Wasatch Long/Short (FMLSX), June 2012 update (first published in 2009) Contents
The fund’s investment objective is capital appreciation which it pursues by maintaining long and short equity positions. It typically invests in domestic stocks (92% as of the last portfolio) and typically targets stocks with market caps of at least $100 million. The managers look at both industry and individual stock prospects when determining whether to invest, long or short. The managers may, at any point, position the fund as net long or net short. It is not designed to be a market neutral offering.
Wasatch Advisors of Salt Lake City, Utah. Wasatch has been around since 1975. It both advises the 19 Wasatch funds and manages money for high net worth individuals and institutions. Across the board, the strength of the company lies in its ability to invest profitably in smaller (micro- to mid-cap) companies. As May 2012, the firm had $11.8 billion in assets under management.
Ralph Shive and Mike Shinnick. Mr. Shinnick is the lead manager for this fund and co-manages Wasatch Large Cap Value (formerly Equity Income) and 18 separate accounts with Mr. Shive. Before joining Wasatch, he was a vice president and portfolio manager at 1st Source Investment Advisers, this fund’s original home. Mr. Shive was Vice President and Chief Investment Officer of 1st Source when this fund was acquired by Wasatch. He has been managing money since 1975 and joined 1st Source in 1989. Before that, he managed a private family portfolio inDallas,Texas.
Management’s Stake in the Fund
Mr. Shinnick has over $1 million in the fund, a substantial increase in the past three years. Mr. Shive still has between $100,000 and $500,000 in the fund.
August 1, 2003 as the 1st Source Monogram Long/Short Fund, which was acquired by Wasatch and rebranded on December 15, 2008.
$2,000 for regular accounts, $1,000 for retirement accounts and for accounts which establish automatic investment plans.
1.63% on assets of $1.2 billion. There’s also a 2% redemption fee on shares held for fewer than 60 days.
Our original analysis, posted 2009 and updated in 2011, appears just below this update. Depending on your familiarity with the two flavors of long-short funds (market-neutral and net-long) and the other Wasatch funds, you might choose to read or review that analysis first.
|2011 returns: 1.8%, top quarter of comparable funds2012 returns, through 5/30: (0.7%) bottom quarter of comparable fundsFive-year return: 2.4%, top 10% of comparable funds.|
|When we first profile FMLSX, it has just been acquired by Wasatch from 1stSource Bank. At that time, it had under $100 million in assets with expenses of 1.67%. Its asset base has burgeoned under Wasatch’s sponsorship and it approached $1.2 billion at the end of May, 2012. The expense ratio (1.63%) is below average for the group and it’s particularly important that the 1.63% includes expenses related to the fund’s short positions. Many long-short funds report such expenses, which can add more than 1% of the total, separately. Lipper data furnished to Wasatch in November 2011 showed that FMLSX ranked as the third least-expensive fund out of 26 funds in its comparison group.On whole, this remains one of the long-short group’s most compelling choices. Three observations underlie that conclusion:
For folks interested in access to a volatility-controlled equity fund, the case for FMLSX was – and is – pretty compelling.
Our Original Comments
Long/short funds come in two varieties, and it’s important to know which you’re dealing with. Some long/short funds attempt to be market neutral, sometimes advertised as “absolute returns” funds. They want to make a little money every year, regardless of whether the market goes up or down. They generally do this by building a portfolio around “paired trades.” If they choose to invest in the tech sector, they’ll place a long bet on the sector’s most attractive stock and exactly match that it with a short bet on the sector’s least attractive stock. Their expectation is that one of their two bets will lose money but, in a falling market, they’ll make more by the short on the bad stock than they’ll lose in the long position on the good stock. Vice versa in a rising market: their long position will, they hope, make more than the short position loses. In the end, investors pocket the difference: frequently something in the middle single digits.
The other form of long/short fund plays an entirely different game. Their intention is to outperform the stock market as a whole, not to continually eke out small gains. These funds can be almost entirely long, almost entirely short, or anywhere in between. The fund uses its short positions to cushion losses in falling markets, but scales back those positions to avoid drag in rising ones. These funds will lose money when the market tanks but, with luck and skill, they’ll lose a lot less than an unhedged fund will.
It’s reasonable to benchmark the first set of funds against a cash-equivalent, since they’re trying to do about the same thing that cash does. It’s reasonable to benchmark the second set against a stock index, since they aspire to outperform such indexes over the long term. It’s probably not prudent, however, to benchmark them against each other.
Wasatch Long/Short is an example of the second type of fund: it wants to beat the market with dampened downside risk. Just as Oakmark’s splendid Oakmark Equity & Income (OAKBX) describes itself as “Oakmark with an airbag,” you might consider FMLSX to be “Wasatch Large Cap Value with an airbag.” The managers write, “Our strategy is directional rather than market neutral; we are trying to make money with each of our positions, rather than using long and short positions to eliminate the impact of market fluctuations.”
Which would be a really, really good thing. FMLSX is managed by the same guys who run Wasatch Large Cap Value, a fund in which you should probably be invested. In profiling FMIEX last year, I noted:
Okay, okay, so you could argue that a $600-700 million dollar fund isn’t entirely “in the shadows.” . . . the fact that Fidelity has 20 funds in the $10 billion-plus range all of which trail FMIEX – yes, that includes Contrafund, Low-Priced Stock, Magellan, Growth Company and all – argues strongly for the fact that Mr. Shive’s charge deserves substantially more investor interest than it has received.
As a matter of fact, pretty much everyone trails this fund. When I screened for funds with equal or better 1-, 3-, 5- and 10-year records, the only large cap fund on the list was Ken Heebner’s CGM Focus (CGMFX). In any case, a solid 6000 funds trail Mr. Shive’s mark and his top 1% returns for the past three-, five- and ten-year periods.
Since then, CGMFocus has tanked while two other funds – Amana Growth (AMAGX) and Yacktman Focused (YAFFX) – joined FMIEX in the top tier. That’s an awfully powerful, awfully consistent record especially since it was achieved with average to below-average risk.
Which brings us back to the Long/Short fund. Long/Short uses the same investment discipline as does Large Cap Value. It just leverages that discipline to create bets against the most egregious stocks it finds, as well as its traditional bets in favor of its most attractive finds. So far, that strategy has allowed it to match most of the market’s upside and dodge most of its downside. Over the past three years, Long/Short gained 3.6% annually while Large Cap Value lost 3.9% and the Total Stock Market lost 8.2%. The more impressive feat is that over the past three months – during one of the market’s most vigorous surges in a half century – Long/Short gained 21.2% while Income Equity gained 21.8%. The upmarket drag of the short positions was 0.6% while the downside cushion was ten times greater.
That’s pretty consistently true for the fund’s quarterly returns over the past several years. In rising markets, Long/Short makes money though trailing its sibling by 2-4 percent (i.e., 200-400 basis points). In failing markets, Long/Short loses 300-900 basis points less. While the net effect is not to “guarantee” gains in all markets, it does provide investors with ongoing market exposure and a security blanket at the same moment.
Lots of seasoned investors (Leuthold and Grantham among them) believe that we’ve got years of a bear market ahead of us. In their view, the price of the robustly rising market of the 80s and 90s will be the stumbling, tumbling markets of this decade and part of the next. Such markets are marked by powerful rallies whose gains subsequently evaporate. Messrs. Shive and Shinnick share at least part of that perspective. Their shareholder letters warn that we’re in “a global bear market,” that the spring surge does not represent “the beginning of an upward turn in the market’s cycle,” and that prudence dictates that they “not get too far from shore.”
An investor’s greatest enemy in such markets is panic: panic about being in a falling market, panic about being out of a rising market, panic about being panicked all the time. While a fund such as FMLSX can’t eliminate all losses, it may allow you to panic less and stay the course just a bit more. With seasoned management, lower-than-average expenses and a low investment minimum, FMLSX is one of the most compelling choices in this field.