Downgrades of Manning & Napier Funds Account for Most of March's Medalist Changes

In the month of March and through the first week of April, we downgraded 23 funds. Of those, 17 were funds from Manning & Napier that had Morningstar Analyst Ratings of Gold and Silver that we downgraded to Bronze because of meaningful personnel shifts and a performance slump. We dug into both these issues in March with an onsite visit, and Manning & Napier's leadership visited our offices, as well. While the firm's shakeup may work out in the long run, it's generally wise to proceed with added caution until the fog dissipates.

A recap of the Manning & Napier downgrades reveals the insight and considerations that influence our Analyst Ratings. Unlike our star ratings, which reflect past success or failure, Analyst Ratings indicate our confidence in a fund's future prospects.

Manning & Napier's Appeal Headquartered off the beaten path in upstate New York, Manning & Napier has grown from a small boutique to a publicly traded investment management firm with nearly $48 billion in assets under management. It has established a risk-conscious culture that stems from the investment philosophy that it has consistently applied since its 1970 founding. It stresses absolute return and flexibility to navigate through the various phases of a market cycle. Importantly, the firm's compensation structure aligns with those principles. Both absolute and relative returns affect analysts' bonuses, and if analysts' picks fall into negative territory, they must recoup losses before earning a bonus in subsequent years. As another risk control, they must enlist a sponsor for each investment idea before presenting it to the portfolio managers. Each pick's success has an impact on compensation for the analyst and sponsor.

The firm's senior leadership had been remarkably stable, inspiring confidence that it won't veer from its long-standing approach. Prior to 2015, the 14-person senior research group had not seen a departure in more than a decade and six members' history on the group dated back to the early 1990s. The group has also shown the ability to execute its flexibility effectively, producing impressive results from 1999 to 2001 amid the tech bubble and then again in 2008's economic crisis. However, performance challenges spurred big changes in management structure this year.

Falling Behind in the Rally The funds first encountered performance issues in 2011 and hit a wall again in 2014. Missteps within their energy stake hurt in both periods. Most recently, the team failed to trim its burgeoning exposure to that sector fast enough and remained bullish on energy when oil prices plummeted. The team thought that the impact of fracking on energy prices was overstated and that energy would rebound. That left the firm's funds pointing in the wrong direction. Over the past decade the firm continued to add members to its senior research group, diluting the decision-making process and resulting in insufficient pushback on analysts' recommendations.

Meanwhile, Manning & Napier announced personnel and fund management changes. Those changes included the departures of two members--Jack Bauer and Brian Gambill--of its 14-member senior research group. (Gambill ran the firm's capital goods and materials sector group, which covers energy stocks.) The tenure and stability of the senior research group have been two of the firm's strong points, and the departures damped that advantage.

Even more alarming, Manning & Napier decided to reorganize its research groups. That included cutting the senior research group to five members from 14 and modifying its role. Most members of the old group had been named managers on the firm's flagship funds, though now the group no longer directly manages portfolios. Instead, it monitors the overarching investment approach. In the senior research group's place, the firm designated smaller four-person teams to manage each of its flagship strategies. While the process remained intact, changes represent a considerable disruption in the execution of the long-standing process.

Lost Some Luster But Still Shines Ultimately, the changes culminated in a downgrade of all rated Manning & Napier funds' Morningstar Analyst Ratings to Bronze in early April. This rating still reflects a positive outlook for the funds, albeit a bit more tempered. There's some merit to the firm's reasoning that more-specialized and smaller groups will bring more focus and accountability to funds that have struggled to add upon past successes lately. The long firm tenure of the smaller groups and the deep analyst bench supporting them also work in the funds' favor. The smaller groups continue to carry out the flexible, research-driven approach that has long been part of the firm and the funds' appeal. But the new management teams will have to function effectively despite the changes in roles. The firm elevated a younger generation of analysts into portfolio-management roles for the two equity funds, and they are little less well-known commodities. These changes introduce more uncertainty into road ahead for the funds.