FPA Queens Road Small Cap Value Fund Q4 2021 Commentary

Trailing Performance (%)								Current Market Cycle Performance
As of Date: 12/31/2021	S.I.	15 Years	10 Years	5 Years	3 Years	1 Year	QTD	06/05/07- 09/30/2021
FPA Queens Road Small Cap Value	10.11	8.43	10.79	10.90	18.86	23.19	8.80	7.76
Russell 2000 Value TR USD	9.17	7.19	12.03	9.07	17.99	28.27	4.36	6.88

The FPA Queens Road Small Cap Value Fund (“Fund”) commenced operations on June 13, 2002. Fund performance shown is for the Investor Class shares (QRSVX). Periods greater than one year are annualized. Fund performance is shown net of all fees and expenses and includes reinvestment of all distributions. Fund performance does not reflect the deduction of taxes that a shareholder would pay on Fund distributions or the redemption of Fund shares, which would lower these figures. An investor cannot invest directly in an index. S.I. = since inception.

* Prior to November 1, 2020, the performance shown reflects the historical performance of the Fund when Bragg Financial Advisors, Inc. (“BFA”) served as investment adviser of the Fund. Effective November 1, 2020, FPA became the investment adviser of the Fund and BFA transitioned to serving as the sub-adviser. BFA continues to be responsible for the day-to-day management of the Fund, subject to FPA’s oversight. No changes to the Fund’s principal investment strategies were made in connection with these changes in management of the Fund, and Steve Scruggs, CFA, Director of Research and Senior Portfolio Manager for BFA, continues to serve as the portfolio manager for the Fund.

From inception of the Fund to December 31, 2004, BFA and its affiliates voluntarily absorbed certain expenses of the Fund and voluntarily waived its management fee. Had BFA not done this, returns would have been lower during that period. Effective January 1, 2005 through October 31, 2020, BFA charged a single unitary management fee and contractually agreed to pay all operating expenses of the Fund except for brokerage, taxes, interest, litigation expenses, and other extraordinary expenses.

The Fund’s Total Annual Operating Expenses before reimbursement is 1.07% (Investor Class), 0.96 % (Advisor Class), and 0.91% (Institutional Class) as of the most recent prospectus. As of the most recent prospectus, First Pacific Advisors, LP, the Fund’s Adviser, has contractually agreed to waive its management fees and to make payments to limit Fund expenses, until February 1, 2024 so that the total annual operating expenses (excluding interest, taxes, brokerage fees and commissions payable by the Fund in connection with the purchase or sale of portfolio securities, fees and expenses of other funds in which the Fund invests, and extraordinary expenses, including litigation expenses not incurred in the Fund’s ordinary course of business) of the Fund do not exceed 1.04%, 0.99% and 0.89%, for Investor Class, Advisor Class, and Institutional Class shares, respectively. These fee waivers and expense reimbursements are subject to possible recoupment by the adviser from the Fund in future years (within the three years from the date when the amount is waived or reimbursed) if such recoupment can be achieved within the lesser of the foregoing expense limits or the then-current expense limits. The expense limit agreement may be terminated only by the Fund’s Board of Trustees, upon written notice to the adviser.

Market Cycle reflects the most recent market cycle (peak to peak) defined as a period that contains a decline of at least 20% from the previous market peak over at least a two-month period and a rebound to establish a new peak above the previous one by Russell 2000 Value Index. The current cycle is ongoing and thus is presented through the most recent quarter-end. Once the cycle closes, the results presented may differ materially.

Past performance is no guarantee, nor is it indicative, of future results. Current performance may be higher or lower than the performance shown. This data represents past performance and investors should understand that investment returns and principal values fluctuate, so that when you redeem your investment it may be worth more or less than its original cost. Current month-end performance data, which may be lower or higher than the performance data quoted, may be obtained at www.fpa.com or by calling toll-free, 1-800-982-4372.

Please see important disclosures at the end of the commentary.

Dear Fellow Shareholders:

FPA Queens Road Small Cap Value Fund (“Fund”) returned 23.2% in 2021. This compares to a 28.3% return for the Russell 2000 Value Index during the year. During the fourth quarter, the Russell 2000 Value Index rallied sharply early, fell off sharply from early November through mid-December, and then rallied during the last two weeks of the year to finish up 4.4%. The Fund was up 8.8% over that time. For the quarter, small value stocks continued to outperform relative to the shares of small growth companies, which finished the quarter flat, marking the fifth consecutive quarter small cap value outperformed small cap growth. The 28.3% return for the Russell 2000 Value Index during 2021 outpaced the Russell 2000 Growth Index, which was up 2.83%, the second-largest outperformance of the value index over the growth index since the indices were created in 1979.1 Despite the recent outperformance of small value over small growth, we believe the valuation differential between value and growth still favors small value and that small value is poised to continue its relative outperformance.

2021 Contributors and Detractors² Contributors

• Synaptics, a developer of human interface (HMI) hardware and software, has continued its strategic shift to higher margin business, primarily Internet of Things (IOT) products. As we’ve followed management’s strategic shift towards higher-margin markets, we note that the company’s return on invested capital (ROIC) has steadily risen from around 8.5% in 2019 to the mid teens for the 12 months ending 12/31/2021.3 While we believe the recent and expected performance of the company are positives, valuation has become a concern and we are trimming our position.

• ServisFirst Bancshares, a full-service commercial bank, continued to increase its deposits and loans during the quarter. In spite of growing assets from $10 billion to $15 billion over the last 18 months, we believe the company is poised for more growth – it has a record-high loan pipeline and continues to hold $4.5 billion in cash at the Federal Reserve as of 12/31/2021.4 As one of the largest holdings in the portfolio, we remain confident in the company’s long-term prospects.

• American Equity Investment Life Holding Company, a leading writer of fixed index annuities, continued expanding its channel distribution to increase sales and made progress on expanding its interest spread. Several strategic relationships were announced during the year which benefited the company in 2021 and we expect the benefits to expand over the next several years.

• Fabrinet, a manufacturer of optical communications sensors and equipment, announced better-than- expected results5 on increased demand for its telecom and datacom products, despite continuing supply chain disruptions. While supply chain issues had a significant impact on the company’s automotive business, it was less than expected (automotive is a small but growing market for the company). We are impressed by the company’s execution and held a 3.4% position at quarter end.

• Concentrix, a customer experience solutions provider, spun off from one of our other portfolio holdings (Synnex) in December of 2020, continued to validate its value proposition by adding over 24 new clients in the fourth quarter, continuing a trend. The company, which expects to achieve above-average market growth and improved margins,6 initiated a dividend during the year. Given the company’s growth expectations and what we believe to be a very reasonable valuation, we like the investment opportunity the company offers.

Detractors

• Schweitzer-Mauduit International, a product engineering and manufacturing company, fell during the year because of supply chain issues and input cost inflation. The company’s margins suffered, but the company expects a normalization by mid-2022. The company made a significant acquisition during the second quarter of 2021 (Scapa Group) at what we think was a bargain price, however scarcity problems and inflation negatively impacted Scapa’s initial performance. The company has aggressively raised prices and worked through a significant amount of its supply issues. Demand hasn’t been a problem for the company, and as its results normalize relative to the supply/inflation issues, we think the company remains a very attractive opportunity.

• Science Applications International Corp., a federal information technology contractor, declined during the year. The company which derives 98% of its revenue from the federal government,7 is a slow-growing, consistently profitable IT provider that supplements organic growth with add-on acquisitions. It operates in a competitive, low-margin business, but given the company’s visibility, entrenched position, and low valuation, we remain positive on the company’s outlook.

• TreeHouse Foods, Inc., a manufacturer and distributor of private label food, announced in November 2021 a plan to explore strategic alternatives. We think this is a wise decision as we think there is unrecognized value in the company. While the company has made progress in its strategic transition begun in 2018, the rationale the company gave for exploring strategic options by either selling the entire business, or major parts of it, makes sense. We continue to follow developments closely.

• Horace Mann, an insurance provider to teachers and educators, 2021 earnings were negatively impacted by above-average catastrophic losses. The insurer targets K-12 educators and administrators and holds a strong position in that niche. In 2021, the company acquired Madison National Life, which provides group life and disability products. We think the acquisition will create value as the company expands its product offering to its key market.

• Equity Commonwealth declined modestly during the year as its attempted $3.4 billion acquisition of industrial REIT, Monmouth, was rebuffed (Monmouth was acquired later for $4 billion by Industrial Logistics Properties Trust). Equity Commonwealth, headed by Sam Zell, is a REIT that has sold off substantially all its properties over the last eight years and now boasts a balance sheet with $3 billion in cash and around $120 million in debt.8 Zell has shown himself to be very patient with deploying this capital, and we believe this investment will require a lot of patience. Given his track record, we are confident he will make a shrewd acquisition when the time is right.

Additions & Subtractions

During the quarter we trimmed several positions. We will identify those when we are no longer trading in those positions.

We continued to add to mortgage insurer MGIC Investment Corp. The much-maligned private mortgage insurance market is not without its risks, most notably regulatory risk. The risks are real, but we think they are overblown and not existential. The company trades at close to our estimate of adjusted net tangible assets, which protects our downside. The company has $2.5 billion in excess capital, some of which will be used to accelerate its share buybacks.9 We generally aren’t supportive of large buyback programs, but we believe it’s a smart move in this situation. The company’s tangible net value and attractive valuation more than offset our concerns of increased competition and regulatory risk.

Economic Outlook

2021 was a great year for U.S. equities, with most broad-market indices ending the year near all-time highs. Stocks rose on strong earnings growth, continued monetary and fiscal stimulus from Washington, and optimism in controlling the COVID virus. The bounce back in profits expected for 2021 occurred as predicted, with profits for the companies in the S&P 500 growing approximately 45% for the year compared to the COVID-related easy comparisons in 2020. When compared to 2019 S&P 500 earnings, the 2021 S&P 500 earnings are approximately 27% higher.10

As we compare the outlook today to our outlook at the beginning of 2021, we see a mixed bag of news. As we enter 2022, the Federal Reserve (FED) has shifted from an accommodative position to a more hawkish one. The Fed is poised to raise the federal funds rate, to taper its monthly purchase of bonds, and to allow maturing bonds to roll off its balance sheet. The Fed will have to tread carefully because the economy and markets have been gorging on Fed liquidity for over a decade. As usual, the Fed has stated that these actions are data dependent, contingent on economic growth, inflation, and the employment situation. As of January 25, 2022, the International Monetary Fund forecasts GDP growth for 2022 to be 4.5%, unemployment sits at 3.9%, and the inflation rate hit 7% during December 2021. As these numbers change, so will the Fed’s plan.

Developments that could change the economic outlook for 2022 resulting in the Fed to change its course:

• Supply Chain Disruptions: From what we’re hearing from company executives, supply chain and logistical problems experienced throughout 2021 seem to be lessening to a degree. Most of our portfolio companies have navigated these issues admirably, but challenges remain. Various developments could set back the supply chain recovery, such as local and regional COVID outbreaks (as recently experienced in Xi’an, China), geopolitical issues (Taiwan, Ukraine, et. al.), increasing labor shortage problems, or imprudent political actions. While these risks are real, if they occur, we think they will be managed more effectively than in 2021.

• Resurgence of COVID-19: The bounce back in aggregate demand we expected coming out of the initial shutdowns has occurred and GDP growth was robust, reported at an annualized growth rate of 6.9% in the fourth quarter. This quarterly growth, the best since 1984,11 occurred despite the resurgence of COVID infections attributed to the new COVID variant, Omicron. While the recent spike in COVID cases due to Omicron is concerning, the less severe nature of this variant is good news. What’s concerning though, is the way in which Omicron has evolved. This variant has changed through adaptive evolution and is genetically distinct from previous variants. This is perhaps why current vaccines appear to have lower efficacy against transmitting Omicron. This rapid adaptive evolution has scientists concerned and may very well necessitate additional boosters. On the positive side, each flare up of COVID seems to have less of an impact as the previous one.

A much-asked question remains: If the economic news remains strong, the Fed tapers, and asset prices fall precipitously — as happened during previous ‘taper tantrums’ — will the Fed have the resolve to stay the course and continue to extract liquidity from the economy? Only time will tell.

Investment Outlook

U.S. equity returns have been strong for over a decade. We’ve had modest economic growth over most of that period, but earnings growth has been above average with operating margins of the S&P 500 at all-time highs. Stock prices have risen faster than earnings. This has resulted in elevated valuations. And while we believe valuations have been elevated for some time, the valuations of the broad markets today are generally higher than they were when the pandemic began. If the Fed tightens as it has telegraphed, equity valuations will likely be impacted. In that environment, owning companies whose valuations we estimate at being below their intrinsic value will be extremely important. We think the growth stocks trading at mind- blowing valuations will be impacted most, but valuation is going to be critical even within more reasonably priced asset classes. We are confident that if this re-risking occurs, the reasonably valued investments in the portfolio will benefit. We continue to look at companies from a bottom-up perspective and we continue to see companies with compelling valuations and prospects.

We’ve gone through an unprecedented global crisis at a time when central banks around the world were providing an unprecedented amount of liquidity. Although the pandemic exacted a horrific toll on the world, we have progressed this far. And while we don’t presume to predict the future, we expect 2022 will be as turbulent as the last two years. As such, we remain focused on finding the best investment opportunities given the host of uncertainties we face. Our focus is on making sure we are invested in well-capitalized companies with strong management teams focused on creating long-term shareholder value, and that also compete in attractive industries. Despite all the things we can’t predict or control, we are confident companies that meet these criteria provide us with the best opportunity for long-term investment success.

Sincerely,

Steve Scruggs, CFA Portfolio Manager

Footnotes:

¹ Source: FTSE Russell

² Reflects top five contributors and top five detractors to the Fund’s performance based on contribution-to-return on a gross basis. This is not a recommendation for a specific security and these securities may not be in the Fund at the time you receive this Commentary. The information provided does not reflect all positions purchased, sold or recommended by the Fund during the quarter. It should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities listed. For a full list of holdings, please view the holdings report at the end of this Commentary. The portfolio holdings as of the most recent quarter-end may also be obtained at www.fpa.com.

³ Source: Zacks Investment Research

⁴ Source: SEC Filings, ServisFirst

⁵ Source: Fabrinet Form 8k, announced 11/1/2021

⁶ Source: Concentrix, Fourth Quarter and Full Year 2021 Financial Results Conference Call January 19, 2022

⁷ Source: Science Applications International Corp., Form 10k, FYE January 29, 2022

⁸ Source: Equity Commonwealth SEC Filings 10-Q, September 30, 2021

⁹ Source: MGIC Investment Corp. management presentation, November 4, 2021.

¹⁰ Source: Factset, Yardini Research. As of December 31, 2021

¹¹ Source: US Bureau of Economics. As of December 31, 2021

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Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.