The Hickory Fund returned -9.07% in the third quarter compared to -3.44% for the Russell Midcap Index. Year-to-date, the Fund returned -31.34% compared to -24.27% for the Russell Midcap Index.
Returns in the third quarter were, again, disproportionately driven by investors' perceptions of potential Federal Reserve policy actions. Economic data released early in the quarter raised hopes of a “Fed Pivot” — the idea that, although still too hot, inflation was cooling enough to warrant less aggressive tightening of monetary policy, and even a potential return of loosening restrictions in the coming year. Equity markets rallied, and by mid-August the Fund was up roughly 13% for the quarter. Then came Chairman Jerome Powell's Jackson Hole speech. In it, Chairman Powell plainly stated that further aggressive action was needed to bring inflation to heel and noted that the historical record cautioned against loosening conditions prematurely. The speech squarely negated both pillars of the “pivot” thesis, and stocks gave up their gains and then some in the weeks that followed.
The preceding discussion is offered as context for the current investment landscape. At any given time, investors› broad market perceptions have an outsized influence on the reaction to company-specific news. When investors are bearish, good news is frequently shrugged off, while disappointments are met with swift, and often overdone, punishment. We believe this to be the case for Liberty Broadband (LBRDA, Financial) (owner of 26% of broadband provider Charter Communications). As one of the Fund›s largest positions and its outsized impact as the top detractor for the quarter and year-to-date periods, a more detailed discussion of our continued optimism is warranted.
Investors have apparently extrapolated that Charter's (CHTR, Financial) recent string of lackluster broadband customer growth portends zero (or negative) growth into perpetuity. Skeptics point to early customer wins for wireless broadband offerings and fiber-network operators' plans to aggressively expand their footprints as evidence that Charter's (and cable operators', generally) ability to add subscribers is permanently impaired. We disagree. Wireless broadband will likely continue to win customers in areas where wired infrastructure is unavailable or by expanding the market to new customer segments (e.g., construction trailers, food trucks, etc.). That said, the carriers face an important trade-off, as fixed wireless is a lower-return usage of scarce network capacity. As fixed and mobile data usage inexorably grow, we believe carriers will prioritize their traditional mobility business at the expense of expanding their fixed wireless base. With respect to growing competition from fiber-to-the-home operators, Charter's footprint is already roughly 40% overbuilt and has been competing successfully for over a decade. As fiber companies look to enact previously announced expansion plans, inflationary pressures for labor, equipment, and funding costs may reduce their ultimate appetites.
Of course, Charter isn't simply sitting back playing defense. We believe the company can resuscitate customer growth through expanding its own network into underserved areas. High-speed networks with little (or no) competition tend to generate strong demand as they come online, bringing new subscribers to Charter's rolls. Charter is also rapidly growing its own mobile phone business across its entire network with some of the lowest-priced plans in the industry, taking market share by delivering significant savings for customers while also growing their cash flow per-customer relationship at the same time. All that to say, at these levels we believe the stock is mispriced. We can't predict when other investors may change their minds, but in the interim, the company continues to generate very healthy cash flow, and management's continued share repurchases compound value on our behalf.
Carmax (KMX, Financial) and Liberty Global (LBTYA, Financial) were also detractors during the quarter and year-to-date. In Carmax's case, after a period of sharply rising used car prices, affordability took another hit as would-be buyers now face higher borrowing costs for auto loans. The industry at large will need to digest this reset, but as the largest scaled player, and with a growing set of omnichannel tools, we believe Carmax is poised to not only weather the storm but to continue to grow market share. As for Liberty Global, the company owns a collection of European broadband providers that collectively trade at a discount to our “sum of the parts” value estimation. In recent quarters, their portfolio has had relatively stable, if uninspiring, results. The surging U.S. dollar dampens reported earnings, but management's focus remains on growing local currency cash flows and identifying strategic opportunities to recognize the unappreciated value of their assets.
As we make our way through this bear market, good news has been harder to come by. CoStar Group (CSGP, Financial) was the portfolio standout in the third quarter. Shares rallied on the news that it would be added to the S&P 500 index, and investors looked to capitalize on the subsequent index fund buying. The portfolio also enjoyed positive contributions from Ingersoll Rand (IR, Financial) and HEICO (HEI, Financial). In the quarter's early run-up, we trimmed several holdings on strength, most notably Ingersoll-Rand, and we added modestly to Carmax as shares sold off post-earnings. At quarter-end, our estimated portfolio price-to-value ratio was in the low 60s. This suggests to us that, despite a highly uncertain investment backdrop in the near term, we believe our businesses trade at prices that hopefully should generate stronger returns in the coming years.
Data is for the quarter ending 09/30/2022. The opinions expressed are those of Weitz Investment Management and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through 10/20/2022, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor's specific objectives, financial needs, risk tolerance and time horizon.
Data quoted is past performance and current performance may be lower or higher. Past performance is no guarantee of future results. Investment return and principal value of an investment will fluctuate, and shares, when redeemed, may be worth more or less than their original cost. Please visit weitzinvestments.com for the most recent month-end performance.
