FPA FUNDS UPDATE
http://www.fpafunds.com
mutual funds managed by First Pacific Advisors, LLC
FPA Capital · FPA Crescent · FPA New Income · FPA Paramount · FPA Perennial
distributed by FPA FUND DISTRIBUTORS, INC.
11400 West Olympic Boulevard, Suite 1200 Los Angeles, California 90064 (800) 982-4372 Fax (310) 996-5450 http://www.fpafunds.com
FPA Capital Fund Commentary
We believe there are still many challenges our economy will face in the coming quarters, if not years. It is
likely that there will be a series of false starts to a sustainable economic recovery and, therefore, corporate profits.
Market rallies should be viewed with a degree of caution until the excesses have been purged and the country is on
stronger financial footing.
Unfortunately, we do not believe all of the excesses have been wrung out of the system. Namely, we expect
residential foreclosures to continue at a brisk pace for the remainder of this year and into next. The government’s
response to ameliorate the mortgage foreclosure problems does not appear to be effective. While the government
has spent or guaranteed over $2 trillion trying to stabilize house prices, putting money in people’s wallets is not
likely to create a healthy mortgage market. Rather, it is robust home purchases that will affect home prices and,
thus, foreclosures. Eventually, home prices will reach a price that encourages buyers to get off the sidelines and put
capital to work.
Another area that we expect will be hitting the economy in the next several years is commercial real estate. The
excesses in this segment are just now starting to be realized. We estimate that over $400 billion in commercial real
estate loans could be charged off over the next two or three years. Currently, there is over $100 billion in
foreclosures, and the loss rates on these loans could be in the 50% range.
Another reason we remain cautious is the federal government’s huge budget deficit for this year, and expected
large future budget deficits. We believe these deficits have the potential to push longer-term interest rates up to a
level that is much more competitive with stocks. In order to attract the capital to finance the federal budget, interest
rates on ten-year Treasuries have risen from 2% to 3.7% over the past couple of quarters. Should Washington
continue to spend money like it is going out of style, we would expect interest rates to continue to climb.
Generally, increasing interest rates and, more importantly, expectations for higher inflation-adjusted real interest
rates, have not been positive signals for stocks.
Of course, the politicians in D.C. could raise taxes to try to cover the inexorable increases in government
spending. But raising taxes on productive capital and people will likely retard the growth potential of our national
economy. Thus, as the federal government pursues its large spending initiatives, the real economy is not likely to
grow at its long-term potential rate, due to higher interest rates, higher taxes or a combination of both.
Clearly, not all of the economic data has been negative. For example, consumer confidence has picked up from
this year’s earlier low level, orders for many goods have stabilized and turned up in some cases, and some of the
large banks which received government TARP money have paid back the Treasury Department but some are still
borrowing under the FDIC guarantee program. All this talk about the recession ending and green shoots is missing
the point. The more important question is what the nature of the economic recovery is likely to be, that is, the
strength and duration of it. Our opinion is that neither the strength nor the duration that is baked in the market’s
expectations is likely to be realized.
Price/Earnings (Trailing 12 mos.) 9.3x
Price/Book Value 1.0x
Debt as a % of Capital 22%
Return on Equity (Trailing 12 mos.) 8%
Median Capitalization $2.5 billion
Average Capitalization ($ Weighted) $2.8 billion
Please visit our website, http://www.fpafunds.com, to view the entire Commentary included in the March 31, 2009 Report, or under
Historical Commentary. Comments expressed are the opinions of the Fund managers, and there is no guarantee their
forecasts will prove to be accurate. To obtain more information about FPA Funds, call (800) 982-4372 for a prospectus.