Funds in Focus: Montanaro European and Man GLG Undervalued

VIDEO: Morningstar analyst Teodor Dilov looks at two funds catching the attention of our team, one a European smaller companies fund and the other focused on undervalued assets

Ollie Smith 5 July, 2022 | 9:19AM
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Ollie Smith: We're back with another two funds catching the attention of our U.K. Manager Research team. Analyst, Teodor Dilov, is here to tell me more.

Teodor, thanks for being with me. What's the first fund on your list today?

Teodor Dilov: Thanks, Ollie. The first fund today is Montanaro European Smaller Companies. Following our most recent review, the fund retained its Morningstar Analyst Rating of Bronze, and it's got above average on both the people and process pillars.

So, on the people side, the team is comprised of 10 dedicated investment professionals with over 10 years of specific industry experience. So, that's probably one of the best resourced teams in the European smaller companies' space. The fund is run by George Cooke, who has been with the company for more than 12 years and has been managing the strategy since 2018 when the founder, actually, Charles Montanaro, relinquished his day-to-day management responsibilities. But he remains involved with the oversight of the funds and its buy list. One of the key points I'd like to mention about the people element is that there is alignment of interest. So, the majority of the analysts and managers are remunerated on the performance of the strategy, and they actually invest their own money. So, that makes it align with the interest of the investments. And I think that probably another attribute of the strategy is that actually the managers have been able to add value over the long term through their stock selection, at least this is what our attribution analysis demonstrates.

So, in terms of process, this is a very research driven process. The team screens the European equity universe on factors like size, liquidity and quality and come up with an approved list of stocks that can go into the portfolio depending on the team's conviction. For example, quality is assessed via 14 criteria, each falling into one of the five broader buckets of growth, profitability, leverage, cash and volatility. The qualitative analysis stage then involves a thorough assessment of the quality of the business, growth prospects and financial health. The team also apply ESG overlay which has been long established and stems from the management monitoring and engagement. All this combined, forms a portfolio that is largely unconstrained with position sizes based on an assessment of quality valuation, risk and liquidity. Although there has been awareness of the index and sector weightings.

The recent performance has been challenging as the asset class fell out of favor following the investment style rotation to value in late 2020. In addition to that, downward GDP revisions, high inflation and fears around sustainability of corporate earnings have also been factors that impacted returns. However, the strategy's long-term track record remains strong with both relative to MSCI Europe Small Cap Index and the Morningstar Europe Small Cap Equity peer group category.

Smith: Sure. And from small cap growth to midcap value, what's your second fund today?

Dilov: The second fund is Man GLG Undervalued Assets. Basically, the combination of capable portfolio managers and well-formed investment approach led to the strategy retaining its Morningstar Analyst Rating of Silver. The fund has been managed by Henry Dixon alongside the co-manager Jack Barrat since its inception in November 2013. But the approach actually dates back to Dixon's previous mandate as a manager of materially undervalued assets, which he managed from its launch in 2008 and used the same investment approach.

In terms of people, the team is very stable and is currently comprised of four people, which may look small compared to other teams in this space, but actually, it's reasonable number relative to the size of the strategy and it also allows them to be flexible and efficient when sourcing, approving and executing investment ideas. Henry Dixon's investment experience in the U.K. Equity segment is a key attribute here, but he also has the support of experienced team and has access to the broader resource at Man Group, which contributes to an above average rating for the people pillar.

When it comes to the process, the manager is targeting two types of stocks. So, the first one is those trading below their estimate of company's asset value and those where the company's profit stream is being undervalued relative to the cost of capital. To derive with the best investment ideas, the team puts a lot of work on balance sheet analysis and discounted cash flows. In general, they are after cash generative businesses that can also show positive earnings momentum as they view that this could help avoid companies that may look competitively priced but actually had deterioration in operating performance. They also set up price targets that are based on one-year forward-looking earnings and asset values. And this is because the team believes that uncertainty increases too much if they look further ahead. As a result, the portfolio could experience a higher turnover, but that tends to be a smaller number in more recent years due to the team's ongoing self-evaluation, efficiency of trading practices.

So, while this results in a portfolio that typically exhibits a value bias, but the requirement for healthy balance sheet adds quality element which along with the positive momentum helps to somewhat diversify the portfolio stylistically. In terms of recent performance, it was influenced by the strong value rally, which saw undervalued companies being back in favor. There were a few factors that held back returns such as slow market reaction to earnings upgrades, supply chain issues. But however, the fund retains its competitive long-term track record both against the FTSE All-Share Index and the Morningstar UK Flex-Cap Equity category.

Smith: Brilliant. Thanks, Teodor. For more on fund research, check out our weekly updates on Morningstar.co.uk. Until next time, I've been Ollie Smith for Morningstar.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Ollie Smith  is editor of Morningstar UK