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FPA Capital Fund’s Best and Worst Performers From Q4

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FPA Capital Fund is a Los Angeles-based deep value mid-cap investment fund. Its investment philosophy is to exploit market inefficiencies among stocks of small- to mid-cap companies. Their selection process is designed to minimize risk by selecting companies with market leadership, long-term histories of profitability, financially strong balance sheets and  high quality management. The fund holds its investments for a long time (5 years) and has a low turnover ratio. In its fourth-quarter commentary, FPA Capital Fund talked about its performance last year. FPA Capital Fund returned 22.86% in 2016, outperforming the benchmark Russell 2500 index which gained 17.59%. The fund thinks that the stock market valuation is quite high as the Russell 2500 started 2016 trading at nearly 27.7x earnings and ended the year trading at nearly 31x earnings. The fund returned 9.42% during the fourth quarter, despite a cash level equal to almost 30% of the portfolio. Roughly 85% of the FPA’s positions appreciated during the quarter, and all industries made positive contributions to the performance.

Regarding the economic outlook in 2017, the fund does not belong to the doom-and-gloom camp and it is also not in the camp that expects a huge acceleration in economic growth for the year. It thinks that a stronger dollar could be a headwind for companies with large foreign earnings, and rising interest rates would increase borrowing costs and interest expenses. FPA Capital also believes that higher interest rates and potentially large swings in currencies could lead to increased volatility. In the article below, we will discuss some of the fund’s top performing positions presented in the letter.

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Aaron’s, Inc. (NYSE:AAN) was the biggest contributor to the FPA Capital’s performance accounting for 1.17% to the fund’s quarterly return, as the stock price appreciated by  nearly 26% in the last quarter of the year. Aaron’s, Inc. (NYSE:AAN) is a specialty retailer of furniture, consumer electronics, and household accessories. It has approximately 2,040 store in approximately 30 states. Despite brick and mortar retailers facing a tepid quarter, the company’s Progressive Finance unit continued to post excellent growth in profits as it expanded its services to more retailers in the US.

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Veeco Instruments Inc. (NASDAQ:VECO) was another top contributor as it accounted for 1.16% of the total return in the fourth quarter.  Veeco Instruments Inc. (NASDAQ:VECO)’s stock advanced by over 48% during the fourth quarter due to an acceleration of orders for its key MOCVD tools. These tools are the main manufacturing equipment used to produce LEDs, whether they are for display screens or, increasingly, for lighting products. FPA Capital estimates that Veeco Instruments Inc. (NASDAQ:VECO) currently a roughly 80% global market share for MOCVD tools used to make LEDs.

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