Value Investment

Philosophy

First and foremost, we are value managers, investing in high-quality companies we believe are significantly undervalued. Our approach is the purest form of value management and centers on understanding the natural behavior of markets and investors. Consequently, we consider the following points in determining the value of potential investment candidates:

Human Emotion

Understanding human emotion is key to being successful in the investment management business, since investors tend to overreact in their optimistic views as well as in their pessimistic views. As investors overreact to near-term events, they create overvalued and undervalued security prices in relation to a company’s long-term outlook.

The overall investment process includes analyzing historical valuation ranges, researching company fundamentals, reviewing investor sentiment, and developing price targets. Using a large capitalization universe of approximately 1,000 companies, our research group screens five historical valuation factors: price/sales, price/book, price/cash flow, price/earnings and dividend yield. Based on these factors, stocks trading in the bottom third of their ten-year historical ranges are identified.

As part of our balanced portfolio management, we employ a fixed income approach using intermediate government and corporate bonds to create a “barbell of quality” structure, which produces a short average maturity with a higher than average yield. The two primary characteristics we look for in corporate bonds are attractive yield spread over treasuries and potential upgrades in quality ratings over the next several years. Analysis of quality rankings, sector spreads, and the business cycle helps us determine which investment grade corporate issues to select. Our focus is primarily toward the lower end of the investment-grade scale for yield enhancement to the portfolio. Bond ideas also come from our equity research. This equity work allows us to discover quality companies that may be at the trough of their economic cycle. Our fixed income research is fundamental in nature, and primarily performed in-house. U.S. Treasury and Agency bonds are purchased to provide liquidity.

Our sell discipline is one of the most important aspects of the investment management process. Selling is based on the same three factors we use for buying stocks: fundamentals, valuation and sentiment.

Fundamentals can trigger a sale if they do not keep up with valuation. This can happen either because fundamentals deteriorate or because valuations improve. Valuation is monitored through our price targets of downside, fair and full value, and these targets are re-established periodically by our investment team. This is an integral part of our process because as fundamentals change, so can valuation. Our security management is dynamic and allows price targets to move both up and down to reflect improvement or deterioration in fundamentals. As our discount begins to narrow and fundamentals remain strong, we scale out of positions and may write covered call options as part of our sell discipline. Additionally, if investor sentiment changes more than fundamentals warrant, then a stock becomes a sell candidate.