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What's Geography Got to Do With It?

These three managers see lots of value outside the United States.

Joel P. Bruckenstein, 06/12/2008

In what has become an annual ritual, each June I have the pleasure of previewing an investment panel at the upcoming Morningstar Investment Conference, to be held later this month in Chicago. This year, I profile three savvy investment pros who will participate in the closing session of the conference. Tech junkies will have to be content with our single technology story this month.

Some fund managers seem to fit neatly into a style box; but not these three. On the contrary, these managers are defined by their flexibility. Ian Lapey, Dennis Stattman and David Winters span the globe looking for investment opportunities. While each is primarily focused on the equities market, they are not afraid to seize upon other investment opportunities when they identify them.

Ian Lapey
Third Avenue Management, LLC
Although he is a senior analyst who manages more than $3.5 billion in a subadvisory capacity at Third Avenue Management, LLC, Ian Lapey is not exactly a household name, but that could change soon. Lapey has been named as the successor to legendary Marty Whitman as manager of the firm's flagship mutual fund, Third Avenue Value TAVFX.

While Lapey and the Third Avenue team are not international managers, they are more than willing to invest internationally when their nose for value leads them overseas. "We look for value wherever we can find it," Lapey said. "We look for out of favor stocks so we can buy them when they are cheap."

Over the last few years the international markets have been where the team has identified the majority of cheap investment opportunities. This overseas bias was clearly evident in Morningstar's most recent portfolio analysis, which indicated that 57.56% of Third Avenue Value's portfolio was invested in non-U.S. stocks.

One longtime holding, which the fund added to recently when the price dropped, is Toyota Industries Corporation. This diversified manufacturing firm in Japan owns a huge portfolio of securities. It also manufactures, among other things, electronics for hybrid engines and diesel engines, both of which are attractive businesses in the current energy environment. In total, the operating company has revenues of $19 billion, and it has recorded nine consecutive years of growth in both earnings and revenues. According to Lapey, net of debt, the firm sells for the just the price of the securities portfolio, which means investors are essentially getting the operating company for free. "We can't find opportunities like this in the U.S.," he said.

More recently, the fund has begun investing in real estate operating companies in Hong Kong. As is the case in the U.S., Third Avenue prefers operating companies to REITs because operating companies can reinvest their earnings back into the business. One favorite in this sector is Henderson Land Development. According to Lapey this firm is extremely well managed.

"The CEO owns roughly 60% of the business," Lapey said. "And he has a record of growing net asset value per share."PAGEBREAK

Sapporo Holdings Limited, which is held by Third Avenue Small Cap Value TASCX but not by the firm's main value fund, illustrates Third Avenue's outside-the-box approach to investing. Sapporo is known primarily as a beer manufacturer, but the beer business is struggling. Third Avenue purchased the firm not for the beer business, but for the company's extensive real estate holdings.

"We look at this investment as a real estate play," Lapey said. "Sapporo recently entered into an agreement with Morgan Stanley. We believe this agreement will help Sapporo realize the value of their real estate holdings."

Not surprisingly Third Avenue takes the same flexible approach to currency hedging. While many firms have a stated policy for or against hedging currencies, Third Avenue does not. Years ago, when it initiated some Japanese equity positions, it chose to hedge the currency exposure. Over the last several years, the portfolio has not been hedged because the team did not like the long term prospects for the dollar.

"As of now, we remain unhedged, but I would not rule out hedging in the future," Lapey said.

Very recently, the firm has been uncovering value in the U.S., but it has been in the bond market. Historically Third Avenue has been an active buyer of distress bonds. Lapey said that for the first time in several years that they are seeing opportunities that they like, and they are buying.

Filling Marty Whitman's shoes will not be an easy task, but Lapey seems well versed in the culture of Third Avenue and enthusiastic about his job. If he can continue Whitman's successful record at Third Avenue Value, he won't be able to keep a low profile much longer.

Dennis Stattman
BlackRock

Dennis Stattman, CFA, a senior portfolio manager at BlackRock and its predecessor firm, has managed BlackRock Global Allocation MDLOX since its inception in 1989. His experienced investment team manages more than $50 billion in global open-end funds and subadvisory portfolios.
When asked about his long tenure at the fund, Stattman replied, "That's because things have largely worked out." He might be understating his case. According to Morningstar analyst Michael Herbst, the Blackrock investment team "has generated stellar risk-adjusted results on its watch since 1989."

A self described "dull guy," Stattman sounds anything but dull when he discusses his investment approach. Like many financial advisors, Stattman and his team allocate the portfolio among stocks, bonds and cash equivalents. A neutral allocation for the fund would be 60% equities/40% fixed income, with 60% of the equity portfolio allocated domestically and 40% allocated internationally. The portfolio can deviate considerably from these benchmarks depending on the team's outlook and their ability to find suitable investments, however. PAGEBREAK

The investment team combines a top-down approach to asset allocation with a bottom-up approach to security selection. The goal is to produce equitylike returns to investors, with less risk. Over the last years, that goal has been met. During that period, the Vanguard 500 Stock VFINX has had a 10-year annualized return of 4.13% with a standard deviation of 14.74%. By contrast, over the same period, the Blackrock Global Allocation Fund's load-waived A shares MDLOX.LW have returned 11.15% with a standard deviation of 10.74%.

Stattman attributes the fund's excellent risk-adjusted returns to the team's rigorous stock-selection process as well as a philosophy of making a lot of "little bets" instead of fewer bigger ones.

Like the other managers profiles here, Stattman's fund does not have a fixed currency policy. Currency exposure is managed based upon the team's outlook for the dollar. Years ago, the fund was 90% U.S. dollar based, but as the outlook for the dollar deteriorated, the fund tended to have a significant foreign currency exposure. Over the last couple of months however, the fund is growing wary of the strength of both the British pound and the euro, so they have started hedging some of their currency exposure again.

On the domestic front, Stattman has been buying managed-care companies lately. He believes that the largest HMOs are selling at amount, so he has purchased a number of these firms' shares. Overseas, Stattman has been adding Japanese telephone companies to the portfolio.

"Japan has already been through a credit contraction," he said. "Profitability has room to grow over there through restructuring."

With its broad asset allocation and diversification, BlackRock Global Allocation sounds like it could serve as a complete investment portfolio for some individual investors. Stattman agreed.

"We could serve that purpose for many investors, however very aggressive or very conservative investors would not use us that way," he said. "We do believe that this fund can serve as a core holding for all investors."

David Winters
Wintergreen
Much has changed since I spoke with David Winters two years ago. At that time, Wintergreen WGRNX was less than one year old and it had attracted assets of $364 million. Today, the fund is nearing its third anniversary, and it currently has assets of $1.8 billion. Back then, the firm was in its infancy, and Winters was still building his team. Now, according to Winters, he's built out the firm and the team. PAGEBREAK

While there has been a transformation at the firm, little has changed when it comes to the portfolio or Winters' investment philosophy. Many of the stocks in the portfolio a couple of years ago, including the fund's largest position, Japan Tobacco, and an interest in Berkshire Hathaway, have remained unchanged. This is totally in alignment with Winters' investment philosophy.

"If you look at who really gets rich in the world it is usually people who purchase the right businesses and hold those businesses for many years," he said. "They are long-term owners. That's what we want to be."

That's not to say that Winters is married to the firms he owns. "We try to upgrade the portfolio. If a great opportunity presents itself we want to be able to take advantage of it," he said.

Although Winters can invest anywhere, he continues to believe that the best investment opportunities are outside the U.S. One foreign firm he likes is Schindler Holding AG. He says that Schindler's elevator-construction and elevator-maintenance businesses should both do well. He expects equipment upgrades in Europe and new construction in Asia to fuel growth. The firm's cash position and its stock buybacks add to the allure.

Although it trades in the U.S., Winters thinks of Wynn Resorts as an international play.

"Wynn is the best gaming and entertainment company in the world," he said. "Since it is a domestic company it must comply with stringent domestic laws, but they operate internationally. Not only are they the best operation in Las Vegas, they also operate the nicest facility in Macau."

Winters said that gambling is a major form of entertainment in China, so he views Wynn's Macau operation as a growth play on China.

Winters draws parallels between the current investment environment and that of 1999-2000.

"In that period, investors bid up technology, the net and telecom," he said. "Everything else was going down in price. Today, all investors want is agriculture, steel, and energy. Everything else is on sale. This creates opportunities for global investors such as ourselves."

Winters actively manages his fund's currency positions. Until recently, the fund was largely unhedged because his risk/reward analysis argued strongly in favor of a falling dollar. Now, Winters said, "the dollar has fallen a lot, and there are indications the G7 believe the dollar has fallen enough."

Although U.S. financials have been marked down, Winters has avoided that sector for now. His two major concerns: there may be further write-offs, and financials might not have the earnings power they've had in the past.

These experienced, insightful managers will discuss global investment opportunities and the world economy at the general cosing session on June 27 at the Morningstar Investment Conference. Click here to register or get more information about the conference. 

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