Value plays gain as their style returns to the fore while growth stocks pay heavily for backing last year's technology issues
Returns from North American funds have varied greatly over the three years to the end of June, with the top fund outperforming the worst fund by more than 164%.
Style differences abound throughout the sector, accounting for many of the disparities in performance. While growth style funds outperformed in 1999 and early 2000, value funds, which missed the dizzying growth of the technology boom, have generally outperformed in 2001, as their style returned to the fore.
Over one year to the end of June, less than 12% of North American funds delivered a positive return. The difficulties in returning positive growth in such a volatile and contracting market have been all too evident.
The AA-rated Credit Suisse TransAtlantic Fund has consistently outperformed over the past three years, returning 65.84% over the 36 months to the end of June, compared with a sector average of 34.58%.
The fund is also notable in that it has been able to deliver this outperformance while maintaining below average beta and tracking error.
The fund has been managed for the past 16 months by Susan Everly, who has carried on the fund's mandate of outperforming the S&P 500, while maintaining a low level of volatility.
Despite its above-average returns, the portfolio's tracking error is kept below 3.5% and the annualised beta is 0.98% versus a 1% sector average.
Everly said 90% of last year's performance came from stock selection and just 10% from sector overlay.
Subsequently, the portfolio has been recognised as a stockpicking fund and has a well above average annualised alpha of 9.26% and R-squared of 0.81%, compared with sector averages of 0.61% and 0.86%, respectively. Everly said the fund is a concentrated portfolio, generally holding between 40 and 60 stocks, but currently holding just 46.
She said: 'The top 20 stocks make up 60% of the portfolio and the top 10 constitute about 40% of the fund, so it is very focused on specific names.'
Everly said the drive to keep the fund's volatility low influences stock selection at times. If stocks have similar projected growth but differing levels of volatility, the fund may take a 5%-6% position in the less volatile stock and a 1%-2% position in the more volatile stock.
As such, some of her preferred stocks may be among the fund's smaller holdings, but the overall volatility will be kept to a minimum.
Everly runs the fund with a value bias, looking for restructuring or sentiment turning stories that will provide a catalyst for growth within three to six months. One such turnaround plays she has recently bought into is the fast food chain, MacDonalds.
She said: 'We bought MacDonalds because the BSE scare in Europe really knocked sales and there are some opportunities there as the company starts to franchise out more in Europe than it has been doing.'
Aegon American has outperformed in each of the past three years, returning 51.92% over the three years to the end of June, compared with a sector average of 34.58%.
The fund, managed by Elaine Crichton, head of US equities at Aegon Asset Management, is generally run with a large cap bias and subsequently has an above-average correlation with the index of 0.97%, compared with a sector average of 0.92%.
The fund's beta is also in line with the sector average, standing at 1.01% versus a sector average of 1%.
Crichton said the fund will always have holdings in the largest stocks in the market, such as Microsoft and Cisco, no matter what sector they are in as the risk of having zero weight positions in such major index players is greater than having an active position.
Stock selection is driven by bottom-up analysis, said Crichton, and the low tracking error is a by-product of this process rather than a goal in itself.
The fund has a highly diversified portfolio of 113 stocks. Crichton added that this is a fairly standard number of holdings for Aegon American, which usually invests in between 100 to 120 stocks. When exposure to small and mid caps is increased, so the number of holdings tends to swing more toward the upper end of that range.
The investment process targets growth at a reasonable price, rather than all out growth or value. Crichton said in the current market climate, growth is very difficult to find, and in the aftermath of the technology bubble, strong themes are hard to pinpoint.
She said: 'All year we have been broadly sector neutral and there is still not a lot of clarity in which sectors are going to do well.'
Given the corrections in the market over the past year and a half, technology has shrunk as a percentage of all US benchmarks. While fairly neutral on the sector, Crichton has not been adding to her weightings in the sector in light of recent volatility.
She said: 'Technology is being sold down one day and is going up the next. Traditionally we are not day traders, so a positive stance is to go sector neutral and pick the best stocks in there.'
Crichton stressed that when the sector strategy changes, it will be a consequence of bottom-up stock selection rather than a blanket decision to overweight any individual sector.
Reflecting the diversity of fund management techniques within the North American sector, JPMorgan Fleming's US Growth Fund is typically a 90 stock portfolio, run to a style model.
Jonathon Price, director of US equities at JPMorgan Fleming, said the fund is run to tight constraints that govern the portfolio's stock, sector and cash weightings, with a view to providing stable performance, while maintaining a continued sub-3.5% tracking error.
Sector weightings are limited to 4% under or overweight positions and stock selection by 2% either way.
The investment process has enabled the fund to maintain a below average annualised beta of 0.98%, which is mirrored by the fund's above-average correlation of 0.97%.
The fund has underperformed over the three years to the end of June, returning 23.06% compared with the sector average of 34.58%.
'Looking back, it is probably because of our underweight position in technology in 1998 and 1999. We were underweight technology in all of our funds, because irrespective of our model, our valuations overlay took us away from that sector,' explained Price.
He said stock selection is very much bottom-up driven and the house is currently moving toward a cautious optimism on the US market.
Price believes successful thematic investing is a thing of the past given the increasing disparity between intra-sector stock performance.
He said: 'Managers are now really concerned with sub-sector selection because there is a lot of polarity within the individual sectors.'
This polarity is illustrated by the telecoms sector, said Price. While the fund has a neutral weighting in the sector, it is underweight wireless operators, preferring to gain exposure through local operators and long-distance service providers.
Regression analysis: Regression statistics can be used to compare the relationships between funds, markets or a specific benchmark index. They do not make the assumption that the variables (funds) are related as cause and effect, but permit them to be influenced by other variables (markets).
Alpha: The Alpha describes the theoretical reward obtained by one investment when the second investment has a zero return. To calculate the Alpha, the returns of each are taken and compared together to identify their relationship. This reveals relationships between investments in both bull and bear markets. When applied to portfolios, it can be considered to be the return over and above (or below) the market through portfolio strategy. Good managers have a positive Alpha.
Beta: The Beta is the amount the first fund moves when the other moves by one unit. Beta is a measure of relative volatility (absolute volatility is calculated by standard deviation).
If one fund always goes up and down by 1.5 times of the performance of the index, its Beta will be 1.5. This implies that if the return of the index is positive, then 1.5 times this positive return can be expected of the fund. If the index goes up (or down) 10%, the fund goes up (or down) 15%. Beta represents the volatility of the first investment versus the second. It is only an estimate and to be accurate there has to be a perfect correlation between the two investments.
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