The third quarter was a bad one for equity money managers - but not all bad.
Surprisingly, there were a few places to hide in the quarter, and the best place in the Pensions & Investments Performance Evaluation Report equity universe was market-neutral strategies.
Every major equity benchmark in the world posted negative numbers in the quarter, from the Standard & Poor's 500, which returned -14.7%, and the Nasdaq composite, down 30.7%, to Morgan Stanley Capital International's Europe Australasia Far East index, down 14%.
In the PIPER managed accounts universe, the median equity return in the third quarter was -15%, dragging the median year-to-date returns to -17.5% and the rolling one-year returns through Sept. 30 to -20.5%.
PIPER returns in the commingled universe were worse, as the median commingled equity fund returned -15.3% in the quarter, -18.6% year-to-date, and -23.5% for the year ended Sept. 30.
Growth equity managers continued to take it on the chin, but value equity returns also were brutal. The median growth equity managed strategy returned -19.8% and the median value strategy, -12.1%.
Ray of light
If there was a ray of light in the quarter, it came from market-neutral strategies. All five of the top-performing managed accounts in the quarter were market-neutral strategies.
At the top was the AXP Rosenberg Mid/small-cap market-neutral portfolio, with a 26.1% return in the quarter. AXP Rosenberg's U.S. Large-cap market neutral strategy came in second, with a third-quarter return of 17.2%
Kathryn Mohan, senior market-neutral strategist at the Orinda, Calif.-based firm, said a value bias and industry-neutral approach helped boost the performance of the midcap/small-cap account. Prior to the Sept. 11 terrorist strikes on the World Trade Center and the Pentagon, the portfolio benefited on the long end by holding value-oriented or "recession-proof" stocks. "We take long positions in the companies that we think are going to deliver quality earnings per dollar spent today," said Ms. Mohan. "We short companies for which we think the opposite is true."
After the market tanked, Ms. Mohan said the portfolio did not lose value because it had not taken any big bets on any one industry.
Ranking third in the quarter and first for the year ended Sept. 30 was the Aronson + Partners dollar-neutral long/short portfolio. The strategy returned 10.8% in the quarter and 49.7% for the 12 months.
Theodore Aronson, principal at Aronson + Partners, Philadelphia, said that for the quarter and during the past 12 months, all of the added value in the portfolio has come from value stocks. "It was just the opposite of 1999 and early 2000," said Mr. Aronson of the market in the past year. "Price to anything - price to ZIP code - would have made you money," he said.
However, the portfolio was able to outperform its peers because of its sector-neutral, broad-based value plays. "It really is a fabulous period for the sort of eclectic value that we seek," said Mr. Aronson.
In the third quarter, most of the added value came from the short side of the portfolio, said Mr. Aronson. Technology sector stocks, including Capstone Turbine Corp. and Informatica Corp., helped drive performance on the short side. The health-care sector also added value to the portfolio, said Mr. Aronson, with Columbia Laboratories Inc. among the top performers on the short side.
State Street Global
Fourth in the quarter was State Street Global Advisors' long-short U.S. equity strategy, with 8.7%, followed by the Freeman Associates Market Neutral strategy, up 8.5%.
For the year ended Sept. 30, the AXA Rosenberg Mid/Small Cap Market Neutral account, which posted a return of 41.6%, came in second to Aronson + Partners.
Third on the one-year list is the Boston Partners small-cap value equity account, run by David Dabora, portfolio manager at Boston Partners, Boston. The account is up 32.9% for the period. Hank Lawlor, director of mutual fund marketing at Boston Partners, said fundamental research is what sets the portfolio apart from others. "We do a tremendous amount of digging into companies," said Mr. Lawlor, "and are able to find some uncovered gems in the portfolio." Among the winners in the portfolio over the past year is SOLA International Inc., an eyeglass manufacturer.
Rounding out the top five are the Pzena Investment Management's small-cap value strategy, up 29.8%, and the Harris Associates midcap value equity portfolio, up 28.2%.
In the commingled equity universe, only two funds posted positive returns in the third quarter: SSgA's long-short U.S. equity fund, which returned 8.9%, and Principal Capital Management's real estate fund, up 0.8%.
"When there's uncertainty like there is in the markets, it's a great time for market neutral," said Jane Tisdale, principal and portfolio manager on the global quantitative equity team at SSgA, Boston. "Any environment where investors are paying attention to fundamentals is good for us."
Ms. Tisdale said SSgA's quantitative analysis and approach, which allows the team to identify potential "extreme performers" on either the short side or long side, aided the portfolio in the third quarter.
In the third quarter, the short side of the portfolio drove performance, said Ms. Tisdale, as there were a number of "extreme" performers. Specialty retailers including Gap Inc. and Big Lots Inc. added value on the short side, said Ms. Tisdale, as well as insurance industry stocks including MONY Group Inc. and St. Paul Companies Inc. The technology sector also helped drive returns on the short side as stocks including Qwest Communications International Inc., Sonus Networks Inc. and Vignette Corp. paid off.
Rounding out the top five performing commingled equity funds in the third quarter is the John McStay Real Estate Securities fund, down 0.9%; Delaware Investments' REIT fund, -2.1%; and Commonfund's Real Estate Securities fund, down 2.9%.
The top performing commingled fund for the one-year period ended Sept. 30 was the Reich & Tang small-cap value equity fund, managed by Reich & Tang Capital Management, New York. The fund, managed by Steven Wilson, is up 17.8% in that period.
Like most equity funds, the portfolio suffered in September, but Mr. Wilson said he took advantage of the down market to add positions. "We had a fair amount of cash going into Sept. 11, and we were able to put a lot of cash to work," said Mr. Wilson. During periods of adversity in the market, said Mr. Wilson, you can't do much except take advantage of what the markets give you, which is good businesses at depressed prices. "Good businesses are going to take advantage of the macro-adversity," he said. The trick is finding the right ones, he added. Among the stocks added to the portfolio in the third quarter were Radio Shack Corp., Gardner Group PLC and WMS Corp.
Three areas the Reich & Tang portfolio strategically avoids are high tech, utilities and financials, said Mr. Wilson, who noted that has been a good thing over the past year. "We didn't participate in the boom and we didn't participate in the bust." Year-to-date through Sept. 30, 61% of the holdings in the 40-stock portfolio were up. Among the winners over the past year are Ball Corp. and Elcor Corp.
Second on the one-year list is Donald Smith & Co. Inc.'s small-cap value fund, which returned 17.7%, followed by the Brandywine Asset Management diversified small-cap value fund, at 14.8%. Rounding out the top five are PW Trust Co.'s midcap value fund, 11.9%, and the Putnam Investment Inc. small-cap value equity trust, 11.8%.