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Pat English, FMI Large Cap

To make the cut at FMI Large Cap, a stock must go through an intensive examination.

Andrew Gogerty, 12/21/2009

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Shareholders of Fiduciary Management Inc.'s funds could have been forgiven if they thought their funds had gone on a hiring spree in early 2009. FMI funds run by a couple of managers all of a sudden listed a half dozen or so more portfolio managers. But these weren't new hires. Rather, executives at FMI wanted to highlight the fact that the stock selection and research is done by a team of analysts. They also wanted to recognize the analysts' contributions to the entire research process. Analysts at FMI are generalists--they are not tied to specific sectors or industries--and they are collectively involved in every buy and sell decision made in the portfolio.

This total-team approach is different than the sector-aligned structures of most firms, and it is a key driver of FMI's success. Because they study many different industries, FMI's analysts are able to contribute to the debate of whether a stock should be included in the firm's compact portfolios. FMI doesn't compensate analysts based on the performance of their picks. Rather, it's the quality of their ideas and insights that count.

Milwaukee: Home of the Boutique
Milwaukee might not be the financial hub that is Chicago, which is just 90 miles to the south, but it is home to a handful of strong-performing boutique asset managers. One of the best is FMI, which Don Wilson and Ted Kellner founded in 1980. (They had worked together at in-town rival Nicholas Co.) The next year, in 1981, the firm launched its flagship fund, FMI Common Stock FMIMX, which has delivered one of the mid-blend category's best long-term records. In January 2002, the firm opened FMI Large Cap FMIHX, and it has followed in its sibling's footsteps, becoming the envy of its large-blend peers. The analyst teams for both funds are identical.

FMI Large Cap has pushed past its category peers with just a handful of well-researched picks. The fund holds 27 stocks, while its average peer has nearly 150 holdings. The team buys companies with strong franchises, high recurring revenues, defensible market positions, and stock prices below the FMI's fair value estimates. FMI backs up this philosophy with conviction by building a truly actively managed, long-term-oriented portfolio. Few, if any, of the attributes the team requires of a stock change dramatically in the short term.PAGEBREAK

Because Large Cap is a compact portfolio, the team manages stock-specific risk, so a hiccup at one or two picks doesn't sink returns. The analysts plow through nearly all available information about a company, looking for anything that may undermine the thesis for owning it. Their recommendations are then presented to the broader committee. Team members attempt to pick apart the thesis before collectively deciding whether the stock is worthy of the portfolio.

This research and presentation takes time. Large Cap's 26% average turnover for the past three years indicates a stock holding period of nearly four years. The typical large-blend fund has a 65% average turnover for the same time period. In 2008, the fund only added net two positions to the portfolio. (Management added six stocks and eliminated four.) Most of the fund's inflows last year went into building positions in its current holdings.

Valuation Is Key
The fund is a stock-picker's domain, but the team has a clear eye on the world around it. When changes are made to the portfolio, the key driver is valuation. The team will gladly sit on the sidelines and wait for an attractive company to come down to a reasonable valuation. At the same time, the managers will take money off the table rather than stretch for that last dollar of gains at the expense of additional volatility. The team, for example, trimmed its position in Wal-Mart WMT at the beginning of 2009. Wal-Mart has been in the portfolio since 2005 and was one of the better-performing stocks in 2008. But the stock's valuation was starting to be more-fully recognized. In the same vein, the team also sold some shares of Cintas CTAS and Kimberly-Clark KMB earlier this year within the consumer goods and services sectors.

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