2 Mid-Caps for Long-Term Growth

12/01/2011 7:00 am EST

Focus: FUNDS

Finding companies with top-notch fundamentals and sustainable business models is what Mark Schultz specializes in. He shares two of his mid-cap picks, and discusses why it’s important for investors to be conscious of their time horizon, rather than letting themselves be whipsawed by market volatility.

Kate Stalter: Today’s guest is Mark Schultz. He’s the manager of the MTB Mid Cap Growth Fund (ARMEX).

Mark, our listeners tend to be individual investors. Tell us about your fund’s objective, and highlight what you think retail investors really do need to know about what you’re seeking to achieve here.

Mark Schultz: Very good question. The MTB Mid Cap Growth Fund, as the name would suggest, is looking for mid-cap companies. And for us, that means principally between the $2 billion and $15 billion market cap range at the time that we initiate our positions.

We’re looking for mid-cap companies with superior growth prospects relative to the broader market. And our strategy here at MTB Investment Advisors is very much oriented towards looking for companies with superior business models that provide a firm foundation for long-term, sustainable growth.

One of the really attractive aspects of investing in the mid-cap area of the market is, we have the opportunity to look for companies that are beyond the trials and travails of early-stage development and infancy. They’ve established themselves and their products in the market, and management has been tested. But still, we have a long runway ahead of them, in our estimation, to benefit from their superior growth prospects as investors.

Kate Stalter: Let’s drill down a bit, Mark. Tell us about some of the top holdings in the fund right now.

Mark Schultz: Sure. The fund is well diversified by sector, but we’re looking to take active positions in our leading companies. So you’ll see some fairly heavy weights within a diversified framework.

A couple stocks that have done well for us, of whom we have high expectations, would include a household name like CBS (CBS), the network broadcaster, where we see them well positioned to benefit from a cyclical recovery in advertising spending.

There are also some secular growth drivers, such as the monetization of their extensive library of content through vehicles such as Netflix (NFLX), that are buying the broadcast rights to the CBS library. So we see that being a potentially strong generator for continued earnings.

And more important, the cash flow grows for CBS looking out. So that’s a large holding in the fund.

In the tech area, we have a software company called Ansys (ANSS), a stock that many of your listeners may not be familiar with. It’s firmly in the mid-cap range, and what Ansys has developed is a library of software programs that help for product design and development in what’s called multiphysics simulation.

So their products help designers of a wide range of products—consumer goods, industrial goods—simulate behavior of these products to software before they go to the physical world to design and develop. So it’s, as I said, multiphysics—things like thermodynamics, electromechanical forces—to assess how products will bear up under heat and stress and perform in the real world.

This accelerates product design and development, as well as improving product performance and reducing cost. So it’s very much a value-added product that has found extensive and increasing use in the marketplace.

Kate Stalter: Anything else in there, Mark, that investors may want to know about right now or that really speaks to what the fund’s strategy is?

Mark Schultz: Well, the name implies at the MTB Mid Cap Growth Fund, we’re looking for growth-oriented companies and we think that the time is right as well, coming out of the recession and looking around. We see fairly robust growth at the corporate level, if not so much at the macroeconomic and employment level.

But at the corporate level, we see very strong earnings growth in the market at large, and we’re looking for those gems that we can put in the fund to enjoy growth at even faster rate than the market. So it’s a growth-oriented fund and that’s where we have our capital deployed.

So you’ll see at a sector level, substantial holdings in consumer discretionary, technology, industrials, energy, and less in the more defensive areas of the markets, such as the sectors of utilities, telecom services, and consumer staples. Because, as I said, it’s oriented towards generating superior growth.


Kate Stalter: In light of the recent market volatility, the global uncertainty, are there any areas where you pared the fund’s holdings or added to them?

Mark Schultz: Well, we try to maintain a longer term investment horizon. And by that, I mean futurology isn’t our strong point, but we’re forecasting a year-and-a-half, two years, three years out, looking for companies that are positioned to generate long-term sustainable growth.

What we endeavor to do is, having picked our targets, exploit the market volatility that is driven, I think, very much by short-term concerns and understandable issues, to trade within a buy-and-hold strategy, but to trim and add to our positions, exploiting the market volatility that provides us with opportunities to move around a little bit.

Having said that, it’s very much a low turnover fund with average annual turnover in the 30% to 40% range, so it’s a buy-and-hold orientation. But we try to exploit investor emotions, and buy into pessimism and sell into euphoria.

Kate Stalter: I referenced the volatility and the uncertainty a moment ago. What would be your advice for individual investors who are listening to this, who are trying to manage their own portfolios and just don’t understand what the best moves are at this point?

Mark Schultz: Well, that’s, of course, a timely and important question. And as I said, what we are endeavoring to do at the MTB Mid Cap Growth Fund is anchor our investment performance over the longer term to companies with demonstrated, durable, strong business models.

Good earnings growth, good cash flow generation capabilities, strong balance sheets, proven management, proven products—I think that is the best orientation, frankly, in robust economic times as well as challenging market environments. To invest in quality holdings.

I think also it’s important not to react emotionally to the market ups and downs, and we as professional investors have to remind ourselves, of course, of that every day. We’re not immune to the pressures the volatility exerts psychologically, but our analytical framework provides us the intellectual discipline and positions us to exploit it.

I think it’s also very important that investors have their asset allocation consistent with their investment horizon. I think volatility is much easier to cope with when one is not, for example, overexposed to equities with money that I may need for other purposes in the very short term.

I think a lot of psychological pressure emanates from a mismatch between investment horizon and asset allocation, and people really have to recognize that it’s the nature of the equity markets that they go up and down, that they may appreciate over time, but on any short term basis, they will go up and down.

People’s investment policy asset allocation has to be consistent with that volatility. And if it’s not, then the volatility can cause not just psychological damage, but also real, practical damage.

Kate Stalter: It sounds like you might be saying, “Don’t get too panicked about some of these short-term swings that we’re seeing in the market.”

Mark Schultz: Well, I would certainly encourage people not to panic. We’ve done some research here just recently that indicates that the short-term panics when the VIX, the volatility index that has become a very popular gauge of investment psychology and fear, spikes.

If one looks out—and it’s not very long when you’re looking at equity investments—but a year forward from VIX spikes, you’ve generally had a very positive return from that point forward.

Of course, it’s nice to anticipate some of this volatility and perhaps skirt around it, but I think it’s important that investors recognize that it’s a short step from saying that, to market timing, and there’s no evidence that I or anybody has any ability to time the market in the short term.

So again, I think that the proper approach for dealing with volatility is not to fixate on it. And it’s easier not to fixate on it when you’ve got your asset allocations consistent with your investment horizon. And then it’s easier to cope with what, in the long term, often amounts to a lot of noise, if not great buying opportunities that present themselves. When the volatility puts pressure on equity valuations, that’s the time to buy.

Unfortunately, when one looks at flow of funds data, people generally sell into the volatility and create the good values that I and other professional investors are hoping to take advantage of.

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