Third Avenue Small-Cap Value 3Q17 Letter – Financial Services, US Residential Housing, Auto Suppliers

Smart Money

Third Avenue Small Cap Value Fund 3Q17 Letter

  • During 3Q17, gained 4.63%, underperforming the 5.11% return for the Russell 2000 Value Index
  • YTD, up 7.24%, outperforming the 5.68% return of the Russell 2000 Value Index

Financial Services

  • Interest rates continue to slowly rise and our banking investments have benefitted
    • Currently own seven regional and community banks (Commerce Bancshares, Cullen/Frost Bankers, Prosperity Bancshares, Southside Bancshares, UMB Financial, Valley National Bancorp and WesBanco)
  • Primarily interested in banks with strong financial positions, conservative credit metrics, easy to understand balance sheets and a history of compounding capital at double digit rates
  • We are particularly attracted to banks that have complementary businesses, such as wealth management, which may understate the true economic book value of the company
  • We aim to supplement our bank investments with investments in property and casualty (P&C) insurers
  • Given the horrific natural disasters this year, fear is starting to creep back into the consciousness of P&C investors
  • We are actively looking for companies with the balance sheet quality, underwriting savvy and discounted valuations we require for insurance company investments
  • As the damages from 2017’s storms are determined and results released, we are hoping to identify interesting opportunities

US Residential Housing

  • Supply and demand dynamics in the US residential housing sector remain compelling
  • Supply has yet to catch up with demand as inventories are low in many geographies
  • Although many investors try to predict changes in interest rates and demand trends when investing in this segment, housing supply in our view is the most critical factor
  • As long as supply remains low, we believe the housing sector fundamentals will remain sound
  • Companies we own that should benefit from this trend include Interfor, BMC Stock Holdings, and TRI Pointe Group, and are actively seeking additional investments to increase our exposure

Auto Suppliers

  • Combination of existential threats from electric cars and an extended recovery in auto sales has created excessive pessimism in this segment
    • In our view, it’s overdone
  • Average age of vehicles continues to rise and the projections for electric car share gains appear excessive to us
  • The disruption, uncertainty and pessimism surrounding the industry is creating opportunities
  • We are particularly interested in auto suppliers
    • The suppliers benefit from the rising age of cars on the road and have a broader range of investing outcomes
    • This contrasts from OEMs or retailers where the opportunity set is more binary
  • Our investments within the auto sector are well-capitalized companies and have the capacity to compound our capital through cycles

Conclusion

  • We expect to build upon our differentiated portfolio of companies that have all-weather balance sheets but trade at attractive valuations either for short-term “fixable reasons” or that have been neglected by index-oriented investors due to the idiosyncratic nature of their businesses
    • Often times, these types of investments can provide more attractive downside protection in volatile stock market cycles

Image Source: Third Avenue Management

Advertisements