Last year was one of great contrast in international stock markets. After a promising beginning, 1997 ended in disaster in Asia. But despite the volatility, the median international equity account in PIPER did -- just barely -- outperform the Morgan Stanley Capital International Europe Australasia Far East index for the quarter. And for the year, accounts down to the third quartile beat the index returns.
Of the 195 international equity accounts in the Pensions and Investments Performance Evaluation Report, the median account fell 7.2%, compared with -7.8% for EAFE. For the year, the median account returned 6.7% and the third quartile account returned 2.7%, compared with 2.1% for the index.
(PIPER groups together managed account and commingled funds for international equity.)
At its start, 1997 looked positive for investments in Asia. The picture changed in the last quarter.
How important is country allocation to PIPER's top-performing international equity managers?
"Country allocation is a byproduct of our stock selection," said Christopher Cowie, managing director in charge of marketing and client services at Silchester International Investors, London.
Silchester uses a bottom-up value approach for its equity composite and flagship fund, the International Value Equity Trust, which topped returns for the fourth quarter with -0.9% for the composite and 1.1% for the trust. For the year, the composite ranked ninth with a 17% return and the trust, 11th, with 16.7%.
Silchester had been underweighted in Asia all year, Mr. Cowie said, and overweighted in the United Kingdom in the second half.
In the fourth quarter, the composite had less than 1% in emerging markets and "nothing in Brazil and Mexico, which hurt in the first half of the year, when Brazil and Mexico did well, but helped in the second half." said Mr. Cowie. "It also helped that we didn't own any Japanese banks."
He stressed good stock selection drives the process. "We're not trying to see through walls, but trying to identify good, well-financed companies selling cheaply.
The composite has a small-cap bias; 38% of the holdings have cap weightings of less than $1 billion.
Country allocation is not primary for Columbus Circle Investors' International Pension Fund, which topped the one-year returns with 44.2%. "We're bottom-up stock pickers," said Andrew Jacobson, portfolio manager.
For Columbus Circle Investors, Stamford, Conn., country allocation is an overlay to help with diversification, but is secondary to stock selection. At the beginning of 1997, fundamental research rated Hong Kong on the positive side, based on the "red chip" stocks and domestic Hong Kong property stocks. The position moved to neutral and then to less than neutral.
Although the portfolio was in Hong Kong and Singapore earlier in the year, it was out of Asia before the collapse, Mr. Jacobson said. By the end of 1997, the fund was heavily committed to Europe because of stock selection. He said that although portfolio managers stress company fundamentals in their approach, they monitor macro trends for positive or negative effects on performance surprise.
Keeping out of trouble
In contrast, TT International's approach is top-down with detailed stock selection. Mark Williams, partner, describes the "geopolitical" approach as involving an assessment of potential changes resulting from political events, economic fundamentals and capital flows. The aim is to "keep us away from trouble."
TT International's active equity composite, which topped the three- and five-year rankings with 22.9% and 23.8%, respectively, returned -2.4% for the quarter and 20.6% for the year ended Dec. 31.
"For the last two years we have had nothing in Asia ex-Japan or (ex-)Hong Kong, because we did not consider the other countries safe. But we did like Hong Kong from October 1996 until August 1997 and had 16% invested there in July 1997, but by August we had 0%," Mr. Williams said.
At the same time, TT had high allocations to France and Italy, based on an assumption that Europe was benign, and the best companies just happened to be located there.
Mr. Williams said TT's asset allocation can change quickly if the geopolitical situation changes, as in the case of Hong Kong.
"With regard to Japan, we consider the measures announced in December 1997 (about aid for the banking industry and other economic concessions) to be a significant political U-turn, and therefore in January have gone from 0% in Japan to 25%," Mr. Williams said.
Global Asset Management uses a top-down strategy, said Brett Felsman, director of the New York-based firm. "The investment team takes a look at the world to see what markets we like and what markets we don't like," he said. "It's essentially a developed market product.
"If countries or industries exhibit poor fundamental economic conditions or are overvalued, they are excluded from the portfolio, such as Germany at the moment."
After country allocation, Global Asset's investment team looks at industry level and then at stock level. The composite is underweighted in Japan, which is overvalued on a macro level. But the portfolio held three "global champions," Canon Inc., Sony Corp. and TDK Corp. "Those companies have the positive attributes we like to have in the portfolio," Mr. Felsman said.
Global Asset's international opportunities composite is among the top 10 managers in PIPER's international equity report for the quarter, one-, three-, five- and 10-year periods. It returned 2.53% for the quarter; 22.9% for the year; 17.9%, three years; 22%, five years; and 16.7%, 10 years.
The composite is made up of 45 to 65 stocks and is considered all-cap with a large-cap bias, Mr. Felsman said.
The managers interviewed agree the best sector opportunities in international equity for 1997 were in Europe's financials, pharmaceuticals and consumer nondurables, the result of restructurings.
Columbus Circle's portfolio, which typically holds between 50 and 60 stocks, held a range of companies and countries in 1997. Among its biggest winners in Europe were: Det Sondenfjelds Norske, a Norwegian company better known as DSND, which is undergoing a transformation from a rental fleet of deep-sea oil production equipment to an operating company providing all the oil production services; and Airtours, a British travel agency that has benefited from consolidation in its industry and the recovery of the British economy.
"We actually made money in Japan," Mr. Jacobson said, crediting the firm's stock selection process.
The portfolio also held Advantest, a semiconductor firm, and Takada Chemical, a large-cap pharmaceutical company increasing its internal drug business.
The top five winners in 1997 for TT International were: Telecom Italia Mobile, an Italian mobile telecommunications firm, spun off from Telecom Italia; Credito Italiano, a bank benefiting from the consolidation in Italian banking; Novartis, a Swiss pharmaceutical company that restructured; Cap Gemini SA, a French business services firm and the largest European computer services firm; and Philips Electronics NV, a Dutch producer of consumer goods that has profited from restructuring.
Despite the winners, international markets as a whole have by far underperformed the U.S. market. Yet they continue to attract institutional investors.
"A lot of people have done well in the U.S. market, and they're taking some of that off the table," Mr. Jacobson said.