The Fund’s Investor shares declined 0.21% for the quarter, underperforming the S&P 500 Index gain of 3.43%. Security selection was the largest driver of underperformance, with particularly poor selection in the financials and information technology sectors, although selection was also weak in consumer staples, consumer discretionary, and telecommunication services. Sector allocation also had a large negative impact on relative results, primarily because the Fund was significantly underweight to the energy sector, which was the S&P 500’s top performing sector for the quarter. This underweight is primarily due to the Fund’s exclusion of oil and gas exploration and production companies.† The Fund was also underweight in consumer discretionary, which also outperformed, and overweight in financials and telecommunication services, which underperformed.
At a security level, the largest detractor from relative results was Cummins, a manufacturer of engines and engine-related components, which declined more than 17%. The company reported disappointing first-quarter results, with lower-than-expected profit driven by various recurring events. Margins in the engine and components segments were negatively impacted by a costly warranty campaign and product campaign, respectively.
Within financials, our out-of-benchmark position in Banco Santander Brasil, the Brazilian subsidiary of Banco Santander, S.A., a Spanish bank, was the largest detractor. The stock declined more than 37% as a result of Brazil’s 10-year bond yield sharply rising throughout June. The treasury gains raised the prospects of investment losses at Santander, whose lending strategy has been a key growth driver in the past, but could now be vulnerable from any further deterioration in the country’s economic growth outlook. Earnings risk for Brazilian banks remains high due to subdued credit growth and net interest margin pressure.
Insurance and investment management group Prudential Financial was also a significant detractor, declining almost 9%. U.S. life insurers have broadly underperformed due to concerns over capital, weakening earnings power, and slower organic growth.
Facebook and Amazon were also among the largest detractors from relative results for the quarter. Facebook was sold from the Fund’s portfolio early in the quarter after we downgraded the company to ineligible for investment, in the wake of revelations about the unauthorized disclosure of 80 million users’ data to Cambridge Analytica. During the period it was still held, the stock returned only 0.2% for the Fund, but over the full quarter it returned 21.6% for the S&P 500. Amazon, which was held for the full quarter, returned more than 17%, but our significant underweight relative to the Index resulted in a large negative relative contribution.
Despite the Fund’s overall underperformance, there were several strong performers that made large positive contributions to relative results thanks to our overweight positions. The largest was from Align Technology, a medical device company that returned more than 36% for the quarter. Align manufactures systems for clear aligner therapy, intra-oral scanners, and 3D digital services used in dentistry and orthodontics. The company delivered excellent results for the first quarter, characterized by better scanner revenue, higher case volumes, and lower expenses. For the second quarter, management maintained guidance ahead of consensus expectations, while also increasing long-term sales guidance, with expectations for demand beyond orthodontics.
NetApp, a leading provider of data storage and networking solutions, gained almost 28% after reporting results for its fiscal fourth quarter that exceeded expectations on both the top and bottom lines. Despite growing competition—as the industry moves toward cloud and chip-based flash storage solutions—NetApp has driven sustained growth through operational discipline and a successful product transition.
Robert Half, which provides specialized staffing and risk consulting services, gained almost 13%. The company reported solid results for the first quarter, as annual growth accelerated in most temp and consultant staff segments, and gross margins expanded year-over-year. Guidance for the second quarter was also well above expectations.
Global payments and technology company Mastercard returned more than 12% after reporting better-than expected earnings for the first quarter and lifting its full-year revenue forecast. The firm benefitted from a weaker U.S. dollar during the first three months of the year, as tourists traveling in the U.S. spent more on credit-card purchases, and Americans traveling abroad also showed strong purchasing behavior. As a whole, cross-border spending rose 32% compared to the first quarter of 2017. This growth was expected to decline due to a drop-off in consumers using their credit-cards to fund cryptocurrency purchases. Mastercard’s cross-border growth also benefited from Chinese lenders issuing credit cards with foreign-payment networks.
The fund also benefitted from not owning benchmark constituent Berkshire Hathaway, which declined more than 6%. The conglomerate holding company is not approved for investment by Domini due to significant investments in nuclear power.
