FPA Queens Road Value Fund Second Quarter 2023 Commentary

Dear Fellow Shareholders,

FPA Queens Road Value Fund (“QRV Fund”) returned 5.67% in the second quarter of 2023. This compares to a 6.64% return for the S&P 500 (SP500) (SPX) Value Index in the same period.

July 1, 2022 to June 30, 2023 was a strong 12 months in the stock market. Both the S&P 500 and the S&P 500 Value Indices were up over 18% during that time period.^[1] The strong rally from last year’s low print on October 12 mirrored surprisingly robust economic data. Economists are unusually uncertain about the path forward, but we will continue doing what we always do – looking bottom up for quality companies trading at reasonable valuations.^[2]

Of all the strange things that happened in the markets over the past 12 months, one of the strangest is that the dislocation in technology became so severe that Microsoft, Meta (Facebook) and Amazon were added to the S&P 500 Value Index! Collectively, the three had a weight of nearly 14% on June 30, 2023.^[3]

We are having trouble normalizing the current operating environment. From reading earnings reports and call transcripts and talking to companies, it seems that company managers are struggling with this as well. It is not entirely apparent to what extent supply chain issues, inflation, government stimulus and post Covid consumer preferences are impacting trailing financials. At the same time, we are wary of the unprecedented rise in short term interest rates. So far, company financial conditions don’t appear to have tightened that significantly. But we expect higher rates to affect the economy and our portfolio companies with a lag.

Although we seek to run the fund fully invested, and we love the companies that we own, we are having trouble finding new investments that meet our stringent Four Pillar process and provide a margin of safety. In particular, high quality industrials, a frequent hunting ground for the fund, strike us as particularly richly valued right now given their inherently cyclical nature.

For the 12 months ending June 30, 2023, the Fund’s losses and gains were well distributed. Pfizer, V.F. Corporation, Elevance, 3M and Danaher were the largest negative contributors to our trailing twelve month performance. Oracle, two industrials – Eaton and Trane, Ameriprise Financial and Fiserv were our largest winners.

Trailing 12-Month Contributors and Detractors⁴

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At its most basic, our process compares a company’s current price to what we expect the business to look like three to five years out. Our four pillars – balance sheet strength, valuation, management, and industry analysis – provide guidance and guardrails. Taking a long-term view has served us well in the past and we are confident that our disciplined and patient approach will continue to be rewarded over the long-term.

In our experience, when there is exuberance in the markets, it is usually overdone. But when markets get volatile and the pundits predict doom and gloom, it is usually overdone as well. We acknowledge the heightened uncertainty as well as the headwinds the economy faces. But, given the current valuations and long-term fundamentals of the Fund’s holdings, we feel more positive about the portfolio than we have in several years.

Respectfully,

Steve Scruggs, CFA, Portfolio Manager | Ben Mellman, Senior Analyst

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