This fund has more than a little going for it. In Aled Smith, it features an experienced manager who's proven himself an extremely able stock-picker over time. (Smith also should have a little more time to focus on this fund now, as he handed off lead management duties on M&G Asian to Michael Godfrey and Matthew Vaight in March 2008.) Smith enjoys the support of the rest of M&G's 10-strong Global Equity team, including veteran Global Basics manager Graham French. Finally, M&G itself has made great strides in improving the overall quality of its equity investment range under David Jane. Although the global equity team operates largely autonomously within M&G, the strength of the house is a good sign.
A staff of 10 i
sn't a lot when it comes to covering global equities, but the team benefits from the application of a clear and consistent approach that helps them narrow the universe of relevant portfolio candidates. They start by using cash-flow-return-on-investment (CFROI) analysis supplied by the HOLT arm of Credit Suisse. The HOLT data allow Smith and his team to assess whether a firm's cash returns on invested capital are beating its cost of capital, and whether they are trending higher. Put differently, they assess whether companies are creating or destroying value, and if they showing any improvement.
That last bit is the key here. It's not hard to find high CFROI companies if you're willing to pay up (and lots of other firms use HOLT), but Smith is not. His very sensible stock-in-trade is to find firms trading for considerably less than he thinks they are worth--this entails identifying companies that are moving from value destruction to value creation, or that are increasing their CFROIs. Such firms are often undergoing restructurings or management shake-ups and are usually decidedly out of favour, making this fund's name something of a misnomer. For example, Smith added Konica-Minolta to the fund in July 2007. The firm had a poor historic CFROI, but was selling off its underperforming camera business to focus on higher-margin niches in specialty printing and medical imaging.
The resulting portfolio lands firmly in the value column of the Morningstar Style Box, and features valuation ratios well below the norm for the Morningstar Global Large-Cap Value Equity category (a category whose valuations are already low). Its sector and country weights fall out of bottom-up company analysis, which can lead to some significant bets--the fund has a large overweight in Japan, for example--but the team does monitor risk factors closely. Thus far in 2008, for example, they've worked to take down the economic and credit sensitivity of the portfolio, reducing positions in names such as CIT (a firm that was badly burned by the US subprime mess and a clear mistake in our view), Italian cement firm Buzzi Unicem, and French investment bank Natixis in favour of the likes of HSBC, IMS Health, and Philips.
The fund's portfolio is relatively compact at 50-70 names, and its style can expose the fund to the risk that some of Smith's restructuring plays won't pan out (see CIT). Despite the Grahamian margin of safety provided by its low valuations, the fund's volatility has been higher than the norm for its Morningstar peer group. Even so, that doesn’t seem an unreasonable price. While the fund didn’t fare well relative to broader global offerings last year, it significantly outperformed its Global Large-Cap Value peer group, the more appropriate measure of Smith's skill, and Smith's long-term record here is excellent.
Investors in this fund need to be prepared for near-term bumpiness and to accept that the fund is likely to under-perform broad benchmarks when the priciest shares lead the way. However, we believe its experienced management and disciplined, sensible approach make it an excellent long-term choice for global equity exposure.
