Analysis of Manning&Napier World Opportunities Fund
February 26, 2014
Analysis of Baron Asset Fund
A recent article in Barron’s covers the Manning & Napier World Opportunities fund (EXWAX; Class A shares). This no-load, $8.1 billion fund has a reasonable turnover of 45% and expense ratio of 1.09%. According to the article:
The 81-holding foreign-stock fund is up an average of 10% a year over the past 15 years, better than 94% of its peers. Recent performance hasn’t looked as good, in part because some of the fund’s larger holdings were hit particularly hard by Europe’s 2011 economic crisis.
The fund’s primary benchmark is the MSCI ACWI ex USA index. Although the fund failed to beat this benchmark in half of the last ten years through 2013, its summary prospectus states that it did so on an annualized basis in one-, five- and ten-year periods through 2012 (results for the three-year period were not provided, almost certainly because they were not as impressive).
However, this does say anything about the risk of the fund’s portfolio. On the basis of the Sharpe ratio, which is the simplest form of risk adjustment, the fund underperformed the MSCI EAFE index in the three- and five-year periods but outperformed it over the ten- and fifteen-year periods through January 2014 (see figures from Morningstar).
Let’s take a closer look at the fund’s performance in the past nine years using Alpholio™’s methodology, which supports a more granular risk adjustment. Here is the cumulative RealAlpha™ chart for the fund:
At the onset of the financial crisis in 2008, the fund lost all of the cumulative RealAlpha™ it had generated since early 2005. After a modest recovery in the next three years, the cumulative RealAlpha™ continued to decline. At 19.4%, the fund’s annualized volatility was about 4% higher than that of its reference ETF portfolio, a very substantial difference. Over the entire analysis period, both the regular and lag annualized discounted RealAlpha™ of the fund was negative.
The following chart illustrates the ETF weights in the reference portfolio of the fund in the same timeframe:
The equivalent position in the iShares TIPS Bond ETF (TIP; average weight of 24.4%) represents the short-terms investments of the fund. While this position was in low single digits in mid-2013, consistent with the latest semi-annual report of the fund, it was at times as high as 50%, which indicates major market timing efforts. As Alpholio™ indicated in previous posts, such management actions distort the overall asset allocation in investors’ portfolios.
The fund had top equivalent positions in the iShares MSCI France ETF (EWQ; average weight of 16%), iShares MSCI Switzerland Capped ETF (EWL; 11.3%), iShares MSCI EMU ETF (EZU; 10.8%), iShares MSCI United Kingdom ETF (EWU; 10.7%), and iShares MSCI Sweden ETF (EWD; 6.1%). The Other component in the above chart includes equivalent positions in six other ETFs, collectively averaging 20.7% in the entire analysis period.
In summary, Manning & Napier World Opportunities has demonstrated an unimpressive performance in the past nine, and especially in the last three years, on a truly risk-adjusted basis. Its history also shows that significant RealAlpha™ gains, such as the ones generated from 2005 to 2007, can quickly evaporate. As the fund’s description states, it is aimed at those who are
Seeking a long-term (15 years or more) investment and who are willing to accept the risk of investing in foreign equity securities
Clearly, this is asking for a huge commitment from prospective investors, many of whom may not be willing to make it given the better-performing alternatives.
To learn more about Manning & Napier World Opportunities and other mutual funds, please register on our website.
February 18, 2014
Analysis of Glenmede Small Cap Equity Fund
A recent article in Barron’s emphasizes stock picking skills of the Baron Asset Fund’s manager:
Discerning the strengths and weaknesses of companies that make up the stock market is the job of a fund manager. Andrew Peck, 44, who runs the Baron Asset Fund (ticker: BARAX), is a particularly perceptive one. In 2013, his fund returned 38.88%, besting both the Standard & Poor’s 500 Index and the Russell Mid-Cap Growth Index. Peck believes the coming year again will play to his fund’s strengths. Even if they rise, interest rates remain low, flows into equities (for now) are positive, market multiples have room to expand, and Washington is making progress on budget issues. In this environment, “a long-term fundamental investor like we are can find great growth companies and watch them compound,” he says.
This mid-cap growth fund boasts $2.7 billion in AUM, an average expense ratio of 1.32%, and a relatively low turnover of 15.6% (three-year average). However, despite the latter, the fund may not be the most tax-efficient one: over the last three years, its long-term capital gain distributions averaged 11.5% of the distribution NAV.
The primary benchmark for the fund is the Russell Midcap® Growth index and the secondary benchmark is the S&P 500® index. Therefore, the primary benchmark will be used for further comparisons.
Commenting on the fund’s historical performance, the article says:
From 2004 to 2008, the fund posted strong returns, then dropped to the bottom rung of performance in 2009 and 2010 as companies with balance sheet and liquidity problems–the kinds of stocks he avoided–did best. But from 2012 on, performance improved sharply.
As a matter of fact, the fund failed to beat a practical implementation of its primary benchmark, the iShares Russell Mid-Cap Growth ETF (IWP), in 2007 and in each year from 2009 through 2012. The fund’s 2013 return was higher than that of IWP by 3.36% but at a level of over 35%, which means that the relative difference was not that big. According to data from Morningstar, the Sharpe ratio of the fund was higher than that of IWP in the three- and ten-year periods through January 2014, but lower in the five-year period.
Let’s investigate the performance of the Baron Asset Fund using Alpholio™’s methodology. Here is the cumulative RealAlpha™ chart for the fund:
Since early 2005, the fund generated less than 0.1% of annualized regular RealAlpha™ relative to its reference portfolio of ETFs, which had a slightly lower volatility. The lag RealAlpha™ performance was even worse — annualized negative 1.1%. The latter indicates that some investment decisions made by the fund’s management backfired in subsequent sub-periods. In other words, in those cases the investor would have been better off by holding on to ETFs in the reference portfolio rather than changing the portfolio composition to most closely track the fund (hence the lag aspect; to learn more, please visit our FAQ).
The following chart shows ETF weights in the fund’s reference portfolio over the same analysis interval:
The fund’s top equivalent positions were in the iShares Morningstar Mid-Cap Growth ETF (JKH; average weight of 32.6%), Vanguard Consumer Discretionary ETF (VCR; 19.5%), iShares S&P Small-Cap 600 Growth ETF (IJT; 14.2%), iShares Russell 1000 Growth ETF (IWF; 8.6%), Vanguard Financials ETF (VFH; 6.5%), and Vanguard Industrials ETF (VIS; 6.4%).
It should also be noted that an equivalent cash and short-term investments position in the iShares 1-3 Year Treasury Bond ETF (SHY; included in the Other component of the above chart) was as high 18.7%. This implies that at times the fund may have engaged in market timing instead of being close to fully invested in equities, as it is at present (99.4% at the end of 2013). Alpholio™ discussed this topic in previous posts.
In sum, our analysis has demonstrated that since 2005 the Baron Asset Fund exhibited an unimpressive performance on a truly risk-adjusted basis. Its cumulative lag RealAlpha™ significantly lower than the regular RealAlpha™ indicates that not all stock picking ideas of the fund’s management produced the desired outcome. In many cases, the investor would have been better off by staying put with a reference portfolio of ETFs that emulated the fund’s returns in previous analysis sub-periods. Finally, the fund could be effectively substituted by small number of equity and fixed-income ETFs in a dynamic portfolio with a lower volatility.
To learn more about the Baron Asset Fund and other mutual funds, please register on our website.
February 13, 2014
Problems with Categorizing Mutual Funds
A recent article in Barron’s says that managers of the Glenmede Small Cap Equity Fund (GTCSX, Advisor shares) outperformed their peers:
Mancuso, who’s managed the fund since 1993, and Colarik, who joined him in 2001, have been doing extraordinarily well lately. Their $1 billion fund returned 48% last year, beating its average small-blend competitors by 10.5 percentage points. That outperformance is something of an anomaly, though the fund’s long-term record is still impressive, outpacing about 85% of its peers over the past five- and 10-year periods.
This 23-year old, no-load, core small-cap fund with $1.1 billion in AUM has about 100 holdings. It beat its Russell 2000® index benchmark in one-, three-, five- and ten-year periods as well as since inception through 2013, at a comparable risk level measured by a standard deviation of returns. The Advisor shares of the fund carry an expense ratio of 0.91%, while the Institutional shares (GTSCX; $10 million minimum initial investment) lower it to 0.75%.
Let’s take a look at how Glenmede Small Cap Equity performed from the Alpholio™ perspective. Here is a chart of cumulative RealAlpha™ for the fund:
After the true adjustment for risk by its reference ETF portfolio, the fund’s cumulative RealAlpha™ was largely flat from early 2005 through 2010 and in 2012. The fund somewhat rebounded in the first half of 2011 and significantly outperformed, as noted in the article, in 2013.
The overall annualized regular RealAlpha™ was only 0.18%. At 0.98%, the annualized lag RealAlpha™ was higher and its curve was above that of the regular RealAlpha™, which indicates that the new investment decisions made by the management team generally panned out. The annualized standard deviation of the fund in the entire analysis period was 20.3%, slightly above that of its reference portfolio.
Here is the chart of ETF weights in the reference portfolio over the same analysis period:
Not surprisingly, the fund’s equivalent position with the highest average weight was in the iShares Core S&P Small-Cap ETF (IJR; average weight of 20.8%). The next top equivalent positions were in the iShares Russell 2000 Growth ETF (IWO; 18.4%), iShares Morningstar Small-Cap ETF (JKJ; 18.1%), Vanguard Extended Market ETF (VXF; 15.6%), and Vanguard Small-Cap Growth ETF (VBK; 15.6%). Finally, the equivalent position in the Vanguard Financials ETF (VFH; 4.0%) indicates the fund’s past propensity to invest in equities of financial companies.
The above findings indicate that, to a large extent, the fund could have been emulated by a reference portfolio of just a few popular small-cap ETFs. Only in a couple of years in the nine-year analysis interval did the fund significantly outperform this portfolio. A perfectly accurate prediction of all outperformance periods is generally impossible. However, Alpholio™’s buy-sell signal derived from the smoothed cumulative RealAlpha™ shows that most of such periods could be identified in advance and captured for an investor’s benefit:
Otherwise, the only way an investor could realize a full value added by the fund would be to make a long-term commitment. That approach, in turn, carries other risks, such as potential management changes stemming from a long tenure, or future underperformance caused by increased AUM in a small-cap sector.
To learn more about the Glenmede Small Cap Equity and other mutual funds, please register on our website.
February 5, 2014
Analysis of BlackRock Global Allocation Fund
A recent article from Morningstar illustrates the problems with categorizing mutual funds. To better compare the performance of mutual funds, Morningstar introduced categories back in 1996.
While the investment objective stated in a fund’s prospectus may or may not reflect how the fund actually invests, the Morningstar category is assigned based on the underlying securities in each portfolio.
Morningstar categories help investors and investment professionals make meaningful comparisons between funds. The categories make it easier to build well-diversified portfolios, assess potential risk, and identify top-performing funds. We place funds in a given category based on their portfolio statistics and compositions over the past three years.
Established funds are categorized twice a year, while the newer ones every quarter. Categories continually evolve to support a more granular and accurate classification of funds. The firm currently uses 106 different fund categories.
Categories are the foundation of a system that rates and ranks each fund against its “peers.” While this methodology simplifies comparisons by narrowing the scope, it has multiple drawbacks:
- Even with restraint, it tends to proliferate categories (see above)
- It lowers the bar by using an average fund performance in a given category (see a broader explanation in our FAQ)
- If the category assignment is subsequently changed as a result of a review, prior ratings have to be largely discarded because of a different set of peer funds
- Some funds may not lend themselves to an easy categorization because of an eclectic or frequently fluctuating investment strategy (not to be confused with a stated objective).
The article demonstrates the last of the above flaws by describing problems with an accurate classification of the Osterweis (OSTFX) and other funds. The Osterweis Fund is currently assigned to the domestic Mid-Cap Blend category, even though its holdings span a broad range of market capitalization and include foreign stocks.
This is where Alpholio™’s approach comes to the rescue. Our methodology addresses all of the above problems by comparing each fund against a custom reference portfolio of ETFs. The reference portfolio is constructed without any preconception of a fund’s category (although we use a small set of “categories” to narrow down the fund search). Moreover, unlike a static category assignment, the reference portfolio is dynamic in terms of both the membership and weights of its members. This adapts the reference to any changes in the fund’s investment profile and makes the performance assessment (i.e. RealAlpha™) portable across categories.
In addition, our analysis does not rely on a periodic disclosure of fund holdings, which itself suffers from numerous problems. It also avoids issues related to the changing classification of individual holdings in a fund, which is inherent in a “bottom-up” analysis (for example, consider the stock of Apple Inc., which could be classified as growth or value depending on one’s point of view).
To demonstrate, let’s take a closer look at the Osterweis Fund. Here are the weights of ETFs in its reference portfolio since early 2005:
After an equivalent position in the iShares 1-3 Year Treasury Bond ETF (SHY; average weight of 24.6%) representing short-term investments, the fund’s equivalent position with the second highest average weight was in the iShares Core S&P Mid-Cap ETF (IJH; 13.6%). The latter explains why Morningstar classified the fund into the Mid-Cap Blend category.
However, the fund also had significant equivalent positions in the Vanguard Health Care ETF (VHT; 12.3%), iShares Morningstar Large-Cap Growth ETF (JKE; 8.8%), PowerShares Dynamic Market Portfolio (PWC; 8.8%), and iShares Morningstar Mid-Cap Growth ETF (JKH; 8.3%). (The equivalent positions in foreign stock ETFs are in the Other component of the chart.)
The above chart also shows that at times the equivalent position in IJH was nonexistent, which brings into question a stationary classification of the fund into the Mid-Cap Blend category in the past ten years.
It is a similar story with the Fidelity Low-Priced Stock Fund (FLPSX), which the article also uses to illustrate problems with fund categorization:
The fund’s dominant equivalent position was in the Vanguard Mid-Cap ETF (VO; average weight of 18.5%), which again explains its Morningstar Mid-Cap Blend category. However, the fund also had substantial equivalent positions in the iShares Morningstar Small-Cap ETF (JKJ; 17%), Vanguard Consumer Discretionary ETF (VCR; 13.4%), iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD; 12.4%), Vanguard Health Care ETF (VHT; 8.5%), and iShares MSCI EMU ETF (EZU; 7.1%). (Other equivalent positions in foreign equities are in the Other component of the chart.)
As in the case of OSTFX, the ETF weights for FLPSX significantly fluctuated over the nine-year analysis period. For example, the equivalent position in VO was as high as 57.2% and as low as 0%, while JKJ oscillated between 44.8% and 2.2%. Therefore, a fixed classification of this fund into the Mid-Blend category since 2005 is dubious.
In conclusion, Alpholio™’s innovative approach alleviates the disadvantages of a simplified categorizing of mutual funds. The traditional classification methodology will continue to suffer from its inherent tradeoff among the number, accuracy and persistence of categories assigned to mutual funds.
February 4, 2014
A recent story in InvestmentNews covers the origins and performance of BlackRock Global Allocation Fund in the last 25 years:
Since the fund’s inception, it has recorded an annualized return of 10.63% through the end of last year, beating the benchmark portfolio of 60% global stocks and 40% global bonds by more than 250 basis points a year. A $100,000 investment in the fund at inception would have grown to just over $1.1 million today, $500,000 more than the benchmark portfolio. That outperformance has come with about one-third of the downside.
While this record under the guidance of a long-term main manager is certainly impressive, as usual it is worth taking a look at the most recent performance of the fund.
First, the fund has multiple share classes; for the purpose of this analysis, Investor A class shares (MDLOX) with a maximum sales charge of 5.25% and net expense ratio of 1.07% will be used.
Second, the fund has grown to $57.3 billion in AUM. This will make it more difficult for the fund to provide a 100% return over each future ten-year period, as its institutional share class did in the past.
Third, because the fund invests in both domestic and foreign stocks and bonds, it uses a custom reference benchmark that is a blend of four indices:
The reference benchmark consists of 36% S&P 500 Index, 24% FTSE World (ex. US), 24% BofA ML 5-year US Treasury Bond Index and 16% Citigroup Non-US Dollar World Govt. Bond Index.
With the sales charge, the fund failed to beat this benchmark in the one-, three- and five-year periods through 2013. Without the sales charge, the fund outperformed the benchmark last year, but not over three or five years. However, in both cases the fund returned more than the benchmark in the ten-year period. The fund issuer claims that
Since the Fund’s launch in 1989, investors have doubled their money every 10 years, no matter when they bought the fund… The fund has outperformed global equities with 1/3 less risk [based on annualized standard deviation of monthly returns for Institutional shares from 2/28/89 to 12/31/13, compared to the FTSE World Index].
Let’s take a look at the fund’s performance from Alpholio™’s perspective. Here is the cumulative RealAlpha™ chart for the fund (disregarding the sales charge):
From early 2005 to mid-2008, the fund generated a fair amount of RealAlpha™ but lost most of it in the second half of 2008. After a two-year recovery to the previous peak level, the cumulative RealAlpha™ for the fund stayed largely flat until it rebounded in 2013. Even though the fund suffered a smaller decline in 2008 than its peer world allocation funds did (-20.6 vs. -29% per Morningstar), it significantly declined against its reference portfolio of ETFs. In addition, the ETF reference portfolio had a much smaller volatility than that of the fund.
The following chart shows the weights of ETFs in the reference portfolio in the same analysis period:
The fund’s equivalent position in cash and short-term investments was in the iShares 1-3 Year Treasury Bond ETF (SHY; average weight of 35.4%). Domestic large-cap stocks were represented by the iShares S&P 100 ETF (OEF; 16%). The fund’s foreign stock holdings were covered by the iShares MSCI Japan ETF (EWJ; 9.6%) and iShares MSCI EMU ETF (EZU; 6.5%). Finally, the fund’s domestic bond holdings were embodied by the iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD; 5%) and iShares TIPS Bond ETF (TIP; 5%).
While the BlackRock Global Allocation Fund has added value for investors over its long history, its performance in 2008 shows that it may quickly lose a lot of that value in a market downturn. Despite a large number of holdings (about 700 global securities), the fund may find it hard to outperform in the future due to its size. Finally, in good past years the fund had significant distributions, which makes it more suitable for tax-exempt accounts.
To learn more about the BlackRock Global Allocation and other mutual funds, please register on our website.