Dodge & Cox International Stock Fund

We had a conference call with Dodge & Cox’s International Fund on May 30. We spoke to Tara Shamia a client services representative of the firm.  Ms. Shamia gave us a summary of how the fund operated and answered our questions concerning the fund’s investment processes and holdings, and risk management procedures.

Dodge & Cox’s International fund invests in companies domiciled outside the US.  The fund is low cost with an expense ratio of 0.64% compared to a category average of 1.41%.

Dodge & Cox does extensive fundamental research on potential investments.  That research is done by a team of 22 analysts using bottom-up stock-picking methods.  Analysts are expected to be advocates for their investment ideas and present them to a 9 member investment management team led by Diana S. Strandberg. The investment team is experienced and stable; the average tenure of members of the Investment Committee is 22 years. 

Dodge & Cox as a firm follows a value oriented investment strategy looking to buy well established companies at attractive valuations.  They build the portfolio one stock at a time without regard to index weightings.  The firm currently believes that they are finding “compelling valuations” overseas pointing to strong company fundamentals and dividend yields above 4%.  They think the macroeconomic concerns about Europe and slowing Chinese growth are depressing equity prices below fair value.

The firm reviews how companies allocate their capital to determine how shareholder focused management appears. This explains why the fund is underweight the Eastern countries of the Asia-Pacific region, specifically Japan and China. Ms. Shamia explained to us although Japanese companies exhibit many positive traits like low valuations, they often put very low emphasis on shareholder value. In a similar vein, Ms. Shamia described that Chinese companies often fail to recognize the needs of the shareholders. She pointed out that many Chinese companies exhibit poor corporate governance; a similar refrain we have heard from other fund managers.

The fund will invest in both developed and emerging markets.  As of quarter end, the fund had about 20% of its $40 billion portfolio allocated to emerging markets. The emerging markets exposure has been coming down as valuations look less compelling.  David Herro, of Oakmark made a similar point when talking about his International Fund and International Small Cap Fund.  Both Dodge & Cox and Oakmark feel valuations in the developed markets are extremely attractive.

Currently, the fund is overweight in the telecommunications and financial services sector. Dodge & Cox sees strong growth prospects for communications and media companies in emerging markets and believe that entertainment and news distribution services are in high demand.

In the financial services sector, Dodge & Cox believes that European banks have bolstered capital ratios, reduced their holdings of toxic assets and trade at low valuations, in part because of low expectations placed on them by investors.

Dodge & Cox also doesn’t have sector or weighting guidelines for risk management. The firm measures risk not by market volatility but by the potential for investors to lose their capital. Dodge & Cox’s investment team tries to fully understand the companies that they are invested in and maintains a moderately diversified portfolio.  At quarter end the fund had 89 holdings with about 29% of the fund invested in its top ten holdings.  The firm is also very fully invested with a cash position of about 1.2% of fund assets.

While volatile, we continue to find the fund an attractive vehicle to invest in international markets.  In addition, the fund’s low expense ratio is another positive.

Returns through 3/31/2012

	YTD	1 Year	3 Years	5 Years	Since Inception*
Dodge & Cox International Stock Fund	12.72%	-7.61%	22.20%	-2.07%	7.75%
MSCI EAFE index	10.86%	-5.76%	17.13%	-3.51%	3.71%

Source: Dodge & Cox

* Inception is 5/1/2001

Assistance on this post was provided by DiAn Zhu

(Harvest Financial Partners owns the Dodge & Cox International Stock fund in client portfolios and uses it as an investment option in a number of retirement plans where Harvest is the investment advisor.  The authors own it and other Dodge & Cox funds in their personal portfolios.  Positions may change at any time.)