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A Peerless Overseas Fund



It takes more than brains to be a good investor. It takes guts, too. Call it discipline if you want to be less dramatic, but to beat the market you have to be willing to buy stocks that the crowd thinks are real stinkers and sell stocks that everyone loves.

Enter David Herro, the co-manager of OAKMARK INTERNATIONAL (SYMBOL OAKIX). His record speaks for itself. Since the fund’s 1992 inception, it has returned an annualized 10.5% — beating its benchmark, the MSCI EAFE index, by an average of 4.1 percentage points per year. Over that period, Oakmark ranks in the top 1% among funds that focus on large foreign companies. Recent results are outstanding, too. Over the past year, the fund gained 19.6%, slamming the EAFE index by 5.5 percentage points (returns are through April 5).

Roster of the despised. To profit from Herro’s picks, you have to be patient — and avoid trying to second-guess him. Take a look at some of the 55 stocks that he and Robert Taylor, who became co-manager at the end of 2008, own. One is Daiwa Securities, the big Japanese broker, which operates in a country trying to escape a long bout of deflation and horrible stock market performance (see “Japan’s Rebound Is for Real,” on page 34). It’s one of the fund’s largest holdings, at 2.9% of assets. How about Italy’s second-largest bank, Intesa Sanpaolo (3.6% of assets)? Italy, of course, looks like it could follow Cyprus down the road to financial disaster. Or Banco Santander, the sprawling Spanish bank (2.3% of assets)? Spain’s unemployment rate is over 25%.

Herro is happy — at least from an investment point of view — to see the fear over the future of the euro zone. “If there’s no fear, you’re not going to get a bargain because then the company’s good news is in the price,” he says. “We’re able to take advantage of macroeconomic fears to buy stocks at good prices.”

Not that Herro’s a Pollyanna about Europe. Although he thinks the euro zone is moving, albeit glacially, toward resolving its woes, he finds Western Europe’s labor laws badly in need of fixing. Europe, he says, must undertake “extreme structural reform,” by which he means the Continent will have to change labor practices and laws, as well as boost productivity.

As for Japan, Herro thinks the economy really has begun to recover. That’s because of massive monetary stimulus from the Bank of Japan and fiscal stimulus from the government. “I think we’re in the third or fourth inning of a Japanese recovery,” he says. “There’s a lot more room to go.”

Bargains aplenty. Japanese stocks are at a five-year high after a 50% rise since November. Yet Herro says that many good Japanese companies are still trading below book value (assets minus liabilities). “You just have to look for the good companies,” he says. Favorites include Toyota Motor, Honda Motor and Canon.

Emerging markets? Herro isn’t interested and hasn’t been for quite a while. The problem, he says, is that all the stocks of high-quality companies are too expensive. Take Coca-Cola Femsa, the Coke bottler in Mexico. Says Herro: “Great, great business. The stock is up fourfold in five years, and it trades at 29 times what analysts estimate it will earn in the coming 12 months.” That’s too rich for Herro’s blood. The alternative, he says, is to invest in “junky” emerging-markets commodity companies. Their stocks are cheap, Herro says, “but they’re plagued with problems.”

When emerging markets are on the ropes, however, and no one wants to buy them, Herro will be sifting through the ruins for great companies at bargain prices. That’s how he has always done it, and it has worked out nicely for his shareholders.



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