2 International-Stock Funds to Watch

Susan Dziubinski: Hi, I'm Susan Dziubinski with Morningstar. Morningstar's manager research team maintains a list of up-and-coming and under-the-radar strategies that they call Morningstar Prospects. Joining me today to discuss two prospects that focus on international stocks is Nick Goralka. Nick is an analyst on Morningstar's manager research team. He is also the editor of our semiannual Prospects List report.

Thanks for being here today, Nick.

Nick Goralka: Thank you for having me, Susan.

Dziubinski: Let's start out with a little bit of background on how the team selects strategies to include on this prospects list.

Goralka: Sure. As you mentioned, the Morningstar Prospects list is a list of up-and-coming, or maybe under-the-radar strategies, which means in itself that it can be difficult to find promising candidates for the list. However, Morningstar analysts do have some attributes of a strategy that they prefer to see, which helps kind of filter down the large investable universe. So, maybe it will be something along the lines of long manager tenure, low fees perhaps, or a very differentiated process that they found reviewing other strategies potentially. Those are some of the things that analysts might look for when considering what to add to the Prospects list.

Dziubinski: Now, the strategies that are on the Prospects list aren't under full coverage by our analysts, which means they don't get fund Analyst Ratings. But some prospects do graduate to get those Analyst Ratings at some point. Do most funds that start out as prospects on the list graduate and get rated by our analysts eventually?

Goralka: Not necessarily, because the point of the prospects list in part is that Morningstar manager research analysts may still have some unanswered questions about the strategy, and Morningstar analysts have high standards for those questions. So, if the strategy in question isn't able to meet them, and I don't think I have to tell people that the actively managed equity universe is tough competition these days. So, if the strategy in question is unable to meet those issues or resolve those issues to the analyst's standard, then it would be in fact dropped from the list instead of graduated to full coverage.

Dziubinski: How long, Nick, does a prospect typically remain a prospect? How long is it on that list?

Goralka: Well, it depends. It's case-by-case. Some strategies graduate only one issue later, so six months later, because the report is semiannual, as you noted earlier, while some remain on the list for a few years. But generally speaking, the questions that manager research analysts have about the strategy won't linger for more than a few issues. It's rare to see a strategy on the list for more than two or three years. By then, the analysts will probably either be satisfied with the questions they have or unsatisfied with the questions that they had, and the strategy will either be graduated or dropped accordingly.

Dziubinski: Now, Nick, the team recently added two funds to the prospect list that focus on international stocks. So, let's do a little bit of a dive into these two funds in particular. The first is Pzena Emerging Markets Value. Why is this on our Prospects list?

Goralka: Like many strategies on the Prospects list, they do things a little differently, and it's interesting to keep track of. They are a deep-value emerging-markets strategy, which not many are brave enough to do these days, given how poorly value-leaning emerging-markets strategies have done in recent years. And given the fact that investors usually don't want to partition their emerging-markets portfolio by growth, blend, value--usually they're looking to just allocate a chunk of their portfolio to emerging markets in general and call it a day. So, value emerging markets has not really been in favor at all lately. They only look to buy stocks in the cheapest 20% of a proprietary valuation metric. That gives you an idea of how cheap they're wanting to keep this portfolio. And as a result, as you might expect, the price metrics are much lower than the peers or the relevant benchmark. So, a key manager on this strategy actually stepped away in early 2022, just earlier this year. So, we're curious to see how the strategy carries on without him. But overall, it's a promising strategy.

Dziubinski: The team also recently added Aristotle International Equity to the Prospects list. Why did we add that one?

Goralka: That's an interesting strategy. It's a concentrated international-equity strategy. There's only 30 to 40 holdings in the portfolio, which means that it will probably carry higher risk than some alternatives. Concentrated strategies typically stray in performance from the relevant benchmark more than more diversified strategies in both directions. So, the underperformance and overperformance will both be potentially more dramatic. But the two managers have led the strategy effectively since its inception in 2014. They've done well to guide it over that time, and they have shown that they are willing to be patient in executing what they consider to be a long-term-oriented approach and what probably is a more longer-term orientation than a lot of peers in their category.

Dziubinski: Well, Nick, these sound like a couple of very interesting funds to sort of keep an eye on and follow, and time will tell if they end up becoming graduates from that Prospects list.

Goralka: Definitely, Susan.

Dziubinski: Well, thanks for your time today. We appreciate it.

Goralka: Thank you for having, me.

Dziubinski: I'm Susan Dziubinski with Morningstar. Thanks for tuning in.