 4%.
Closing
Rudyard Kipling's poem Brother Square Toes encourages the reader to maintain their values despite adversity. Looking past its antiquated male-centric view, its message emphasizes the virtues of humility, integrity, and self-belief that embody a good leader (and hopefully portfolio manager). It begins, If you can keep your head when all about you are losing theirs which is what we have done in the past and hope to continue to do with the expectation that it should help your portfolio's performance. Thoughtful stock selection by your portfolio managers, ever mindful of what can go wrong, will hopefully translate into a better and smoother journey than holding the cult stocks that seem to worry very few.
Writing this shareholder letter seems frivolous in the context of the apocalyptic terror that we have witnessed in our backyard. While a few of us had to evacuate our homes due to the Los Angeles fires, we are fortunate that no one at FPA lost their home, and, more importantly, we are all safe. We cannot say the same about the dozens and dozens of friends in our community who lost their homes and everything in it all the memories, collectibles, cars, photographs, and kid's toys- to begin the list. Whole communities have ceased to exist. We appreciate the many calls and emails of concern from our shareholders, partners, and providers. Fortunately, we and our FPA colleagues dodged the worst of this horror and now look to help those affected move forward. Thank you, as always, for your continued confidence in our Contrarian Strategy.
Respectfully submitted,
FPA Crescent Portfolio Managers
January 28, 2024
(1) Source: FPA, Morningstar. Comparison to the indices is for illustrative purposes only. The Fund does not include outperformance of any index or benchmark in its investment objectives. An investor cannot invest directly in an index. The long equity segment of the Fund is presented gross of investment management fees, transactions costs, and Fund operating expenses, which if included, would reduce the returns presented. Long equity holdings only includes equity securities excluding paired trades, short-sales, and preferred securities. The long equity performance information shown herein is for illustrative purposes only and may not reflect the impact of material economic or market factors. No representation is being made that any account, product, or strategy will or is likely to achieve profits, losses, or results similar to those shown. Long equity performance does not represent the return an investor in the Fund can or should expect to receive. Fund shareholders may only invest or redeem their shares at net asset value. Past performance is no guarantee, nor is it indicative, of future results.
(2) Source: FPA, Bloomberg. As of December 31, 2024.
(3)
(4) Source: Federal Reserve Economic Data (FRED). As of December 31, 2024. Past performance is no guarantee, nor is it indicative, of future results.
(5) Source: Apollo Academy. As of November 30, 2024.
(6) Source: Compustat. Goldman Sachs. As of November 30, 2024.
(7) Source: BofA Global Research. BofA Global Investment Strategy. As of December 10, 2024.
(8) Global Multi Asset Thought of the Week. Momentum Ruled in 2024, But Reversal Likely in Stanley. December 23, 2024.
(9) Source: Global Multi Asset Thought of the Week. Momentum Ruled in 2024, But Reversal Likely in Stanley. December 23, 2024.
(10) Source: Factset consensus as of January 22, 2025. FPA Crescent equity position data as of December 31, 2024.
(11) 3-Year Forward Estimated EPS Growth is based on FPA calculations using consensus data from Factset. Forward Price/Earnings and 3-Year Forward Estimated EPS Growth are estimates and subject to change. Comparison to the S&P 500 and MSCI ACWI Indices is being used as a representation of the "market and is for illustrative purposes only. The Fund does not include outperformance of any index or benchmark in its investment objectives. References to FPA Crescent Fund's (Fund) long equity holdings valuations refers to the valuations of the Fund's long equity holdings only. The long equity holdings average weight in the Fund was 60.4% and 61.5% for Q4 2024 and TTM through December 31, 2024, respectively. The long equity statistics shown herein are for illustrative purposes only and may not reflect the impact of material economic or market factors. No representation is being made that any account, product or strategy will or is likely to achieve results similar to those shown. Long equity statistics noted herein do not represent the results that the Fund or an investor can or should expect to receive. Fund shareholders can only purchase and redeem shares at net asset value. Portfolio composition will change due to ongoing management of the Fund.
(12) Source: LSEG Datastream, Yardeni Research, MSCI, and IBES. As of December 19, 2024.
(13) Source: AB Funds. Mapping Out the 2025 Investment Landscape Across Asset Classes December 5, 2024. Data as of November 30, 2024.
(14) Reflects the top five contributors and detractors to the Fund's performance based on contribution to return for the trailing twelve months (TTM). Contribution is presented gross of investment management fees, transactions costs, and Fund operating expenses, which if included, would reduce the returns presented. Percent of portfolio reflects the average position size over the period. The information provided does not reflect all positions purchased, sold or recommended by FPA during the quarter. A copy of the methodology used and a list of every holding's contribution to the overall Fund's performance during the TTM is available by contacting FPA Client Service at crm@ It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities listed.
(15) The company data and statistics referenced in this section, including competitor data, are sourced from company press releases, investor presentations, financial disclosures, SEC filings, or company websites, unless otherwise noted. You can find the Fund's other positions addressed previously in our archived commentaries.
Past performance is no guarantee of future results and current performance may be higher or lower than the performance shown. This data represents past performance and investors should understand that investment returns and principal values fluctuate, so that when you redeem your investment it may be worth more or less than its original cost. Current month-end performance data, which may be lower or higher than the performance data quoted, may be obtained at or by calling toll-free, 1-800-982-4372. The FPA Crescent Fund Institutional Class (Fund or FPACX) total expense ratio as of its most recent prospectus is 1.08%, and net expense ratio is 1.05% (both including dividend and interest expense on short sales).
You should consider the Fund's investment objectives, risks, and charges and expenses carefully before you invest. The Prospectus details the Fund's objective and policies and other matters of interest to the prospective investor. Please read the Prospectus carefully before investing. The Prospectus may be obtained by visiting the website at by calling toll-free, 1-800-982-4372, or by contacting the Fund in writing.
This article first appeared on GuruFocus.
