We’re always very busy with research, but this quarter has been full of broad and diverse perspectives. In addition to off-site conference attendance, we have also met locally with many experts.
Vanguard: Active and Passive management discussion
Melissa Joy met with Joseph Brennan and Lee Norton from Vanguard Group in May at our offices. Mr. Brennan runs the Index Equity department. He is responsible for managing index portfolios with the firm. Mr. Norton monitors and reviews management teams on both active and passive strategies at Vanguard. Highlights from the conversation included:
- With more than $1.5 trillion in index investments, they are one of a very small group of dominant players in the index investing world. We discussed what indexes they decide to make available for investment and how the portfolio review team monitors their internal index teams.
- Vanguard was featured in Michael Lewis’ recent book, Flash Boys. Having read the book, Melissa was curious about their take since they were prominently mentioned. They both acknowledged the real problems uncovered by IEX (a fast growing alternative trading system that avoids dark pools and high frequency trading) which was featured in the book. They also believed that the desire for an entertaining and appealing financial book may have resulted in some additional hype that might not be warranted.
- We talked about Vanguard’s process for identifying active managers for their funds. Not surprisingly, cost was an important factor in hiring managers. Other factors that were favored included enduring teams, teams from employee-owned firms, and teams with ability to hand off succession from one generation to the next.
JP Morgan: A fixed income discussion
Priscilla Hancock from JP Morgan Asset Management sat down for a conversation about bonds, especially municipal bonds with Melissa Joy and Angela Palacios. We’ve known Priscilla for a while and have heard her speak in 2012. We’ve caught up with her three times since then. She has a great conversational way to talk about bonds and how they typically behave in rising rate environments. With many of the investors we like to speak with, it’s not always the first conversation that brings us the most value – getting to know each other over time provides robust information and is a critical part of our research and monitoring process. Priscilla shared these perspectives:
- The aging US population is helping to keep bond yields lower. As boomers retire and age, they want more bonds, keeping demand high. Likewise, pensions are working to lock in stock market gains and are snapping up bonds any time rates creep up. It’s an interesting dynamic working against rising rates even though it doesn’t completely compensate for the push to higher rates that will probably occur at some point.
- Municipal bonds were last year’s trash with rising rates and headlines about Puerto Rico and Detroit taking the wind out of the municipal market. We discussed the situation in Detroit and why shifting rules on bankruptcy alarm municipal bond investors. That said attractive tax equivalent yields have increased interest in the municipal bond market and rewarded municipal investors this year.
- Proceed with caution when using passive indexes for bond exposure. Issuers you want to avoid are the ones issuing the most debt.
Columbia: “Lose less in down markets”
This is not the first time that Scott Davis, Director at Columbia Dividend Income has checked in with us and we find that with time we are able to have more nuanced conversations with the portfolio managers. He noted that although stock prices have been headed north, he’s always reticent. In his words, “I don’t want to party like it is 1999 because it was a hell of a hangover.” He then elaborated saying the time-tested secret of investing is to lose less in down markets. Of concern is increasing merger and acquisition activity. On the more optimistic side of things, Scott says that companies are being run in a manner that’s better than he has seen in his almost 30 year career investing at Columbia. As a dividend-focused investor, Scott reminded us that buying dividends alone without understanding the source of dividends can be a dangerous proposition. He compared it to “picking up nickels in front of a steamroller.”
Water Island Capital: Event-Driven Strategy
Angela sat down with Ted Chen, Portfolio Manager of Water Island Capital’sArbitrage Event Driven Strategy, to discuss equity special situations. Opportunity can abound here because most money managers don’t understand how to evaluate these situations. The companies take on a negative stigma creating a potential buying opportunity for someone who specializes in understanding special situations. We also discussed the volatility in the stock market and how it has become so minimal that the cost of hedging a portfolio is very low right now.
The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Angela Palacios and not necessarily those of RJFS or Raymond James. This information is not intended as a solicitation or an offer to buy or sell any security referred to herein. Investments mentioned may not be suitable for all investors. Past performance may not be indicative of future results. Municipal bond interest is not subject to federal income tax but may be subject to AMT, state or local taxes. Income from taxable municipal bonds is subject to federal income taxation; and it may be subject to state and local taxes. Municipal securities typically provide a lower yield than comparably rated taxable investments in consideration of their tax-advantaged status. Investments in municipal securities may not be appropriate for all investors, particularly those who do not stand to benefit from the tax status of the investment. Please consult an income tax professional to assess the impact of holding such securities on your tax liability.