A Rating Downgrade for a Global Equity Fund

Michael Herbst: Historically, the Ivy Asset Strategy Fund, which is also run in a clone setting as Waddell & Reed Asset Strategy, have pursued what we view as an at-times defensive, at-times high-octane global equity strategy, at least in recent years. What I mean by that is management tries to deliver equity-like returns with less volatility.

We assess the funds against the MSCI All Country World Index benchmark. Typically what you'll find is a big chunk in equities and smaller, usually single-digit, stakes in gold bullion or corporate commercial paper. Management has the ability to hedge its equity exposure, and historically it has done so up to 100%.

Because of the compact team and the nature of the strategy, the mid-May announcement from Waddell & Reed that the co-manager Ryan Caldwell will be departing the fund June 15 has been a cause for concern. We've mentioned in the past in previous analyses that, because of his integral role on the team and the nature of the team and the nature of the strategy, his departure would be a cause for concern.

Caldwell will be working as a consultant to the fund for the next two years, but the terms of that arrangement have not yet been announced. His new role, where he's going to, has not yet been announced either, but if we look at the fund's involvement in a number of private placements, it's not a big stretch to think that he may eventually emerge affiliated directly or indirectly with one of those portfolio companies. We don't know that yet, but those announcements ought to be forthcoming in July or August of 2014.

There are two reasons stemming from Caldwell's departure that have us lowering our view on the fund from Bronze to Neutral. First, we're likely to see some fairly significant changes to the portfolio in light of Caldwell's potential involvement with one of the portfolio companies. But more importantly, Caldwell has played an integral role in the execution of the strategy since he joined the team in 2005. Michael Avery, the lead manager, is currently reviewing internal candidates--senior-level managers from Waddell & Reed most likely. Who that person is will have a material impact on the execution of the strategy. So when that announcement is made in July, August, or September of this year, we will reassess our view on the team and on the fund as a whole.

Because of the research resources still in place and the fairly ample cash stake in the portfolios at this time, we feel that both funds, Ivy Asset Strategy and Waddell & Reed Asset Strategy, are on stable ground in the interim. So, in our view, there would be no reason for folks to rush to the exits.