2012

The News Feed, now so central to Facebook that its absence is unimaginable, began in 2006 as a privacy crisis. The feature angered many users by surfacing their updates to friends without giving them control over who could see them or any ability to opt out. A student named Ben Parr created a group called Students Against Facebook, and within two days it had gathered nearly three hundred thousand members. Zuckerberg apologized on the company blog, conceding that the team had messed up and had not built in proper privacy controls, calling the launch a big mistake. The company then added granular controls rather than reversing the product, and the feed went on to become the engine of the service. The pattern, from Facemash forward, was consistent: launch on the data, apologize for the data, keep the product. The apology itself came within days of the launch.

© Oaktree Capital Management, L.P. All Rights Reserved. Memo to: Oaktree Clients From: Howard Marks Re: A Fresh Start (Hopefully) For years I kept these memos away from anything related to politics. But more recently I began to discuss issues facing the United States, and this has required some mention of policy and thus of politics. I’ve tried very hard to be non-partisan, with a goal of not having readers know my leanings. I hope I’ve succeeded; at least no one has complained. (But lots of people deceive themselves regarding how unbiased they are, and I may be one of them.) Because I found America’s recent presidential election – and especially the results – so fascinating, I’m going to move explicitly to the field of politics, but with the same goal of non-partisan expression. The Votes Are In To me, the most interesting statistics are these:  Obama beat Romney by less than three percentage points. That’s more than most people projected, but still a modest edge. It’s a narrow win relative to the long-term history of our elections, but five of the last thirteen were closer.  Four years ago, Obama beat his Republican rival by 9.5 million votes.  This year, he got 6.8 million fewer votes and won by only 3.5 million votes (meaning Romney pulled in 0.8 million fewer votes than McCain did in 2008).  7.6 million fewer votes were cast in total this year, even though there must now be several million more eligible voters in the U.S. than there were four years ago.

Simons Award Manager (SAM) FAQs and Videos Simons Foundation Chair Jim Simons on His Career in Mathematics Early Interest In Mathematics (6:21)Integers Are Forever (1:57)Capacity For Thought (2:04)Becoming More of a Mathematician (2:51)Mathematics In Cambridge (3:19)Tasted and Imagination (1:47)PDE and Geometry (1:52)IDA In Princeton (3:36)Early Financial Interests (2:25)Minimal Varieties In Riemannian Manifolds (5:51)Getting Fired from IDA (4:39)Chair at Stony Brook (2:59)Characteristic Classes (5:11)Differential Characters (4:17)Creating a Department at Stony Brook (2:41)Working On Thesis Under Kostant (7:35)Ambrose and Singer (7:23)Last Paper With Blaine Lawson (2:20)Working With Dennis Sullivan (4:26)Always An Outsider (2:31)The Thrill of Finding a New Predictor (3:25)Influence of Computers On Renaissance Technologies (2:36)Data Explosions In Research (3:53)Going From Mathematics Into Business (7:06)Return to Mathematics (7:54)Simons Foundation (11:01)Math For America (14:32)Details of Math for America (6:40)The Financial Crisis (2:00)Teachers Salaries (1:59)Car Battery Venture (5:02)How To Influence Policy Today (3:44)Influence as Elder Statesman (6:27)Testifying Before Congress (5:12)How To Keep People In Their Homes (2:17)

At the 2012 Daily Journal annual meeting, I told the audience that the European debt crisis had been the most instructive event of the previous two years, because it had revealed, once again, that the credit cycle does not end in scarcity; it ends in abundance, when lenders, having forgotten the losses of the previous scarcity, begin lending freely again to borrowers who cannot repay. The market-psychology point I tried to convey was that the crowd, in its broad patterns, is the aggregate of the lenders acting on the assumption that the scarcity is over, and the investor who recognises the pattern, and who refuses to participate in the new abundance, has a long-run advantage over the investor who chases the new loans on the assumption that the scarcity is over. The discipline required is to read the history, to recognise the patterns, and to refuse to participate, even at the cost of looking unfashionable. The mistakes-and-learning element was the one I had most wanted to convey. I had made my own share of mistakes in the previous two years, by being too cautious during the European debt crisis, and the cost of the caution had, in opportunity terms, been very large. The lesson I drew was that the disciplined investor must be willing to act during a crisis, even when the outlook is unclear, and even when the prices may go lower before they go higher. The 2012 meeting was, in this sense, a confession. I told the audience that the framework had been built, in large part, from my own mistakes, and that the discipline I had extracted was to refuse to wait for clarity, and to act when the prices were attractive, even at the cost of being early. The investor who builds the discipline of acting during the crisis will outperform the investor who waits for clarity. The contrarianism lesson I tried to convey was that the investor who acts during a crisis, when the headlines are still terrifying, looks unfashionable in the extreme, because the crowd cannot understand why anyone would buy into a falling market. The same investor, during the recovery, looks unfashionable in the opposite direction, because he is holding on through the early volatility, and the crowd cannot understand why anyone would refuse to sell at the first sign of a paper loss. The 2012 meeting was, in some ways, the most contrarian I had ever given. I told the audience that the framework had been built, in large part, from my own mistakes, and that the discipline I had extracted was to refuse to wait for clarity, and to act when the prices were attractive, even at the cost of being early and unfashionable. The investor who builds the discipline of acting during the crisis will outperform the investor who waits for clarity.

Facebook's first day as a public company ended with the stock at 38.23 dollars, up 0.61 percent from its offering price, after an intraday surge of eleven percent and a late slide that nearly breached the thirty-eight dollar line the underwriters were defending. A record 566 million shares changed hands in one of the most frenzied share sales in history, and the company closed valued at 104 billion dollars, more than the combined worth of Goldman Sachs and Nike. Zuckerberg, twenty-eight years old and the company's largest shareholder, watched his holding reach 20.4 billion dollars by the closing bell. The narrow escape from trading below the IPO price preserved the optics of the largest technology listing to that date, but the tape told a more ambivalent story than the milestone suggested. Zuckerberg had rung the opening bell remotely that morning from outside his California headquarters, wearing his trademark navy hoodie while staff cheered.

Buffett argued that share repurchases are value-accretive only when two conditions are met: the business is available below intrinsic value, and the company has cash it cannot deploy more valuably elsewhere. He wrote that a buyback above intrinsic value transfers value from continuing shareholders to selling shareholders, and that managements who buy back stock simply to support the price, or to hit earnings-per-share targets, are destroying owner wealth regardless of how the action is framed.

On the intrinsic-value test for buybacks.

January 2013 Dear Fellow Investor, This is the third annual letter to owners of The Fundsmith Equity Fund. We have presented three periods of performance figures this year - the performance since inception, the annualised returns and the last calendar year. T Accumulation Shares, Total Return 2012 Since Inception Annualised % to 31.12.12 % % Fundsmith Equity Fund £ 12.5 29.4 12.6 MSCI World Index £ 11.4 14.8 6.6 We remain critical of attempts to measure investment performance over short periods of time. Even a calendar year is too short for this purpose. It is the time it takes the Earth to go around the Sun and has no natural link to the investment or business cycle other than for agricultural businesses. However this proviso notwithstanding, how did we do in 2012? The Fund rose by 12.5% in 2012 and modestly outperformed the market (which we take as the Morgan Stanley Capital International World Index - or MSCI World - in sterling with dividends reinvested) by 1.1%. I’m rather surprised that we managed to outperform the market at all in this reporting period. 2012 was a year in which so-called risk assets performed well. This is unsurprising in a year in which the major central banks in the developed world supplied increasing amounts of liquidity through their Quantitative Easing programmes in increasingly desperate attempts to keep some modest amount of economic growth.

Click here to see Jim Simons’ 2015 address to the National Academy of Sciences upon induction, “My Peregrinations through Mathematics.” Click here to see Jim Simons’ 2014 speech at the International Congress of Mathematicians, “My Life in Mathematics.” Click here to see Jim Simons’ 2010 speech at MIT, “Mathematics, Common Sense, and Good Luck: My Life and Careers.”

All that liquidity has to go somewhere and indeed the supply of liquidity by central banks’ purchases of bonds helps to push investors towards the purchase of riskier assets, as does the regime of record low interest rates, of which more anon. This is not an environment in which I would expect our Fund to perform well relative to the market as the rising tide of liquidity floats all ships, many of which we would not consider owning. Moreover, the year was characterised by what is in my opinion is a naïve view that the words spoken or (more rarely) actions taken have somehow helped to resolve the financial crisis which we have been living with since 2007. I cannot see how the supply of liquidity can solve a crisis caused by over leverage and insolvency. These events were exemplified for me when the Financial Times declared Mario Draghi, the President of the European Central Bank as its Man of the Year.upon

What do these things mean?  For months I’ve been asking people, “Among those who voted for Obama last time, how many are disappointed?” Clearly the answer turned out to be, “A lot.” (Note that many of the people who did vote for Obama may also have been disappointed, but not enough to not back him.)  Despite that disappointment – and the persistent high level of unemployment – Obama still won. Many voters apparently saw him as the better choice between two unexciting candidates. Behind the Numbers On November 9, The Wall Street Journal ran an interesting article entitled “U.S. Voting Numbers Show Changing Nation.” It suggested a number of observations relating to voting trends.  While Obama and Romney received similar numbers of total votes, few sub-sectors of the electorate were closely divided. The Journal listed a number of voting groups where Romney had commanding leads: white, male, older, working-class, and rural and small-town. In contrast, Obama owes his victory to strong, sometimes overwhelming majorities among other groups: Latino, African-American and Asian-American, female, younger, college-educated, unmarried, © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

The opening was messy almost from the first moment. Trading was delayed until 11:30 in the morning because the exchange's systems appeared to struggle with the order volume, leaving market makers uncertain whether their confirmations had processed while the price discovery everyone had waited for hung suspended. What was meant to be the crowning ritual of the social-media era, the company that had defined the public internet's second decade joining the public markets, instead began with a half-hour stall and confusion on the floor. The stock's eleven percent early pop faded through the session into the flat close, and the scenes at Nasdaq that morning would feed directly into the recriminations, regulatory reviews, and litigation that followed the offering through the rest of 2012. When trading finally began, more than eighty-two million shares changed hands in the first thirty seconds, and analysts at PrivCo calculated that the underwriters bought roughly three hundred million dollars of stock to keep the price from breaching the offer, avoiding what traders call a busted IPO.

© Oaktree Capital Management, L.P. All Rights Reserved. and urban and suburban. Clearly, at the margin, the two candidates' constituencies were very different demographically.  When I think of the Romney-leaning groups listed above, I’m reminded of a 1930 painting by Grant Wood titled “American Gothic.” It shows an older white couple standing in front of their obviously Midwestern farmhouse, with the husband holding a pitchfork. I think the typical Republican voter of this last election is nostalgic for that era and wants that America back. The problem the Republican Party faced in this election is that America is moving away from that demographic, not toward it.  Immigration is an important aspect of life in America and a significant political issue. Our immigrant populations are large and are growing faster than our non-immigrant populations (note, however, that almost every “non-immigrant” is descended from someone who wasn’t born in the U.S.) Immigrants who have become U.S. citizens and thus are eligible to vote have a hard time with candidates who adopt a punitive stance toward illegal (today’s politically correct term is “undocumented”) immigrants. But a strong stand on illegal immigration is among the things demanded by a vocal and significant segment of the voters who choose the candidates in Republican primaries. Immigrants tend to be more religious and conservative (in the everyday sense of the word), and thus they might be expected to vote Republican.

When he was fourteen, Jim Simons got a vacation job in the stockroom of a garden supply store, but he was so bad at remembering where things went that he was quickly demoted to floor sweeper. At the end of the holiday season, his supervisors kindly asked him about his future plans, and Simons could tell that his answer struck them as hilarious: He wanted to study mathematics at the nearby Massachusetts Institute of Technology. “The guy who couldn’t remember where to put the sheep manure, he wants to be a mathematician at MIT,” Simons sensed they were thinking. Three years later, however, Simons did just that: He enrolled at MIT, launching a two-decade academic career. Unlike most research mathematicians, however, Simons went on to pursue two other major careers: as CEO of a highly successful hedge fund company, and later as a philanthropist. Simons, who was born in 1938 in Brookline, Massachusetts, fell in love with mathematics as a child. “I didn’t think it was math, just something fun to do,” he says. An only child, he was contemplative by nature and enjoyed pondering mathematical ideas. “I think there’s a quality of just being able to get lost in thought that is pretty good for math,” he says. Simons entered MIT in 1955 determined to major in mathematics, even though he didn’t have much of a sense of what a mathematician actually did. As he immersed himself in his studies, he started to feel more and more like a mathematician.

the fact that in July Mr Draghi pledged to do ‘whatever it takes’ to save the Euro, which was followed by him doing precisely nothing and yet the borrowing costs of the major European problem countries, and most notably Spain, dropped and the Eurozone crisis went into remission. Depending upon your point of view, this is either an example of the perfect action by a central banker - the mere threat of action producing the desired result; or another episode in kicking for touch without any attempt to solve the underlying problems. No prizes for guessing which camp I am in, but in any event positive reactions to such events are far more likely to buoy the share prices of financial stocks, cyclical companies, those who might otherwise be bust or at least in difficulty and indeed a whole series of assets which we will never own in our Fund. For example, the MSCI World Bank Index in sterling with dividends reinvested was up 22.3% in 2012. We do not own any banks stocks and will never do so. The Financial Times also reported that a number of hedge funds doubled their money by investing in Greek bonds in 2012. Clearly such a double or quits trade is not ever going to attract us, and it is hard to see how a fund manager can hope to repeat such trades consistently enough to warrant the risk, which is presumably one of the reasons why HSBC reported that 88% of hedge funds underperformed their relevant benchmarks in 2012.

The clincher in his deciding to pursue a career in mathematics, he says, came when he saw two MIT mathematicians, Isadore Singer and Warren Ambrose, launch into a deep discussion late at night at a café. “I thought it was the coolest thing — what a life, to go out at 2 a.m. with friends and do math over coffee,” he says. “It seemed like the world’s greatest career.” After his undergraduate studies, Simons completed a doctorate in mathematics at the University of California, Berkeley, in 1961. After several years in academic positions, in 1964 Simons joined the research staff of the Communications Research Division for the Institute for Defense Analyses (IDA) in Princeton, N.J. The division’s focus was code breaking, and Simons found that he enjoyed coming up with algorithms to attack particular types of cryptographic problems. At the institute, he learned how to make mathematical models to interpret data. “I think if I hadn’t been there, the business we built later would never have occurred,” he says. IDA allowed its researchers to spend half their time pursuing their own research projects. Simons used this time to tackle a problem about area-minimizing surfaces and higher-dimensional analogs, for which he was awarded the American Mathematical Society’s Oswald Veblen Prize in Geometry in 1976. In 1968, Simons left IDA and became chairman of the mathematics department at Stony Brook University in New York.

But right now the Republican Party is denied a huge percentage of their votes.  There are significant ironies in some other groups’ voting patterns. I usually expect people to “vote their pocketbooks” and support the candidate most likely to enhance their financial well- being. But this year’s results show that’s not always the case. o Voters over 40 years of age supported the Republican ticket, which placed great emphasis on curtailing retirement and healthcare benefits (although avowedly not for today’s senior citizens). o Voters under 40 came out more for the Democrats, even though the young pay a lot today for the entitlement programs Democrats are protecting for older citizens, and the day when they’ll benefit from them is far off. o Lower-income, less-educated voters – who are unlikely to progress far up the economic ladder – gave majorities to the Republican candidate, with his promise to protect the wealthy from tax increases. o College graduates and higher-income whites – with their greater probability of achieving big incomes – came out for the Democratic candidate, who considers it essential to raise tax rates at the top.  The Journal makes the point that “Republicans enjoy historically high levels of control over governorships and state legislatures, which they say shows the party’s potential if it can improve its message to minorities.

With assets such as this performing well I hope you can see why I am surprised that our Fund outperformed the market. It is also worth bearing in mind that we do not seek to outperform in every reporting period or in all market conditions, rather we seek to outperform the market and other funds over longer periods of time. The analogy I use for this is the Tour de France, which topically was won by a British rider - the now ‘Sir’ Bradley Wiggins - for the first time in 2012. The Tour is the greatest of cycling Grand Tours, with 21 stages run over 23 days. In the 100 years since the Tour was first run, no rider has ever succeeded in winning every stage of a Tour. Nor in my view will anyone ever achieve this. This is because the Tour encompasses three distinct types of stage: • the stages in which the riders form a peloton and riders can gain vital aerodynamic assistance by slipstreaming (or getting “a wheel”) from the rider(s) in front of them. A team can carry a sprinter (like Mark Cavendish) in the peloton and release him close to the line for the final sprint in an effort to win the stage; • time trials in which the riders are released individually and so cannot gain any assistance from each other. In order to maximise their own aerodynamic efficiency, the riders use tri handlebars, wear skin suits and aerodynamic helmets and often have solid rear wheels and wide rims on the front wheel.

This is a test of individual riding ability over the whole stage; and • mountain stages which are run as a team but involve significant climbs unlike the main peloton stages which are much flatter. A rider needs a very different physique to win as a sprinter to a time trialist or a mountain climber - compare Bradley Wiggins with Mark Cavendish - which is why no one can win all stages. The rider who wins the Tour is likely to be one who excels at one discipline - Wiggins is a time trialist, the discipline in which he also won a Gold medal at the 2012 Olympics - and is not too bad at, and obtains help from his team with, the other stages. Indeed on two occasions, the Tour has been won by riders who did not win a single stage.

While there, he worked with mathematician Shiing-Shen Chern, then at Berkeley, to develop the Chern-Simons invariants, certain geometric measurements which not only apply to mathematics but play a useful role in both quantum field theory and condensed matter physics. It was an exciting time, Simons says, because mathematicians and physicists were just starting to realize the intertwined nature of physics and geometry. “Now they are inextricably intertwined, as far as I can see,” he says. Simons had always been interested in finance, and in 1978 he decided to leave academia and go into business, starting a hedge fund management firm in Stony Brook, New York called Monemetrics. At first, it didn’t occur to Simons to apply mathematics to his business, but he gradually realized that it should be possible to make mathematical models of the data he was collecting. Simons started recruiting some of the best mathematicians and data-modeling experts from his days at IDA and Stony Brook. Monemetrics’ name was changed to Renaissance Technologies in 1982. The mathematical models the company developed worked better and better each year, and by 1988, Simons had decided to base the company’s trades entirely on the models, which “turned out to be a wonderful decision,” he says. Today, the firm manages roughly $20 billion in assets. The company’s great scientists and collaborative atmosphere are its “secret sauce,” Simons says.

” What I think it shows is that, unsurprisingly, traditional Republicans can win state and local elections in traditional states, and highly conservative Republicans can win elections in highly conservative states. The challenge the party faces lies in uniting behind a single candidate for nationwide office who can win in both. As long as the two Republican factions are unable to agree on a candidate who appeals to the huge number of independents in the middle of the political spectrum, the Republicans will be swimming upstream. When you put it all together, you see challenges and conundrums. Right now, the voting trends and demographics make it seem as though the Republicans will be out of power for a long time to come. But © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

© Oaktree Capital Management, L.P. All Rights Reserved. I’ve seen many pendulum-like swings in politics in my life, and I’m sure we’ll see many more in the battle between the left and the right for the middle-of-the-roaders who decide American elections. It’s the Weather, Stupid! In a curious aside, consider these facts:  According to CBS, 41% of voters said in an exit poll that Hurricane Sandy had played a significant role in their choice between the two candidates. 26% said it was “an important factor” and 15% said it was “the most important factor.”  Presumably most of the people who said they were influenced by Sandy were expressing a positive view on Obama’s handling of it. (It’s hard to imagine the logic under which Sandy would have caused someone to vote for Romney.) If you believe the exit polls, people who were positively influenced by the handling of Sandy could have made up all or more of Obama’s 2.8% margin of victory. If it’s true that Sandy was the deciding factor for 15% of the electorate, and if it caused just a fifth of those people to switch to Obama, that means without Sandy, Romney would have won. I find it shocking that the choice of a president for four years could turn on something as fickle as the weather. College Daze How did the “too close to call” headlines of the days just before the election turn into a resounding victory, which the Democrats will argue has given them a mandate to lead?

Simons retired as the company’s CEO in 2009 and became chairman of its board. He now dedicates much of his time and energy to philanthropy. In 1994, Simons and his wife, Marilyn Hawrys Simons, founded the Simons Foundation, which has grown into one of the largest charitable institutions to focus on support of basic research in mathematics and the sciences. Simons is also the founder and chairman of Math for America, whose mission is to improve mathematics education in U.S. public schools. He serves as a trustee of MIT; Brookhaven National Laboratory in Upton, New York; the Institute for Advanced Study in Princeton; The Rockefeller University in New York City; and the Mathematical Sciences Research Institute in Berkeley. He is chairman emeritus of the Stony Brook Foundation. Simons, now 76, has also found time to return to his first love, mathematical research. About a decade ago, he started thinking about mathematical objects called differential characters, which he and Jeff Cheeger had conceptualized years earlier, and which are now central to an area called differential cohomology. Simons, working with Dennis Sullivan, has made some meaningful progress in the field. “I’m supposed to be retired,” he says. “But I’m juggling a lot of things.Bios

In my view there is a moral here for investors. What we are trying to achieve with Fundsmith is to win the investment equivalent of the Tour de France for you-to outperform over a long period of time. However, we do not expect to outperform all the time or in all markets conditions. Rather our expectation is that we will perform relatively well in bear market conditions, and may struggle to keep pace in more bullish conditions, which is why I am surprised that we outperformed the market albeit modestly in 2012. It is important that our investors recognise that this is what we are aiming for. Too often investors seek to find fund managers who can outperform all the time and in all market conditions. The trouble is that no such person exists. But the attempt to find this mythical creature leads to some investors moving their assets between managers, incurring costs and most frequently ditching a manager who’s investment style is out of step with the current market in favour of one with recent good performance just as they are about to switch positions. Having said all that, how are we doing at winning the Tour? Since inception our Fund has managed an annualised return in Sterling of 12.6% p.a. versus a return of 6.6% p.a. for the MSCI. This seems like a satisfactory start on our investment Tour campaign. Our Fund remains the best performing fund in the IMA Global Sector since inception to the end of December 2012.

James Simons & C.N. Yang: Stony Brook Masters Series, May 21, 2009 Mathematics, Common Sense, and Good Luck: My Life and Careers, December 9, 2010 TED: A Rare Interview with the Mathematician Who Cracked Wall Street, recorded March 17, 2015 Advancing Research in Basic Science and MathematicsSubscribe to our newsletters to receive news & updates

How did Obama’s small edge in the popular vote turn into a 62%-38% margin in terms of the electoral votes that determine the winner? The answer lies in the peculiarities of our electoral college. I was traveling in Asia and the Middle East at election time, and I found myself having to explain a system in which:  In all but a few states, 100% of the electoral votes go to whoever wins the popular vote there, regardless of the margin.  Most of the 50 states – this year it was roughly 43 – are considered “uncompetitive,” meaning one party or the other enjoys a substantial, dependable majority. For that reason, a vote for a Republican is totally meaningless in a Democratic state like California, as is a vote for a Democrat in Republican Utah.  On the other hand, the electoral system gives voters in a few states disproportionate influence. Since the uncompetitive states’ electoral votes are not in play, elections are determined by only the few so-called “swing” or “battleground” states. In fact, this year many people thought the election might be determined largely by who won in just one state: Ohio.  Perhaps most glaringly, a candidate can be elected president with a majority of electoral votes despite having received fewer popular votes than another.

The main positive contributors to that performance in 2012 were: Intercontinental Hotels, L’Oreal, Reckitt Benckiser, Kone and Diageo. The main detractors from the Fund’s performance were: Procter & Gamble, McDonald’s, Imperial Tobacco, Becton Dickinson, and a Consumer Company which we are in the course of buying a position in and so would prefer not to name at this point. McDonald’s is a small position as it has only recently come within valuation range for us after reporting a number of periods with poor sales performance. We believe it is a business of the quality which we seek and therefore are willing to use this as an opportunity to buy stock. It might be worth thinking about the implications when a business which sells some meals for one dollar is struggling to grow sales. Clearly this is not because consumers are feeling flush and trading up. Portfolio turnover in the Fund in 2012 was 0.48%. This figure is flattered by the inflow of funds over the period which is not included in the calculation otherwise a new fund would have 100% turnover from investing cash inflows, but even so it is exceptionally low. Our only outright sale during the year was of SGS, the Swiss testing company. We remain convinced that it and the sector are good quality businesses, but the shares had reached the point at which they were one of the most highly rated within our Investable Universe and so we thought that there was better value to be found elsewhere.

Our system was designed in the eighteenth century to centralize the job of choosing a president in the hands of a few wise leaders and avoid the uncertainties associated with a widespread and uninformed populace with which it was hard to communicate. © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

We finished the year with 28 holdings up from 24 holdings at the end of 2011, which is towards the top end of our range but we are in the course of selling a holding which will reduce this number. Our outright purchases for the year were Choice Hotels, Domino’s Pizza, McDonald’s, Visa and the aforementioned Consumer Company. Our purchase of Domino’s is perhaps the one which requires most explanation since we sold it the year before.had

© Oaktree Capital Management, L.P. All Rights Reserved. But in the twenty-first century, with the impediments to a meaningful popular election much reduced, it’s time to reassess the benefits of the electoral college – it’s hard to say what they are – versus the costs in terms of potentially weird outcomes. In the days just before the election, it seemed that for the second time in twelve years we could have a president who’d lost the popular vote. That tells me it’s time to reassess our system of voting. The First Order of Business What do you think of when you hear the word “Greece”?  An uncompetitive, low-growth economy,  for years, a higher credit rating than it deserved,  the resultant ability to borrow money it shouldn’t have been able to, at interest rates that were unjustifiably low,  excessive public spending,  generous benefit promises that it can’t fulfill given the realities and, as a result,  soaring debt and deficits.  Consequently, the need to cut spending and increase taxes, and  mandated austerity and delevering, with very negative implications for economic growth. Now ask yourself what you think of when you hear the words “United States.” Certainly the facts aren’t the same: our economy is the world’s greatest (although not what it used to be), and we can print the world’s reserve currency, which Greece certainly can’t. But there are similarities. The situation in the U.S. isn’t a repeat of Greece’s but, as Mark Twain would have said, “it does rhyme.

been postponed. We took this as a bad sign in a banking market which is exemplified by a cartoon which shows a man sitting in front of a bank manager (you can tell this because there’s a sign on the desk saying “Bank Manager”) who says “I’d like to borrow some money” to which the Bank Manager replies “What a coincidence, so would we.” There is clearly nothing wrong with Domino’s but plenty wrong with the banking industry on which it was reliant for its refinancing. In the event, Domino’s proved us comprehensively wrong. Not only did it manage to refinance but they did so on terms which enabled it to pay a $3 per share special dividend. So I did what you should always do, but we so rarely manage to do, when we get it wrong a) admit this - most importantly to yourself; and b) reverse the decision. So Domino’s was repurchased Fortunately there was a period of share price weakness after the refinancing which enabled us to do this on reasonable terms but frankly that does not matter as much as whether the shares were still good value when we repurchased them, which we believe they were. It is always a mistaken strategy to wait for the shares to get below the point at which you sold them before repurchasing, or the even more common trait of waiting for a loss-making share purchase to get back to break even before selling.

As I am fond of saying, the shares are unlikely to follow this desired pattern since they do not know whether you own them or not or at what price you bought or sold. There are several morals to the Domino’s trades but the main one is that almost every time we sell a position in a quality company we get to regret it in terms of subsequent share price performance. The good news is that we don’t do it very often. This brings me onto the wider subject of the expenses borne by the Fund. The Ongoing Charges Figure (or “OCF” as it is now called) for the year is likely to be 16bps or 0.16% in addition to the Annual Management Charge. This is a 4bp reduction compared to 2011 figure. These expenses are often ignored both by investors and other fund managers. But, like all charges, they detract from the performance of the Fund, deserve proper attention and should be minimised. The Fund can only perform as well as the performance of the shares it owns and to the extent that performance is absorbed by expenses, the returns for investors will suffer. The majority of the costs borne by the Fund are the costs of running and maintaining the share register. These costs are driven by numbers of shareholders and transactions. We continue to focus on reducing these charges, ensuring the Fund benefits from economies of scale as it grows and does not overpay for services simply because of the increase in its size.

” The truth is that the U.S. has pressing fiscal problems, stretching as far as the eye can see:  in the short term, the “fiscal cliff,” in which already-mandated tax increases and spending cuts have the potential to take 4% off of GDP if nothing is done about them within the next six weeks,  in the medium term, trillion-dollar deficits unless there’s radical improvement, and  in the long term, entitlement promises that absolutely cannot be met. (With millions of Baby Boomers entering their senior years and living longer, we cannot afford the pensions and healthcare benefits that have been promised. The math is inescapable. If these programs are left unchanged, Social Security benefits will grow inexorably, and spending on healthcare has the potential to escalate without limitation.) The bottom line is that if we don’t want to be Greece, we can’t act like Greece. Something has to be done . . . and soon. Every year in which we add another trillion dollars to the national debt (and tens of billions to the annual interest bill) – and every year the excessive entitlement promises are allowed to compound – makes it harder to solve the problem. Vote “No” on Gridlock Political conservatism is associated with a desire for a small federal government, and that often leads to a preference for a divided government and the gridlock that goes with it. The argument is that since government doesn’t do much well, we’re better off if gridlock prevents government from doing much.

© Oaktree Capital Management, L.P. All Rights Reserved. People are entitled to a preference for inaction if they view things that way, but I’d venture that inaction is desirable only when conditions are benign. I wouldn’t want to see the government paralyzed by gridlock if we were attacked militarily, or if an epidemic needed fighting, or if we were on the edge of a depression, as I think we were in 2008. And I believe strongly that the fiscal problems outlined above need solving; they won’t go away by themselves. Our debt and deficits will recede only if we do some or all of the following:  cut spending  reduce waste  reform Social Security, Medicare and Medicaid  raise taxes  speed up economic growth In theory, even a gridlocked government can take action against waste, but I think the idea of big savings from doing so is largely an impossible dream. And conservatives would eagerly argue that the best way to foster growth isn’t for government to take action, but for it to get out of the way of the free enterprise system (I don’t fully disagree). But, especially to solve the shorter-term problems, I think we need progress on the other elements, and that will require constructive decision making in Washington. The opposite of gridlock is compromise. That’s what we need today. Compromise, however, doesn’t mean one party saying “We get all we want and you get none of what you want.

If the Fund remains at its current size, we would expect the Ongoing Charges Figure to fall by another 3bps in 2013. Perhaps surprisingly, the Ongoing Charges Figure does not include all charges the Fund has paid in the year. The commission paid on share purchases and sales are not included and neither is Stamp Duty or the bid/offer spread which is incurred in dealing. During the year, the Fund paid £231,000 in commission-less than 4bp on the value of the total trades. The vast majority of those trades were due to inflows into the Fund. Stripping out the commission on trades caused by the inflow, the amount of commission paid on trades executed voluntarily was under 1bp of the average funds under management. This compares with estimated charges incurred by the average UK mutual fund manager of about 1% pa excluding Stamp Duty.

Turning to the characteristics of our portfolio, probably the question I am asked most frequently is whether the strong performance of most shares in the Fund to date means that they are now over-valued. The weighted average free cash flow (“FCF”) yield, which is our primary valuation yardstick, of the companies in the portfolio started the year at about 5.8% and finished it at about 5.7%. This 5.7% FCF yield compares with a median yield on the non-financial stocks in the S&P 500 of about 6.1% and an average of 5.4%; or a median for the non-financial stocks in the FTSE 100 of 4.6% and an average of 4.9%. The valuation of our stocks on this basis therefore looks about the same or a bit better (cheaper) than the average. The yield is also significantly higher than the yield on government bonds which was previously known as the risk free rate before investors started to relearn that governments default. This is significant. The coupon on those bonds cannot grow over time whereas the free cash flow from our companies can. So if we can buy them with a higher FCF yield than the bond yield then we have probably created value. We should perhaps compare the FCF yield of the portfolio not with the yield on major government bonds but what we think that bond yield should be since government bond yields across the developed world are distorted by Quantitative Easing in which the central banks, controlled by the government, are the main or even the sole buyer of bonds.

” Deals like that can only be inked if one party holds all the cards: either the White House plus majorities in both the Senate (and preferably the 60 votes required to stop a filibuster) and the House of Representatives or, at minimum, majorities in both houses of Congress and enough votes to override a presidential veto. Both parties are far from that today, and that may remain the case for a long time. No, compromise means, “We get some of what we want and you get some of what you want.” In practice, it means elected officials have to vote for things they promised to fight and give up on things they swore to deliver. Unless you do that, the other guy doesn’t get any of what he wants – meaning he has no reason to go along. This is a reality that our political leaders have failed to confront and accept. While compromise comes at a cost, gridlock can cost more. Last year, some long-term U.S. debt was downgraded after a particularly unseemly battle over the federal debt ceiling. This occurred not so much because of our fiscal situation, but because our dysfunctional government showed itself to be unable to rise to the occasion and solve problems. Help Wanted In past big-picture memos, I have discussed some of the threats to American industrial performance in the years ahead, the dim job prospects of those not suited to work in the Information Age, and my belief that Americans will have to get used to declining relative standards of living.

We work on the assumption that government bonds would need to yield at least 1% over the expected rate of inflation to attract rational investors, and so we seek to invest in companies only when their FCF yield is the same as or more than that required bond yield. The return on capital of the companies in our portfolio averaged about 32% p.a. This compares to an average of about 20% p.a. for the non-financial stocks in both the S&P 500 and the FTSE 100. Bearing in mind the longevity and resilience of our portfolio companies I think we can remain confident that we own stocks with a superior fundamental performance to the average which is not fully reflected in their valuation relative to bonds or other equities. It may seem surprising that we can buy shares in quality companies at reasonable or even cheap valuations and thereby expect to generate superior investment performance. I have written a short research note in an effort to explain this entitled “Return Free Risk” which can be downloaded from our website at www.fundsmith.co.uk/research. The title is not a mis-type, rather it’s a pun. As investors we are taught that to obtain higher returns you must assume higher risk, but much of the evidence contradicts this assumption. The fact is that for much of the time you get better returns from investing in predictable high quality companies than in smaller, riskier, more obscure company shares.

On November 7, The New York Times carried an excellent article by Thomas L. Friedman entitled “Hope and Change, Part II.” In it, Friedman did a great job of outlining some of the things Washington will have to do in order for the outlook to improve. © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

But there appears to be a human desire to indulge in excitement and back the 100-1 shot rather than the favourite, and to engage in complicated bets such as the Yankee defined as “four selections and consisting of 11 separate bets: 6 doubles, 4 trebles and a fourfold accumulator”. Can you accurately calculate whether the odds on such a bet are fair, in your favour or the bookmakers favour? If you can’t, then the bookmaker has the advantage. For bookmaker, read “market”. The principle is the same. At Fundsmith we obtain excitement not from the delusion that we have discovered an investment that no other investors have found or from a long shot winning, but from delivering predictable, superior investment returns.

© Oaktree Capital Management, L.P. All Rights Reserved. The next generation is going to need immigration of high-I.Q. risk-takers from India, China and Latin America if the United States is going to remain at the cutting edge of the Information Technology revolution and be able to afford the government we want. . . . . . . my prediction is that the biggest domestic issue in the next four years will be how we respond to changes in technology, globalization and markets that have, in a very short space of time, made the decent-wage, middle-skilled job – the backbone of the middle class – increasingly obsolete. The only decent-wage jobs will be high-skilled ones. The answer to that challenge will require a new level of political imagination – a combination of educational reforms and unprecedented collaboration between business, schools, universities and government to change how workers are trained and empowered to keep learning. It will require tax reforms and immigration reforms. America today desperately needs a center-right Republican party offering merit-based, market-based approaches to all these issues – and a willingness to meet the other side halfway. The country is starved for practical, bipartisan cooperation, and it will reward politicians who deliver it and punish those who don’t. . . .

I’m frustrated when I see Americans of both parties failing to punish – or even encouraging – behavior on the part of their elected officials that is fractious, partisan, ideological and non- compromising. Gridlock and inaction won’t solve our problems. Cooperation, adaptability and Friedman’s “imagination” must be the watchwords for the years ahead. We need constructive action to solve the many problems we face, and there’s only one way for it to materialize: bipartisanship. Signs of Spring While I was on my recent travels, several people asked me to suggest a potential catalyst for better markets. There isn’t any mystery. I felt (and feel) the clearest answer lies in bipartisan action to resolve our fiscal crises, starting with the fiscal cliff. In that connection, John Boehner, Speaker of the House of Representatives, gave a noteworthy speech the day after the election. I’m going to quote some of the encouraging statements here (highlighting my very favorites). The American people have spoken. They have re-elected President Obama. And they have again elected a Republican majority in the House of Representatives. If there is a mandate in yesterday’s results, it is a mandate for us to find a way to work together on solutions to the challenges we face together as a nation. My message today is not one of confrontation, but of conviction. In the weeks and months ahead, we face a series of tremendous challenges – and a great opportunity. . . .

The marginal fall in free cash flow yield of our portfolio is a result of the rise in the share prices of the companies in the portfolio nearly offset by a 9.6% increase in the free cash flows per share produced by our companies. On the whole, we would prefer that the share price performance of our stocks tracked the underlying free cash flow performance of the companies since performance from increasing valuations is a finite game which also tends to even out over long periods of time, and we intend to run this portfolio for a long period of time. Similarly, we would prefer that the increase in free cash flow from our portfolio companies was derived from top line volume growth, albeit from companies which are able to maintain good prices and high margins on their sales. However, in the low growth environment which we occupy, free cash flow growth is increasingly a result of cost cutting and/or share buybacks. These are also finite sources of growth even when share buybacks are executed in a way which creates value for remaining shareholders, which is not always the case. But it is better to be invested in companies which can maintain growth in free cash flow per share by these means in these circumstances than in companies which can’t. The historical dividend yield of the portfolio is 2.3% and we forecast the prospective yield is 2.5%. Dividend cover remains 2.6 times. Yield is an important element of investment return.

Over the long run, it has contributed a higher percentage of equity performance than share price appreciation. But I would caution against a blind search for higher yields. The current record low interest rates and bond yields have produced a desperate search by investors for yield. The investment industry stands ready to supply products to satisfy any craving by investors, not always to their advantage. Investment flows have started to gravitate to higher risk bonds such as junk bonds and emerging market debt as government bond yields in the supposed safe haven countries have shrunk towards zero. The yield on US high yield or junk bonds sank to 6% at the beginning of 2013, the lowest ever recorded. New issuance has boomed in high yielding real estate investment trusts, and so-called master limited partnerships in energy stocks and pipeline companies (I wonder how many investors can explain how they work). Even Collateralised Loan Obligations (“CLO”s), part of the toxic alphabet soup of instruments which helped start the Credit Crisis have been making a comeback with issuance trebling in 2012. How soon we forget. Equity investors are far from immune from this trend. For many investors the search for yield is satisfied by investing in an income fund which invests in high yielding equities. This can be a mistake.

The American people this week didn’t give us a mandate to do the “simple” thing. They elected us to lead. They gave us a mandate to work together to do the best thing for our country. We know what the best thing would be. It would be an agreement that sends the signal to our economy, and to the world, that after years of punting on the major fiscal challenges we face, 2013 is going to be different. It would be an agreement that begins to pave the © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

At certain levels of yield all that is happening is that the investor is being paid back some of the capital value of his or her investment as income, and taxed upon it. All bar one of the income funds in the IMA Global Equity Income sector apply their charges not to income but to capital in order to maximise their stated yield. This has some obvious disadvantages, not the least of which is that it maximizes the investor’s tax bill as Income Tax is higher than Capital Gains Tax and much more difficult to avoid or defer. It also exaggerates the true yield, which has obvious marketing advantages for the funds. We think that investors should not focus solely upon yield but rather on the total return they derive from a share or a portfolio, and should not take the dividend yield as an exact indicator of what they can afford to remove from the fund periodically and spend.regular

© Oaktree Capital Management, L.P. All Rights Reserved. way for the long-term growth that is essential if we want to lift the cloud of debt hanging over our country. . . . . . . the American people . . . expect us to solve the problem. And for that reason, in order to garner Republican support for new revenues, the president must be willing to reduce spending and shore up the entitlement programs that are the primary drivers of our debt. . . . For purposes of forging a bipartisan agreement that begins to solve the problem, we’re willing to accept new revenue, under the right conditions. . . . The president has signaled a willingness to do tax reform with lower rates. Republicans have signaled a willingness to accept new revenue if it comes from growth and reform. Let’s start the discussion there. I’m not suggesting we compromise on our principles. But I am suggesting we commit ourselves to creating an atmosphere where we can see common ground when it exists, and seize it. . . . Mr. President, this is your moment. We’re ready to be led, not as Democrats or Republicans, but as Americans. We want you to lead -- not as a liberal or a conservative, but as the President of the United States of America. We want you to succeed. Let’s challenge ourselves to find the common ground that has eluded us. Let’s rise above the dysfunction, and do the right thing together for our country in a bipartisan way. “We want you to succeed.” Wow!

income from your investment in the Fund without reference to the dividend yield. I am convinced that this, rather than buying high yielding shares which may have poor overall returns and managing them in a fund which overstates the yield by applying charges to capital, is the right way to address this need. It seems like an odd innovation for a fund manager to devise a way to make it easier for investors to withdraw money, so I doubt this will catch on with other managers. The average company in the portfolio was founded in 1902 – this time last year it was 1894. Clearly some of our purchases have shortened the average age of our companies which has produced a worrying leap on average into the twentieth century. Looking forward to 2013, one reasonably likely outcome is that we might experience “Groundhog Year” in which there are more EU summits, further commitments to do “whatever it takes” whilst actually doing nothing, another “rescue” deal for Greece, wrangling over the US debt ceiling to follow the Fiscal Cliff, and more QE to keep an otherwise stagnant economy across the developed world alive on life support. However, it seems likely that one thing is changing: the mandate of central banks in the developed world. The Fed recently doubled its monthly QE programme to $85bn and said it would maintain this programme at least (emphasis added) until unemployment falls below 6.5%.

As a point of contrast, two years ago, another Republican leader said, “The single most important thing we want to achieve is for President Obama to be a one-term president.” That was full-contact politics at its worst, with a goal not of solving the nation’s problems, but of winning the next election. Speaker Boehner’s remarks are 180 degrees from that . . . and all we could ask for at this point. I’m not a cynic. I want to believe Speaker Boehner means what he says. The important thing is that a spirit of cooperation exists. Hopefully the details can be worked out (although the two parties are at absolute loggerheads on the subject of raising taxes on big earners, and no one should underestimate the difficulty this presents). I am encouraged for now, and I’m going to stay that way until given reason not to be. President Obama’s Reply I’m proud to share the news that on the strength of my memos, I have been asked to craft a response for President Obama on this subject. I include my first draft below. (Actually, there was no such request, but I’ve done it anyway.) Ladies and gentlemen: I am speaking to you tonight, not to revel in victory, but to chart a course for progress. Not to assert just the goals of my administration and my supporters, but to describe what we’re going to get done for all the American people, and how. © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

© Oaktree Capital Management, L.P. All Rights Reserved. In our first term, we took stimulative actions that rescued our country from the threat of depression, and we fought to enact a controversial program that will make healthcare more readily available. There’s far more we didn’t get done, and much of that was because of a lack of bipartisanship in Washington. A lot has to be dealt with in the next four years. The list starts with handling the fiscal cliff looming ahead and goes on to include a large number of economic, social and international issues. The basic facts in Washington are unchanged by the election. Democrats occupy the White House and possess a slender majority in the Senate, but we’re in the minority in the House and our numbers in the Senate aren’t sufficient to cut off debate. Thus control of government continues to be divided. That means progress will be grudging and limited unless we can resurrect a genuine spirit of compromise. For me to succeed in my job under these circumstances, I must recognize that almost as many people voted for my opponent as voted for me, and that there are almost as many Republicans in the Senate as there are Democrats (and more in the House). Thus I promise not to act as if only our ideas have merit, or as if only our principles are valid.

Shinzo Abe became Prime Minister of Japan for the second time with the stated intention of making the Bank of Japan target an increase in inflation. Mark Carney, the much heralded new Governor of the Bank of England, got off to an unusual start by announcing seven months before he starts work that he thinks there should be a debate about whether central bankers should currently be targeting nominal GDP growth i.e. ignoring inflation. Now depending upon your point of view this is either good news because it means yet more stimulus will be applied or bad news because you do not think that the additional stimulus will do much to achieve economic growth or increased employment but it will risk side effects which can be as bad or worse than the ailment they are seeking to treat. I am in the latter camp. I think that central bankers should be independent of government and should be concerned with the soundness of the currency, and if they have the regulatory authority, the soundness of the banking system. Allowing them to stray outside that is dangerous as it will lead to confusion of fiscal and monetary policy, or in plain English, governments will be able to fund their profligate spending programmes by getting the central bankers to print more money and buy their bonds until the employment or nominal growth targets are achieved, or even beyond (note the term ‘at least’ used by the Fed). At some point, the inevitable consequence of this is inflation and currency depreciation.

In order to win support for the things we think are most important, we will make room to the greatest degree possible for the things our colleagues across the aisle deem important, as long as the overall result moves our country in the right direction. What matters most isn’t winning elections, it’s doing right for America. I believe the party that does more of that will win most elections anyway. The end will be won if the means are right. You have my pledge that they will be. That’s the best I can do. The rest is up to our elected officials. As my British friends say, “fingers crossed.” November 19, 2012 © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.

The newer generation of central bankers such as Mr Carney have yet to experience that. When they do, they may discover that when inflation takes hold it does not conveniently stop at some predetermined target rate. They may also find that the only device they have to control inflation is the blunt instrument of interest rates, and a significant rise in rates would have some interesting effects on the affordability of government debt, private debt and the economy in its current condition. You might legitimately point out that depreciation of the major currencies is a bit tricky as they are all trying to depreciate against each other in order to achieve some competitive advantage. But maybe they will all depreciate against hard assets, or to put it more simply-inflation.

Still whilst we wait to see if or when this scenario comes to pass, the good news is that macro views and developments have no bearing on our strategy; increasingly desperate attempts to stimulate the economy are far more likely to stimulate the valuation of our portfolio (not that we like to make money that way); and our stocks are likely to be a relatively good hedge against a resurrection of inflation. Happy New Year. Yours sincerely, Terry Smith CEO Fundsmith LLP Important information: An English language prospectus for the Fundsmith Equity Fund is available on request and via the Fundsmith website and investors should consult this document before purchasing shares in the fund. Past performance is not necessarily a guide to future performance. The value of investments and the income from them may fall as well as rise and be affected by changes in exchange rates, and you may not get back the amount of your original investment. Fundsmith LLP does not offer investment advice or make any recommendations regarding the suitability of its product. This financial promotion is intended for UK residents only and is communicated by Fundsmith LLP which is authorised and regulated by the Financial Services Authority.

© Oaktree Capital Management, L.P. All Rights Reserved. Legal Information and Disclosures This memorandum expresses the views of the author as of the date indicated and such views are subject to change without notice. Oaktree has no duty or obligation to update the information contained herein. Further, Oaktree makes no representation, and it should not be assumed, that past investment performance is an indication of future results. Moreover, wherever there is the potential for profit there is also the possibility of loss. This memorandum is being made available for educational purposes only and should not be used for any other purpose. The information contained herein does not constitute and should not be construed as an offering of advisory services or an offer to sell or solicitation to buy any securities or related financial instruments in any jurisdiction. Certain information contained herein concerning economic trends and performance is based on or derived from information provided by independent third-party sources. Oaktree Capital Management, L.P. (“Oaktree”) believes that the sources from which such information has been obtained are reliable; however, it cannot guarantee the accuracy of such information and has not independently verified the accuracy or completeness of such information or the assumptions on which such information is based.

This memorandum, including the information contained herein, may not be copied, reproduced, republished, or posted in whole or in part, in any form without the prior written consent of Oaktree. © OAKTREE CAPITAL MANAGEMENT, L.P. ALL RIGHTS RESERVED.