In September, the Federal Reserve raised target U.S. interest rates for the third time in 2018, sending a clear signal that the strong domestic economy continues to chug along. Our read of the data is similar – this is a very healthy economy. Central bankers elsewhere in the world remain accommodating, cajoling growth without being extreme.
The relative performance of global economies lines up with the performance of global markets. In the third quarter, the U.S. market rose 6.7%, international developed markets climbed 2.9%, and emerging markets fell by 0.2%. Year to date through the third quarter, the U.S. market is up 8.1%, international developed markets are down 3.1%, and emerging markets have declined by 11.7%.
We continue to see strong results from most of the businesses we own. The MFAM Global Opportunities Fund advanced 7.1% during the quarter and is up 13.2% for the year. That performance handily outpaces our benchmark, the FTSE Global All Cap, which has risen around 4% for both comparable periods. The fund is nicely ahead of its benchmark not just year to date but also since inception.
Our best performing stock during the quarter was Paycom Software, up 57%. What began as a cloud-based payroll processing firm today offers a full software suite to manage the entire life cycle of an employee, from hiring to departure. The breadth of its product suite, its ease of use, and an effective sales organization have helped Paycom become a winner in the midsize segment of its market. In a recent financial release, the company reported accelerating revenue growth and impressive profitability. Paycom has benefited from a strengthening U.S. employment picture, but it also continues to take market share from upstart and incumbent competitors. It has grown to become a top 10 position in the fund.
Our worst performer this quarter was IPG Photonics, down 29%. Investors were caught off guard when the company reduced sales growth expectations for the remainder of the year, and ongoing tariff and trade issues spooked customers in both China and Europe. About half of the company’s sales are to China, and customers simply didn’t order at the expected rate. However, those orders were delayed, not canceled. The company has been disrupting the laser market for some time, and our holding has been a fantastic winner for the fund. IPG remains the leader in the high-power fiber laser market. Fiber lasers are being increasingly used in machining and industrial applications, since they’re more efficient and precise, require less maintenance, and cost less than traditional lasers. We acknowledge there will be ups and downs, especially given the company’s end markets, but we also take heart in seeing that management continues to prepare for higher volumes by purchasing land and building a new manufacturing facility. We feel confident that future performance will have a positive slope.
During the quarter we sold two long-time holdings: Berkshire Hathaway and Infinera. Warren Buffett’s company sports an impressive amalgamation of businesses, but its crown jewel is its insurance operations. Our decision to sell was simply one of opportunity costs. While we continue to view Berkshire as a low-risk holding, given its diverse operations and remarkable leadership, we felt our return expectations over the next decade were lackluster. Last quarter I wrote: “We manage focused portfolios, and the bar for capital commitment must remain high. When opportunities arise to improve portfolio quality, return potential, and risk exposures with a high level of confidence, we take action.” Selling Berkshire is consistent with that approach.
Infinera’s history in the fund has been eventful, at times being a multibagger and at other times being a drag on our performance. We’ve always liked the secular trends underlying Infinera’s customer demand, since an increasingly connected world with an insatiable appetite for data needs the kind of networking equipment Infinera makes. However, we’ve grown increasingly skeptical of our initial view of the company’s advantage, and we also note its persistent execution issues, along with a strategy that increasingly hinges on acquiring other businesses to try to make things better. In short, we were wrong on our assessment of Infinera’s business quality. We misjudged in each of the four pillars of quality. We consider it a learning experience and will endeavor not to make the same mistake again.
Observing economic data is fine, but it’s a backward-looking view. I believe our fund’s strong performance is the result of a clear focus on the future. The types of businesses we seek out – high-quality, growth-oriented businesses that are addressing large, underserved markets — are ones that should perform admirably in any economic environment. While the performance of their stock prices may diverge temporarily, business fundamentals will be the gravity that brings those prices back in line with reality. With that guiding belief, our focus will remain on analyzing businesses with a long-term mindset, a relentless desire to upgrade our portfolio, and a humility that keeps our decision-making calculated.
The Small-Mid Cap Growth Fund changed its name from The Great America Fund on December 31, 2017.
Note: The Morningstar RatingTM for funds, or ‘star rating’, is calculated for managed products (including mutual funds, variable annuity and variable life subaccounts, exchange-traded funds, closed-end funds, and separate accounts) with at least a three-year history. As of 9/30/2018, the Motley Fool Global Opportunities Fund (Investor shares) was rated in the World Large Stock Funds category, receiving a five-star rating among 739 funds over a three-year period and a four-star rating among 611 funds over a five-year period.
Exchange-traded funds and open-ended mutual funds are considered a single population for comparative purposes. It is calculated based on a Morningstar Risk-Adjusted Return measure that accounts for variation in a managed product’s monthly excess performance, placing more emphasis on downward variations and rewarding consistent performance. The top 10% of products in each product category receive 5 stars, the next 22.5% receive 4 stars, the next 35% receive 3 stars, the next 22.5% receive 2 stars, and the bottom 10% receive 1 star. The Overall Morningstar Rating for a managed product is derived from a weighted average of the performance figures associated with its three-, five-, and 10-year (if applicable) Morningstar Rating metrics. The weights are: 100% three-year rating for 36-59 months of total returns, 60% five-year rating/40% three-year rating for 60-119 months of total returns, and 50% 10-year rating/30% five-year rating/20% three-year rating for 120 or more months of total returns. While the 10- year overall star rating formula seems to give the most weight to the 10-year period, the most recent three-year period actually has the greatest impact because it is included in all three rating periods. Past performance is no guarantee of future results.