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In an Industry of Sprinters, American Funds Demonstrates Its Endurance

The firm is evolving in the face of industry trends--and continued redemptions from its funds--but certain hallmarks remain intact.

Janet Yang, CFA, 07/26/2013

Morningstar recently issued a new Stewardship Grade for American Funds. The firm's overall grade--which considers corporate culture, fund board quality, fund manager incentives, fees, and regulatory history--is an A. What follows is Morningstar's analysis of the firm's corporate culture. This text, as well as analytical text on the other four Stewardship Grade criteria, is available to subscribers of Morningstar's software for advisors and institutions: Morningstar Principia®, Morningstar Advisor Workstation(SM), Morningstar Office(SM), and Morningstar Direct(SM).

The deep roots of American Funds' more than 80 years of investing success are many and intertwined, though for the most part, they can be traced to a few sources: the firm's trademark multimanager system; a stable and long-tenured team of investment professionals; and an incentive system that allows those professionals to take the long-term view in an increasingly myopic market. Combined, American and its parent company, Capital Group, have leveraged those characteristics to impressive results, particularly on the equity side of their business, where the vast majority of American's assets under management reside.

American Funds' cultural strengths begin at the founding of its parent company, Capital Group, in 1931 by investor Jonathan Lovelace. Since then, investors have remained firmly at the helm of this privately held company, and longtime portfolio managers such as Tim Armour, Rob Lovelace, and Jim Rothenberg comprise the majority of the firm's management committee. That group sets the firm's overall business direction, and its guidance mirrors the patient and long-term nature that have long been the hallmarks of the firm's investment offerings.

Where Autonomy and Patience Prevail
The firm pioneered the use of multimanager investing in the 1950s, and the system has since become inextricably tied to the firm's identity. The current structure allows sometimes a dozen or more managers, and usually analysts as well, to independently manage slices of a fund's portfolio. This generally results in well-diversified funds that are less volatile than their respective peers, helping investors to stay in them through all sorts of market environments (though financial advisors, the company's predominant sales channel, also play an important role here).

The multimanager system also has its advantages when transitioning portfolio managers (called portfolio counselors by the firm) on and off funds. Easing managers onto small slices of funds means that investors won't experience the jarring change in investment process that sometimes occurs with single manager funds. In addition, managers have usually already clocked in with multiple years of live performance history as analysts before they're named to a fund's official roster; that gives the firm's senior leaders plenty of time to observe each manager's investment style, helping those leaders to assemble groups of complementary managers.

At the same time, disclosure surrounding the multimanager system reflects American's insular, private nature, but is also deficient in an industry that's among the most-transparent in the financial-services realm. Although American satisfies the letter of current regulation, the firm acknowledges that there are some portfolio managers, generally running less than 5% of a fund's assets, that aren't disclosed in fund documents. American says this gives an analyst something of a trial period, both to test his skills and to allow an analyst to test the portfolio-management waters; but even with a small percentage of assets, these undisclosed managers could be responsible for billions of dollars. Even for the named managers, American doesn't share what percentages of fund assets each portfolio manager is running, so it can be tough for fundholders to tell who has more or less influence on fund performance. American isn't the only fund company to exercise these options, but this kind of omission is unusual.

As for transitioning managers off funds, more often than not, those moves involve retirements or movements of portfolio managers between funds--not investment personnel leaving the firm. In fact, American Funds investors enjoy some of the most stable and long-tenured investment teams around. That level of experience includes not only portfolio managers, but it also extends to the firm's analyst roster. In contrast to other firms where being an analyst often represents a mere steppingstone to a coveted portfolio manager position, Capital's career analyst path ensures that the firm's analysts can be just as well rewarded as a diversified portfolio manager. In many cases, portfolio managers also continue to have analyst duties.

At Capital, it's not unusual for portfolio managers and analysts alike to spend their entire investment careers at the firm, starting as entry level undergraduate- or graduate-level hires and finishing at retirement several decades later. Achieving that level of stability starts at the hiring process, where it's not unusual for candidates to go through several dozen interviews as the firm tries to assess a candidate's fit for Capital's collaborative and intellectually charged environment.

Janet Yang is a fund analyst with Morningstar.

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