Fund Manager Briefing: Martin Currie North America Fund

Lipper’s Jake Moeller reviews highlights of a presentation by Penny Kyle, Investment Director, Martin Currie North America Fund, on August 1, 2014.

Edinburgh is a beautiful and remarkable city for many reasons, but few outside the U.K. might appreciate the extent of its influence in the fund management world. Indeed, its importance has been reinforced by the slew of fund manager consolidations in the auld town, of which Martin Currie—following its takeover by Legg Mason—is the most recent.

Corporate mergers can be a considerable trauma, with the potential to distract technical and nontechnical staff alike. Most risks occur where there is considerable overlap or product commonality. Martin Currie’s North American proposition is fairly unique, even within the now-widened Legg Mason stable, and there is no obvious reason to think Legg Mason will tamper with the goodwill inherent in the global sector research structure that has hitherto held Martin Currie in good stead.

The fund itself has been subject to some previous change, with long-term and well-known fund manager Tom Walker stepping aside in September 2013 to concentrate on global portfolios. Penny Kyle was an external appointee and—although not a household name in the U.K.—arrived with an impressive pedigree, having managed large U.S. portfolios for a sovereign wealth fund and more concentrated U.S. portfolios at Amex. Ms. Kyle worked with Mr. Walker during a three-month transition period to “get to know the portfolio” and the various interactions with the supporting team analysts, rather than to learn a new house style or familiarize herself with unknown stocks.

This fund is very much for those who believe in active fund management; with 40 stocks it is highly concentrated, has over 80% active share, and has turnover of around 30% a year. Despite this, the beta of the fund is fairly close to one, although Ms. Kyle points out that this is only in aggregate, with individual stock betas varying considerably. Idea generation comes about through proprietary screening with various valuation metrics but also with considerable input from Martin Currie’s global sector research team, which services all the regional portfolio management teams.

Ms. Kyle seeks companies with “improving fundamentals” at a reasonable price; these are brought to her attention by an analyst or may be an idea she is already following. Where analysts recommend the stock, she actively engages with them to challenge and better understand the thesis. Since October 20013, Ed Wotherspoon, Investment Manager, North America, has been assisting Ms. Kyle on both stock selection and portfolio construction providing an additional dedicated resource.

Table 1. Performance of Martin Currie North America Fund V IMA Sector and Fund Benchmark (since Ms Kyle’s Tenure).

“Improving” is core to this process. A company could be a poor one that is, for example, restructuring or selling non-core business, or it could be a good company that is improving its franchise or increasing its earnings. One of her larger active positions—AIG—is such a “signpost” stock. It has been characterized by a sell-off of non-core assets and, importantly for an insurance company, has a good relationship between return on assets and price-to-book ratio, with ROE improvements coming because of effective underwriting changes. Ms. Kyle also looks closely at what’s being done with proceeds of divestments. In the case of AIG it has used proceeds to buy back stock that was trading below book value—another positive “signpost.”

Ms. Kyle paints an optimistic outlook for the U.S. market, although she concedes the current low volatility levels are causing some challenges. She doesn’t see values as being particularly stretched, pointing out there is a “sweet spot” for earnings multiples when you see ten-year Treasury yields in the 3%-4% range. (She also highlights that the S&P 500 12-month forward P/E very rarely trades at its average of 15x anyway, inferring there is always opportunity in the market; see Table 2. below).

Table 2. S&P 500 forward P/E Ratio

Although there is still a weak GDP environment in the U.S., she points out that in the S&P500 35% of sales are generated overseas and that the next leg of U.S. equity returns will be driven by earnings, rather than by valuation. Ms. Kyle has identified three themes that are central to her portfolio positioning: (1) Cyclical recovery–stocks such as Eaton that are able to benefit from a recovery in U.S. nonresidential construction, (2) Self-help—companies that are benefitting from cost-cutting programs such as P&G, and (3) Secular change—companies such as EOG Resources that are benefitting from the U.S. energy revolution.

The performance of the fund during Ms Kyle’s tenure has been in the 3^rd quartile when compared to the IMA North American sector (see Table 1.) although she inherited a portfolio that was struggling and has certainly appeared to stabilise relative performance and in 2013 she out-performed her US benchmark by 210ps (on a gross basis). She has found 2014 more difficult with the previously mentioned low volatility but also with the market distortion caused by M&A noise such as Twenty First Century Fox and Time Warner and Pfizer/ AstraZeneca. Despite this, Ms Kyle is commendably unperturbed by peer group comparison, and her considerable experience suggests for the long-term investor, she may have the ability to add long-term value in a notoriously difficult market.