Bill Miller, arguably one of the best-known stock-fund managers of the past few decades, will be stepping down from his role as CIO of Legg Mason and also from his comanager roles, which includes that of Legg Mason US Equity, in April 2012.
Miller's departure is a particularly high-profile one, but the same question plagues anyone whose fund has undergone a manager change: Should I stay or should I go?
If you own a fund that has recently had a manager change, the good news is that you can take your time to size up the situation; the value of the fund's basket of holdings won't be affected overnight. That stands in contrast with publicly traded stocks, where the departure of a high-profile CEO has the potential to shake up the share price immediately.
Thus, my first piece of advice to investors in this situation is to take time to evaluate the implications of the manager change--for the fund's positioning, performance, and its role in your portfolio. The following questions will help you frame your thinking.
1. How active was the fund manager?
It almost goes without saying that index-fundholders shouldn't be unduly upset if their manager leaves: Although there are certainly some intricacies to properly tracking a market benchmark, there haven't been many instances when index funds have gone dramatically awry. And even if a fund has an active strategy, a manager change shouldn't be a huge cause for concern if that strategy is highly mechanistic.
A fund that looks for companies that have had returns on equity of 15% or better for the past 10 years is going to have a limited investment universe to chose from and turnover is likely to be minuscule. Thus, in this case, the departure of a manager shouldn't have too distruptive an impact on the fund.
A fund like Miller's Legg Mason US Equity, by contrast, employs a highly active strategy: Though analyst Chetan Modi noted in his recent Analyst Report that the fund had taken on a more moderate look recently and Miller's turnover was always low, the fund is still somewhat idiosyncratic, with relatively high weightings in sectors like financials and next to nothing in basic materials. In the case of this and other highly active funds, a manager change merits more scrutiny than is the case with a fund that is less active in its approach. The "Process" component of Morningstar's qualitative Analyst Ratings can help you draw conclusions.
2. How big is the change?
The next question to ask is how big the change really is. Is one manager leaving a fund that is run by a large and established team? Or is one solo manager handing the baton to another manager who will run the fund individually?
While critics assail multimanager vehicles as being subject to mediocrity and groupthink, it's safe to say that manager changes are less of a big deal for them than is the case for solo-run funds. Legg Mason US Equity is something of a hybrid: Miller's successor, Sam Peters, has worked alongside Miller as a comanager on the fund for the past year, but he'll be running it solo once Miller steps down. Thus, while shareholders can take some comfort in the continuity, Peters had only been aboard for a short while, and the fund will sink or swim on his watch.
The "People" component of our new Analyst Ratings can help you get your arms around the fund's management structure, as well as the depth and breadth of the team who underpins the named manager.
3. What do you know about the new person?
Assuming the new manager will be running the fund solo or will be one of just a few managers, the next question to ask is how much you know about him or her. Does previous experience on another fund provide any clues about the new manager's investment style and, in turn, the implications for performance?
Unfortunately, it's not all that common for a manager's past track record to be directly applicable to the new charge: The previous fund's mandate may have been somewhat different than that of the new fund, or the manager may have worked alongside comanagers in previous stints, thereby making it difficult to draw conclusions about his style and abilities. Peters' previous experience provides a good example: He's only been working as a comanager on US Equity for a year, and his stints as solo manager have been on different types of funds--a Legg Mason fund that focuses on mid-cap funds, and some Fidelity sector funds before that. There's also the unreliability of past performance to bear in mind: Unless a manager has an observable track record over several market cycles, it's a mistake to take too much comfort from a past record, even if it's a good one.
4. How good is the firm as a steward?
Management and stewardship are intimately related, and the intersection between the two is on full display when there's a manager change. While it's never happy news when a firm loses a successful or long-tenured manager, the best firms lay the groundwork for that possibility, which can help ease the transition. For example, even though all T. Rowe Price funds have individual managers, they also have small investment committees that know the funds' positioning well; that helps smooth transitions on the rare occasions when the firm has experienced manager changes.
Firms that are good stewards also do a good job of communicating with their shareholders along the way: When possible, they let fundholders know who's taking over and when. In the case of Legg Mason US Equity, the firm has done a lot right: Peters joined as a comanager long before Miller announced his departure, and it has also given shareholders a decent heads-up about the impending change. If you're investing with a good steward, as discussed in the "Parent" pillar of Morningstar's new Analyst Grades, you have a better chance of emerging unscathed from a manager change than if the firm is less shareholder-friendly.
5. Will the fund still be a fit for you?
Let's say you've been able to discern differences in the new manager's approach relative to the old skipper's--either by analysing positioning on other charges or by observing a change in the complexion of your fund since the new manager took over. If that's the case, your next step is to consider whether the fund will still work in the role you purchased it to fill. For example, say you originally bought a fund because you wanted large-cap growth exposure to counterbalance your deep-value holdings. If the new manager has a history of buying stocks that are more blend-y than they are pure growth, and the new fund's mandate gives him or her a bit of wiggle room, the strategic change may be significant enough to warrant kicking it out of your portfolio.
