Q: What’s your investment philosophy and why do you believe that this is the right way to manage money?
A: Our investment philosophy is based on the idea of finding promising companies at a discount. It is a “Go anywhere” strategy, and we look for value globally, regardless of the capitalization size or the geography. Growth is not a dirty word for us as we include companies that are growing and have a path to future success.
The common characteristic of the stocks we buy is that we buy them when they’re trading at a discount to intrinsic value. We are long-term investors and we look forward at least 18 to 24 months. We don’t place too much importance on quarterly results although we may be provided with opportunities to add to our names.
It is a focused although diversified portfolio. We take significant positions and every stock counts as we hold only 50 to 65 names with typical position sizes in the 1.5% to 3.5% range. Nevertheless, the portfolio represents nearly 20 different countries and 18 different sectors. It is a core portfolio that is built to participate in rising markets and to provide protection in down markets. We’ve done well both on absolute and relative basis in the bull markets, but our best relative performance was in the period 2000 through 2002 when the market rolled over. Because of our sell discipline and value orientation, we moved out of appreciated stocks that had reached target prices in early 2000 to other areas where we found value.
We’ve been strictly adhering to our philosophy and process since we launched our equity funds in 1995. It is this long-term philosophy that initially attracted me to Thornburg. In 1996, I had the opportunity to intern here and to work with Bill Fries, who was managing about $100 million in our newly launched Value Equity fund at the time. Since then equity assets under management have grown to about $35 billion, but despite this growth, the process and the philosophy haven’t changed.
Q: What type of companies do you look for?
A: We define value by three different metrics and all of our holdings fall under one of these three categories. The first category, which represents 30% to 50% of the portfolio, is basic value and includes stocks that are more mature and, perhaps, more cyclical in nature. These stocks are trading at low price-to-earnings and price-to-book ratios relative to history or to peers.
The next basket is classified as consistent earners. These tend to be blue-chip names; companies with steady top and bottom-line growth and higher returns on equity. We like to buy them when they’re out of favor and trading at a discount. Typical names in this category include pharmaceuticals, retailers, luxury and consumer goods companies. They represent 30% to 50% of the portfolio.
The third basket, which we limit to 25% of the portfolio, is emerging franchises, which are names that tend to be growing faster. They may be smaller but their position in the marketplace is improving, and we believe that they can be leaders in their space. This category may include the cellular companies in the emerging markets or companies in the biotechnology space. We don’t require all of them to be profitable but we look for cash flow that is invested for growth.
Since we have a “Go anywhere” strategy, our universe also includes the emerging markets. We tend to invest in the more advanced emerging markets, not in the geo-politically volatile areas, and we tend to own the blue-chip premium franchises in that region. Some examples include Embraer, the Brazilian regional jet manufacturer, the mobile telecoms America Movil and China Mobile, as well as Sberbank in Russia.
But the core of our philosophy is that we don’t have to be in emerging markets or anywhere for that matter. We are bottom up in our approach. We come up with an idea, we do our research, we buy the stock if we believe it is worth buying, and then we place it in the appropriate category. So we’re relatively benchmark agnostic.
Q: What are the most important elements of your research process? How do you generate ideas?
A: We generate ideas in numerous ways. Often while we research an idea, something else in that industry comes up. We do thorough analysis, which includes evaluating global peers as well. Ideas may come up from management meetings or conferences that we attend. We also have a database of stocks that we have researched in the past and we monitor positions that we may have rejected. We revisit those stocks if they have intriguing valuation or a favorable change.
Another way we uncover ideas is running a variety of screens, including a value screen, which is based on multiples such as price-to-earnings, price-to-book, and price-to-cash flow. We run a fundamental improvement screen, which is oriented toward future growth. It includes earning surprises and earnings upgrades, and spots stocks that are likely to end up in the emerging franchise category. We also may include dividend yield because dividend payments can provide nice incremental return and show management’s commitment to shareholder value.
We are task oriented. Each portfolio manager is also an analyst, and we start by getting as much basic information as we can via analyst reports, previous notes, the Internet, the company website, filings, etc. If the idea seems worth pursuing, we set up a call with the management. We compile a set of data that includes our investment thesis, the positives, the negatives, a sell thesis, and quantitative information.
We do comparative analysis between companies; we travel extensively; and we meet with management teams. We use the Internet and tele/video conferencing extensively, but meeting with the management, the qualitative elements of the business model, and our own financial modeling and assessment, are crucial for uncovering potential investments.
Q: How large is your investment team?
A: We have 12 equity professionals managing about $35 billion, and there is continuous communication among our portfolio teams. We’re all global generalists; no one is locked in a box as a sector analyst; and we are collectively responsible for the overall performance of the portfolios. A comanaged portfolio ensures that we are truly team oriented. At a minimum the three co-PM’s - Lei Wang, Bill Fries, and I - have to agree on an investment and its size before buying a stock.
Q: Would you give us some examples of stock picks that illustrate your process?
A: One example would be Next, the U.K. retailer. I researched that company about two years ago, when the environment in the U.K. was still deteriorating and the valuation was compelling. However, not everyone on the team agreed at this point. Later, Lewis Kaufman, an associate portfolio manager on the International Value fund, came back from London very enthusiastic after meeting the company and visiting the stores. Meanwhile, the stock had retraced about 10% from my initial research. We revisited the idea and we got Bill Fries and Lei Wang on board.