August 16, 2024
Dear Unitholders of Chou Associates Fund,
The net asset value per unit (“NAVPU”) of a Series A unit of Chou Associates Fund at June 30, 2024 was $171.94 compared to $156.08 at December 31, 2023, an increase of 10.2%; during the same period, the S&P 500 Total Return Index increased by 19.4% in Canadian dollars. In U.S. dollars, a Series A unit of Chou Associates Fund increased by 6.7% while the S&P 500 Total Return Index increased by 15.3%.
The table shows our one-year, three-year, five-year, 10-year, 15-year and 20-year annual compound rates of return.
| June 30, 2024 (Series A) | 1 Year | 3 Years | 5 Years | 10 Years | 15 Years | 20 Years | |
| Chou Associates Fund ($CAN) | 9.2% | 10.3% | 11.8% | 4.9% | 8.5% | 6.3% | |
| S&P 500 | ($CAN) | 28.8% | 13.6% | 16.0% | 15.7% | 16.1% | 10.4% |
| Chou Associates Fund ($US) | 5.8% | 6.8% | 10.8% | 2.3% | 7.3% | 6.2% | |
| S&P 500 | ($US) | 24.6% | 10.0% | 15.0% | 12.8% | 14.8% | 10.3% |
Rates of return are historical total returns that include changes in unit prices, and assume the reinvestment of all distributions. These annual compounded returns do not take into account any sales charges, redemption fees, other optional expenses or income taxes that you have to pay and that could reduce these returns. The returns are not guaranteed. The Fund's past performance does not necessarily indicate future performance. The table is used only to illustrate the effects of the compound growth rate and is not intended to reflect future values of the mutual funds or returns on the mutual funds. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing.
Factors Influencing the First Six-Month Results
The largest increase in the period were the equity holdings of EXCO Resources Inc. (EXCE, Financial), Synchrony Financial (SYF, Financial), Wells Fargo & Company (WFC, Financial), Citigroup Inc. (C, Financial) and Ally Financial Inc. (ALLY, Financial). The decliners in the year were the warrant holding of Hertz Global Holdings Inc. (HTZ, Financial) and the equity holding of Navient Corporation (JSM, Financial).
The Canadian currency depreciated against the US dollar, which also positively affected the Fund.
The Fund reduced its holding in Hertz Global Holdings Inc. (warrants) and Berkshire Hathaway Inc. (BRK.)(BRK.B, Financial).
The Fund also sold off its holdings in Bausch Health Companies Inc. (BHC, Financial).
The Fund initiated investments in Pathward Financial Inc. (CASH, Financial) and Liberty Media Corporation – Liberty SiriusXM (LSXMA, Financial).
DOES VALUE-INVESTING WORK OVER THE LONG TERM?
Over the years, I have been asked frequently whether value investing truly works over the long term. Prior to two years ago, that question was usually asked with great skepticism. In my mind, unequivocally, the answer is yes. It works because you are buying an asset for a far lower price than what it is worth.
So, we asked Fundata to supply the data and found the results of Chou Associates Fund to be a huge surprise over the long term! It is ranked 1st over the 30-year period. The results are presented below.
This strong performance is despite the fact that the results include the 2015 to 2020 period—a hellish time for value investing. In fact, the impact was so great, it even affected the 15-year and 20-year results.
Another big surprise is how many funds drop off (close) over the long term. For example, as of June 30, 2024, we have 2,043 funds in the Global Equity category. By the 15th year, that has dropped to 391 funds; by year 35, there are only 15 competitors.
So much for “Value investing is dead”
Do you have to be flawless in your stock selections to be ranked number 1? Absolutely not! Value investing gives you enough of a cushion to make mistakes and still get a decent rate of return. Let's look at some of the errors we've made over the last several years, excluding some truly dumb mistakes.
The key to value investing is appraisal: knowing the true value of a company. If that is not precise enough, everything falls apart.
Mistakes of Commission
We tend to fish in troubled waters; in some years, our appraisals of distressed companies were off the mark. For example, perhaps we thought a company was worth 100 cents, but it was worth closer to 60 cents. The tendency is to put a much higher weight on asset value and not enough weight on the value of the operating company. The problem is that asset value can be a massive security blanket that can make us blind to the deterioration of the worth of the operating company.
A case in point is Sears Holdings. We were correct that the company's real estate plus the value of the brand names would afford some cushion against losses; however, we were inaccurate in our assumption that the former chief executive and chairman of the company, Eddie Lampert, would maximize returns for shareholders based on the real estate assets and the value of the operating retail company. Instead, he tried to reinvent the company, suffering huge losses along the way and almost wholly eroding the value of the considerable real estate assets that Sears held. Although the value of downside protection is important, most of the returns from an investment come from either the increase in the intrinsic value of the company, or the closing of the gap between the discounted purchase price and the full intrinsic value. When neither happens, then investors want to see the assets and the brand names divested or sold—sooner rather than later—for the benefit of the shareholders. Fortunately, we can say that in the case of Sears, we lost an insignificant amount of money on an actual dollar basis (as one Republican suggested, such amounts should be classified as “Trump change”). However, we did lose a tremendous amount in opportunity costs over that 10-year period. Trump change or not, it was still an unforced error. That was a mistake of commission.
Mistakes of Omission
We also made a number of mistakes of omission. Over the last 35 years, roughly half of our portfolio was invested in troubled companies, and the other half was in good companies, so we are well acquainted with investing in both types. But what happened in some years was that we spent too much time undervaluing the good companies. While our assessment showed that these investments were worth 100 cents, they were more accurately close to 150 cents, thus causing us to miss some good opportunities. These omissions, though they are unseen mistakes, are nevertheless as real as mistakes of commission. In summary, although the markets have been less kind to value investing, we can exacerbate the problem as practitioners, and I am the biggest culprit.
What about the next 35 years?
We believe value investing will continue to flourish over the next 35 years and we expect that Chou Associates Fund will continue to do well.
The point is this: how can anyone argue against the logic of buying something considerably cheaper than what a company is worth?
Large Cash Position
Also, the Fund's cash position was approximately 32.4% of net assets as at June 30, 2024. This large cash position may depress returns for a while as we hunt for undervalued securities. Obviously, if there is a severe correction in the market in the near future, it will cushion the Fund against losses while providing us with the wherewithal to find good investment opportunities. But for now, it could be a drag on returns. If we cannot find any bargains, the large cash position may stay for a long time.
Changes to the tax rate on realized capital gains/losses
On April 16, 2024, the Federal Budget for 2024 announced an increase in the capital gains inclusion rate to 66.7% (up from 50%) for individuals, corporations, and trusts. However, to offer some relief to individuals, the rate will stay at 50% for capital gains up to $250,000 per year. This adjustment means that you, your corporation, or trust may face higher taxes on the sale of assets with significant accrued gains. The new rate will apply to capital gains realized on or after June 25, 2024.
As a result, we took the opportunity to sell some Berkshire Hathaway shares that had large unrealized gains before June 25th and sold Hertz Global Holding warrants and Bausch Health shares in which we had unrealized losses after June 25th.
Another reason for selling losers is to avoid the pitfalls resulting from sunk cost bias. When one buys a stock, it is hard to accept that it was a mistake when it goes down. One can come up with many reasons (rationalizing) why it is still a cheap stock and why it is a matter of time before we hit the jackpot. When one sells them, one can always repurchase them after a month. However, when you don't own the stock, you come up with a fresh perspective and valuation that does not cloud one's judgment.
EXCO Resources Inc. (“EXCO”)
In early July 2019, the company emerged from bankruptcy and the 1.75 lien term loans were converted to 28.38 equity shares for every US$1,000 in par value, after netting out certain adjustments. The equivalent price was US$9.51 per share of EXCO.
Since it is a private company, I am not at liberty to divulge the latest financial statements, but what I can tell you is that my calculation of its PV-10 value was more than US$1.8 billion (roughly US$38 per share) based on the New York Mercantile Exchange (NYMEX) forward pricing as of December 31, 2023, and the net proved reserves were 2.9 trillion cubic feet equivalent. Its number of outstanding shares as of December 31, 2023 was 47,386,708. We estimate its EBITDA for the year ending 2024 will be between US$200 million and US$250 million. As a comparison, in 2018, the PV-10 value was US$750 million.
As of June 30, 2024, the share of EXCO was valued at $21.05 by Kroll, an independent third-party valuator.
Caution to the Investors
Investors should be advised that we run a highly focused portfolio, frequently just three to five securities may comprise close to 50% of the assets of the Fund. In addition, the Fund has securities that are non-U.S. and could be subjected to geopolitical risks, which may trump or at least negatively influence the financial performance of the company. Also, we may enter into some derivative contracts, such as credit default swaps when we feel that the market conditions are right to use those instruments. Because of any or all of these factors, the net asset value of the Fund can be from time to time more volatile than at other times. However, we are not bothered by this volatility because our focus has always been, and continues to be, on how inexpensive we believe the Fund's portfolio holdings are relative to what we believe to be their intrinsic value.
Other Matters
FOREIGN CURRENCY CONTRACTS: None existed at June 30, 2024.
CREDIT DEFAULT SWAPS: None existed at June 30, 2024.
U.S. DOLLAR VALUATION: Any investor who wishes to purchase the Chou Funds in U.S. dollars may do so.
REDEMPTION FEE: We have a redemption fee of 2% if unitholders redeem their units in less than 3 months. None of this fee goes to the Fund Manager. It is put back into the Fund for the benefit of the remaining unitholders.
INDEPENDENT REVIEW COMMITTEE: The Manager has established an IRC as required by NI 81-107. The members of the IRC are Sandford Borins, Peter Gregoire and Joe Tortolano. The 2023 IRC Annual Report is available on our website www.choufunds.com.
As of August 16, 2024, the NAVPU of a Series A unit of the Fund was $178.02 and the cash position was approximately 31.0% of net assets. The Fund is up 14.1% from the beginning of the year. In U.S. dollars, it is up 10.4%.
Except for the performance numbers of the Chou Associates Fund, this letter contains estimates and opinions of the Fund Manager and is not intended to be a forecast of future events, a guarantee of future returns or investment advice. Any recommendations contained or implied herein may not be suitable for all investors.
Yours truly,
Francis Chou (Trades, Portfolio)
Fund Manager
