Russ Kinnel: Hi. I'm Russ Kinnel, director of mutual fund research. I'm joined today by David Maley, fund manager of Ariel Discovery, a small-value fund that was launched in early 2011. Its trailing one-year and year-to-date performance is outstanding, not that that alone is a reason to buy, but it beats having bad performance.
So, David, thanks for joining us.
David Maley: Thanks for having me, Russ.
Kinnel: Maybe you could tell us a little about your deep-value strategy. I think of kind of the two things that are scary about deep value are: one, you can be vulnerable through an economic recession like we had in 2008; two, you can be vulnerable to bad management because obviously there's a reason the stock is cheap and sometimes bad management can kill an otherwise good company. How do you combat those two things?
Maley: Sure thanks, it's great to be here, Russ. By deep value what we try to do is we try to invest with such a margin of safety that even if things go wrong, we can still be OK as investors. So a lot of times the stocks we’ll invest in have actually had these difficulties happen, and in fact worries about the economy can be what creates the opportunity to buy the stock at a very deep discount. What we look for are stocks that trade at a low price to book value first of all. We recognize it as you get small it gets very hard to predict earnings and particularly earnings growth. So when the market focuses too much on those, we feel like we get opportunities as we focus on asset values first. Those are a lot more stable, so you don't have the same problems there.
Second, we always look for stocks with great balance sheets. That allows our companies to ride out tough times, and in fact, a lot of our stocks have significant excess cash. Sometimes we'll even buy stocks trading below their cash, or very close to their actual cash values.
Then third, the other thing we look for, once we find something that kind of screens those parameters, is good corporate governance. We want management teams that own stock. We like to see boards of directors that own stock. We don't like to see excessive perks, excessive pay packages. So we want to feel like managements are incentivized to think and act like us the shareholders, and we think those things help us avoid the value traps that are so common in deep-value investing.
Kinnel: This year what's driving performance at the fund?
Maley: I think a couple things. One is that we have managed to avoid for the large part disasters. So in this world of investing, if you can avoid having a lot of big disasters, you're ahead of the game usually to start with. Then we've just had a handful of stocks that have done particularly well for us. One stock that I guess we bought right when we started the fund last February, Market Leader, a software company that serves the real estate market, has had some great news. We originally bought it for barely more than its cash near its book value, and it's actually signed some very good contracts with big real estate companies, Keller Williams and Century 21, that have basically let the business start to grow. So that's done particularly well for us.
It's kind of a combination of a few stocks that have done well, not in any kind of thematic way, just kind of stock-by-stock, which is how we invest. [Our approach is] very much bottom-up, stock-by-stock, [and we] look for very cheap stocks with a margin of safety.