Investing in the US is a balancing act, say top manager trio

Over a 3,500-mile telephone line, two of the quartet who run US equity manager Brown Advisory’s American fund address the question of how their fund is riding out the current market storm.

The managers quickly get to the point. It is early-morning New York and there are Europe’s headlines to catch up on.

‘Investors get so nervous at the moment about what is going on,’ says Richard Bernstein, one of the quartet and also the manager of the Brown Advisory US Equity Value fund.

‘People are trading around eurozone headlines, when, quite honestly, most US investors couldn’t put Greece on the map,’ adds co-manager Kenneth Stuzin, who also runs the Brown Advisory US Equity Growth fund.

The breadth of the Atlantic is a choppy journey for investors looking for opportunity on the other side of the pond. Investing in US equity is a bigger leap for European investors when their overall faith in financial markets wanes.

On opening its London office in 2008, the firm’s management quickly realised just how far away they were from home.

Investors were reluctant to go into one style or another but instead there was a real demand for all-cap funds.

On offer for European investors, through Brown Advisory’s Ucits range, are three different styles of US equity fund.

The company launched a Ucits version of the US Equity Value fund in 2006 managed by Richard Bernstein.

A Ucits US Equity Growth fund managed by Stuzin and a Ucits US Smaller Companies fund, co-managed by Tim Hathaway and Christopher Berrier, followed in 2009.

They quickly came to the conclusion that in Europe, investors were quite agnostic towards US equities.

In order to respond to this taste for caution, the company decided to give investors the best of all worlds and combine the three different funds under the four managers. In 2009 the company launched the American fund.

A fund of funds in all aspects but name, the American fund is an amalgamation of the three existing Ucits funds.

Outperforming the S&P 500 index for nearly three years, the fund comprises 40% of the total holdings of the US Growth Equity, 40% of the US Value Equity and 20% of the US Smaller Companies funds.

Citywire’s latest Euro Stars analysis, published in December, shows that both Stuzin and Berstein hold an A rating for their risk-adjusted performance in the North American Equities category.

We’re no swingers

With or without the euro sovereign debt crisis, the trend has never been the friend of this quartet. Bridging the style of all three fund management approaches is a common dislike of macro themes and ‘swinging’ investor sentiment.

A disdain of the macro and headline news is what differentiates Brown Advisory’s ‘stock pickers’ from the rest, the team explain.

‘The time period that we hold on to stocks really sets us apart from other US equity funds,’ says Stuzin (pictured).

‘We don’t want to be momentum investors. We don’t want to play a sucker’s game.’

The managers believe their long termism will pay off in an environment where the average manager is holding on to an S&P 500 stock for around three months.

By comparison, the average time stocks are held in the American fund is around three years.

Swimming against the tide in times of turbulent equity markets, the fund has had to weather mainstream storms before.

In 2008, the performance of all three funds suffered from overall downturns in market sentiment.

Comparatively weaker performance was seen again last year when the trio suffered from a lack of investor appetite towards cyclicals.

‘The reason that value didn’t do well then is because sectors like industrials, energy, and materials underperformed on macro trends,’ says Bernstein.

The team say the fund underperformed its benchmark, the Russell 3000 index, due to macro themes despite companies held in the fund posting solid earnings.

The team still maintains that US equities are underperforming based on investor sentiment rather than on individual companies’ performance.

Current overweights in the American fund include healthcare, industrials and energy. These are the sectors they believe are set with biggest upside ahead when ‘true’ value, now masked by investor sentiment,will be revealed.

'The day of reckoning will come’

When the market begins to see more clarity, the team thinks that some sectors will emerge with heavy undervaluations.

Energy and technology are the funds’ favourite bets to break through when market turmoil begins to settle.

‘Investors are as fearful today about the technology sector as they were optimistic about it in 2000,’ says Bernstein (pictured).

‘We want to own good businesses. At a time when people are so reluctant about seeing opportunity in the future, technology trades at a good discount.’

US technology giant Apple is a stock held in both the value and the growth funds.

Whilst the team remains cautious on the investment potential of social media, they believe that Apple’s international sales reach and strong distribution model means that its trading price has not yet peaked.

The time for ‘true’ market value is still to come. This, according to the team, will separate the inherently bad from the merely unfashionable.

‘The current market really tests our emotions and patience right now. What we need is clarity. But the day of reckoning when the skies open – whether it be sunshine or storm – will come,’ says Stuzin.

Self-sufficient America

Despite political changes ahead through presidential elections in the coming year, the team does not believe this will threaten economic stability and they remain confident the US will escape a double-dip recession in 2012.

‘How the inevitable recession in Europe will affect the US market depends on a stock-by-stock analysis,’ says Stuzin.

The American fund goes one step further to dismiss companies that rely on bank loans to finance themselves.

‘We want to be holding businesses that can finance themselves in the capital markets,’ says Stuzin.

‘If you look at companies like Google and Apple, these companies pay less for debt than some countries.'

The team believe energy, like technology, is a sector that is sensitive to thematic fears and at present undervalued.

The American fund holds the Houston-based oil company Schlumberger, recently added on a conviction that energy prices will reach new peaks this year.

Bridging growth and value

US stocks were greeted relatively warmly by investors into the new year as the realisation dawned that the Europe question isn’t everything.

The S&P 500 climbed in January this year back towards the levels it was at before the 2008 crisis.

But if they are to get back to what is regarded as normality, markets globally need more clarity.

Investors also require this sort of vision in order to give their stockpicking some kind of style.

Distinguishing between growth and value strategies is about the attitude towards risk.

‘For the growth fund, it is all about the upside,’ explains Bernstein.

‘Here stocks are picked that are already doing well. There should be no risk on the downside but the companies are more price sensitive on the upside.

‘On value, it is more price sensitive at the start. I’m thinking, “how much damage could this stock do? How low could this price go?” I’ve got to know that something is out of line to be making this stock cheap,’ he says.

Yet, as with the Apple example, lines between growth and value are more easily blurred in stock market turmoil.

The mobile technology company Qualcomm is the second stock to feature in the top 10 holdings by weight in both the value and growth funds and is the top stock by weighting in the American fund.

Information technology is the most held sector across all four funds including the American fund where it makes up a third of the total allocation.

The US Equity Value fund has $370 million under management, the US Equity Growth has $200 million and the Smaller Companies, still the least popular of the three for European investors, has $10 million.

This article first appeared in print in the Citywire Global magazine February 2012 edition.