Value equities were off to a good start in 2002, outperforming growth equities in the first quarter, according to the Pensions & Investments' Performance Evaluation Report.
Separately equity managed accounts and commingled funds overall registered barely positive returns for the quarter, 1.5% and 1%, respectively.
The benchmark indexes also registered returns only slightly north of zero in the first quarter. The Standard & Poor's 500, Russell 1000 and Russell 3000 indexes returned 0.3%, 0.7% and 1%, respectively. The Russell 2000 index fared better with a 4% return in the quarter.
The style based indexes helped illustrate the dominance of value over growth in the quarter. The Russell 1000 growth, 2000 growth and 3000 growth indexes had negative returns, -2.6%, -2% and -2.5%, respectively. However, the Russell 1000, 2000 and 3000 value indexes returned 4.1%, 9.6% and 4.5%, respectively.
Not only was being a value investor important, but having a preference toward small-capitalization stocks paid off the most. "It was certainly a small-cap market," said Douglas Pugh, senior vice president and portfolio manager of Peregrine Capital Management, Minneapolis.
Of the top 15 performing equity managed accounts, nine were small-cap value accounts. The top-performing managed account, run by Donald Smith & Co., Paramus, N.J., was a microcap fund that returned 24.4% for the quarter.
Managers reported they continued to take advantage of the now-positive returns of stocks that suffered in the post-Sept. 11 environment.
"We took advantage of 9/11 to buy some stocks that were pretty beaten up," said Donald Smith, president of the company that bears his name and manager of the microcap account. The company's 6 1/2-year-old account, with $60 million in assets, benefited from large holdings in transportation, shipping, technology and lodging. The account experienced big gains in airline America West Holdings Corp. and hotelier La Quinta Corp., both of which are in industries hit by drops in tourism after last year's terrorism.
Mr. Smith said his company invested in La Quinta because it had taken the time to study the company while analysts from other firms failed to understand the complicated structure of the hotel chain. La Quinta originally was part of a health care real estate investment trust known as MediTrust, he said. It was Smith's belief, though, that La Quinta would turn out to be a deep value stock.
"We don't have a lot of overpriced growth stocks that hurt other people," said Mr. Smith.
Peregrine's Small Cap Value strategy also experienced positive returns from stocks in the tourism industry. Mr. Pugh pointed to holdings in Frontier Airlines Inc. as an example of a tourism stock that paid off. The Peregrine account was the third-highest equity managed account in the quarter at 15.7%.
Despite doubts in the industry about the viability of consumer products, Peregrine also benefited from its investments in that industry. Mr. Pugh mentioned retail stocks for Shopko Stores Inc., Saks Inc., Genesco Inc., Friedman's Inc. and Phillips-VanHeusen Corp., all solid stocks. The account's retail portfolio had an average return of 41%, said Mr. Pugh.
Top-performing equity account managers said some of the best returns came from stocks they felt were largely ignored by other investors.
"You can generate positive surprises," said Kevin Jones, senior portfolio manager of ICM Asset Management, Spokane, Wash. The firm's Small-Mid Cap Value equity strategy returned 13.6% in the first quarter, ranking it ninth. The account also returned 38.1% for the year and an annualized 31.8% for the three-year period, putting in the top 15 for both periods as well.
ICM's surprise performers in the first quarter were Pennzoil-Quaker State Co., AGCO Corp. and Charming Shoppes Inc., said Mr. Jones.
Poor for growth
Growth accounts had a comparatively tougher time in the first quarter. The median returns in the overall growth universe were -1.6% for separate accounts and -0.6% for commingled funds. Of the top 15 accounts in the overall equity universe, none was growth.
But some growth managers pulled in impressive returns. The top performing growth account was San Francisco-based Sterling Johnston Capital Management Inc.'s Micro Cap Aggressive Growth equity account, which returned 12.6%. The remaining top performing growth equity accounts in the top five for the quarter were: KPH/Invest LLC, Kansas City, Mo., Small Cap Value/Growth Equity, 10.5%; Great Northern Capital, St. Paul, Minn., Small Cap Growth, 10.3%; PanAgora Asset Management Inc., Boston, Small Cap U.S. Equity, 9.2% and Eagle Asset Management Inc., St. Petersburg, Fla., Small Cap Growth, 8.8%.
Like other managers in the growth category, the Sterling Johnston Capital fund made large returns by emulating characteristics of a value account.
The $140 million strategy was propelled by its ability to invest in companies ahead of a large influx of institutional money, said Scott Johnston, chief investment officer. In addition to its eight-person investment staff, the firm also gets information from a network of 120 regional brokers through which it trades.
"They're the closest to the source of the information," said Mr. Johnston.
The account had its first-quarter success with entertainment stocks of Hastings Entertainment Inc., Penn National Gaming Inc. and Aztar Corp. Sterling also had holdings in Friedman's.
The adherence to a value-like style of growth investing also propelled the Sterling account over longer periods, returning 51.4%, 58.5% and 58.2% for respective one-, three- and five-year periods ended March 31.
Independence Investment LLC, Boston, had an 8.3% return for its small-cap growth account. "When I screen for stocks, it's got to be selling at a reasonable discount," said Charles Glovsky, who manages the account for Independence, putting it in ninth place of all growth accounts for the quarter.
The account is more of a core account, Mr. Glovsky said. The firm also has a history of retaining growth stocks long after they have turned into value stocks, he said. As examples of that, he pointed to holdings in Waste Connections Inc., The J. Jill Group Inc., Cost Plus Inc., and Penn National.
Using the value approach also helped Waddell & Reed Investment Management, Shawnee Mission, Kan., over the long term with its Small Cap Growth equity strategy, said Mark Seferovich, senior vice president. The account returned 22.5% for the 10-year period, making it the No. 1 growth account and the No. 4 overall equity account for the time period.
Mr. Seferovich used the example of Concord EFS Inc. as an example of Waddell's occasional value leanings. The firm bought Concord stock when it viewed it as a growth stock but increased its holding when the stock price tumbled.
Two other factors helped the Waddell account over time, said Mr. Seferovich. The account maintains a relatively high cash position, ranging between 10% and 25%. The position provided a cushion in 1994, 2000 and 2001, which were difficult years for growth investors, he said. In addition, Mr. Seferovich said he has not concentrated on filling out the portfolio.
"We don't try to cover the waterfront," he said. The account has never held more than 50 names.
A small group of stocks helped other equity accounts. Sterling has kept its list of holdings around 80, while Independence's 18-person investment staff keeps only 47 names in the account's battery. Mr. Jones said ICM's portfolio averages about 60 names at a time.