Buffett is buying in Japan. This overseas value-stock fund is also making bets there. Is it a good way to diversify?

By Philip van Doorn

The Columbia Overseas Value Fund is an example of an active management style of running a portfolio that doesn't mirror a stock index

After a long period of underperformance when compared with the U.S. equity market, stocks in other countries are holding their own this year. One way to lower your overall risk with real diversification is to add exposure to an active international management style that doesn't mirror a broad stock index.

One example is the $2.7 billion Columbia Overseas Value Fund , which is rated four stars out of five by Morningstar in its Foreign Large Value category. Fred Copper and Daisuke Nomoto co-manage the fund and described its strategy during an interview. They are based in Boston.

Here are total returns through April 13 for the fund's institutional shares; its benchmark, the MSCI EAFE Value Index (currency-adjusted by FactSet); and its Morningstar category, with average annual returns for longer periods:

Fund, index or category                   Total return -- 2023  Average return -- 3 Years  Average return -- 5 Years  Average return -- 10 Years 
Columbia Overseas Value Fund -- Class I                   8.1%                     15.1%                      2.6%                       5.6% 
MSCI EAFE Value Index -- U.S. dollars                     8.7%                     15.1%                      2.4%                       4.3% 
Morningstar Foreign Large Value category                 9.4%                     13.9%                      2.5%                       4.0% 
                                                                                                               Sources: FactSet, Morningstar 

All returns in this article include reinvested dividends. Returns for the fund are net of annual expenses, which are currently 0.91% of assets under management for the institutional shares.

The MSCI EAFE Value Index is made up of 481 stocks (as of March 31) in developed markets excluding the U.S. and Canada that have "overall value style characteristics" based on book value, earnings estimates and dividend yields, according to MSCI. It is weighted by market capitalization; the largest 10 components had a 19% weighting in the index as of March 31. You can read more about the index here.

The Columbia Overseas Value Fund's active share was 88.32% as of Dec. 31. A fund's active share is a measure of how differentiated it is from its benchmark. The higher it is, the more differentiated it is. This is an important measure if you are paying relatively high fees for active management. If you invest in a fund with a low active share, you are paying more essentially to mirror an index, which you could do much less expensively with a passively managed exchange-traded fund.

The fund tends to hold about 100 stocks. This might seem a high number at first, but Copper said the Columbia Overseas Value Fund can actually be considered fairly concentrated, since its stocks are selected from an investible universe of about 3,000 companies. The top holdings of the fund are listed below.

Copper said the "countertrend rally" for stocks that began during the fourth quarter after the decline springing from the sharp increase in interest rates was "dominated by the cyclical part of the market." He now thinks we are heading into "the second leg of the downward move in the global economy."

This combination of slowing economic growth and stubbornly high inflation is dangerous, he said, because "access to capital is tight and volatility is high."

So Copper and Nomoto emphasized the importance of the business performance of individual companies, rather than trying to ride or counter economic trends.

Nomoto said he, Copper and Columbia Threadneedle's global team of analysts use a three-part process to identify companies for investment. The first test is a quantitative look to isolate companies with "great valuation, earnings momentum and earnings quality." This is followed by a financial analysis of an individual company going back five to 10 years. The third test is a top-down macro assessment.

The Columbia Overseas Value Fund holds some stocks of Chinese companies, but at present it only buys shares listed in Hong Kong. That may change. When asked about concerns related to the validity of Chinese companies' financial statements in light of non-Chinese regulators' limited access to audit reports, Nomoto said they "dive deeply into the available information" and that analysts who speak Chinese and have deep local knowledge provide more insight into what is happening in China, "including political developments."

Columbia Threadneedle's China specialists "talk to local management to try to understand what a company is trying to do, and compare it with the numbers," he said.

Copper said the "inefficiency of information dissemination is also an opportunity" when it comes to stocks of Chinese companies. "In the absence of information, markets will track something else, which leads to irrational price moves," which can work in the fund's favor, he said.

Three examples

Copper said the fund's portfolio was "defensively positioned." One example he gave was Koninklijke Ahold Delhaize N.V. . The company is a large food retailer, and its supermarket chains include Stop & Shop and Hannaford in the U.S.

"This is one of the best-run companies I have come across," he said. Over the years, "people expected Walmart (WMT) and Amazon to put them out of business. But the company has produced high levels of free cash flow and returned a ton of capital to investors. "

Ahold Delhaize has a dividend yield of 3.26%, according to FactSet. Copper said the fund has held the stock, on and off, for more than 10 years.

Nomoto discussed MatsukiyoCocokara & Co. , a large drugstore chain in Japan with about 3,000 stores. The fund has held the shares since 2016, he said.

"As you can imagine, earnings predictability is very high for this drugstore company compared with other companies," he said. And MatsukiyoCocokara can also be a play on the reopening of Asia following the long period of COVID-19 pandemic restrictions.

"Japan is going to completely lift COVID restrictions in May," Nomoto said. He added that before the pandemic, Chinese tourists had provided more than 10% of the company's sales.

The third example is Itochu Corp. , which is a Japanese trading company. The term "trading company" is pretty much exclusive to Japan. This is a group of conglomerates that traditionally acted as facilitators of trade but have evolved into diversified holding companies "similar to Berkshire Hathaway (BRKA)," Nomoto said. He added that the diversified business model is "hard to replicate, given the breadth and depth of expertise of each business they operate."

Copper said that the trading companies broadly follow a model similar to Berkshire's, but with more of an orientation toward natural resources.

This week, Berkshire Hathaway CEO Warren Buffett said the company had increased its stakes in five Japanese trading companies to 7.5% apiece. Itochu is one of them, with Berkshire its largest shareholder, according to FactSet.

Nomoto said that some investors shy away from conglomerates, which has created a "perception gap for us to exploit." He also said that continuing share buybacks mean the Columbia Overseas Value Fund's stake in the company keeps rising.

He added that the Columbia team is in "constant dialogue" with Itochu, including with high-level executives. "It is a long-term holding and we still believe it is a company to stick with because of the high quality of the businesses, management, valuation and a good shareholder return policy."

Top holdings

Here are the largest holdings of the Columbia Overseas Value Fund as of Feb. 28:

                             Company   Ticker  Country      % of portfolio  Dividend yield 
Shell PLC                             UK:SHEL  U.K.                   4.2%           3.40% 
TotalEnergies SE                      FR:TTE   France                 3.8%           4.81% 
British American Tobacco PLC          UK:BATS  U.K.                   2.9%           8.08% 
AXA S.A.                               FR:CS   France                 2.8%           5.83% 
ING Groep N.V.                        NL:INGA  Netherlands            2.7%           5.56% 
Banco Santander S.A.                  ES:SAN   Spain                  2.6%           2.74% 
iShares MSCI EAFE Value ETF             EFV    U.S.                   2.4%           3.85% 
Koninklijke Ahold Delhaize N.V.        NL:AD   Netherlands            2.4%           3.26% 
Sumitomo Mitsui Financial Group Inc.  JP:8316  Japan                  2.4%           4.22% 
BNP Paribas S.A. Class A              FR:BNP   France                 2.4%           6.83% 
                                                                           Source: FactSet 

Click on the ticker for more about each company.

Click here for Tomi Kilgore's detailed guide to the wealth of information available for free on the MarketWatch quote page.

When asked about the focus on energy for the fund's two largest holdings, Copper said, "we are very bullish on the price of energy as we feel it is the supply side of the equation that is going to dominate. Basically, we've stopped looking for fossil fuels, yet demand continues to grow."

Don't miss:This fund shows how you can get your money's worth paying for active management

-Philip van Doorn

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