At the end of 2008, the Manning & Napier Pro-Blend Maximum Term Series (EXHAX) marked its 10th consecutive year of beating the Standard & Poor's 500 Index, a feat that precious few mutual funds apart from Legg Mason Value Trust have ever achieved. This achievement was all the more astonishing because this 15-year-old fund is a half-sister to a reasonably conservative family of target-date funds that were pioneered in the early 1970s by Manning & Napier Advisors, which now runs $30 billion in assets 264 miles northwest of Wall Street in Fairport, New York.
But the portfolio managers in Fairport were not celebrating. That's because 2008 was the year the stock market was crushed and the S&P fell 37% -- and Pro-Blend beat the index by only 1.6 percentage points. "It's a little bittersweet when you cap a performance record like that in a market that was as brutal as it was," says Christian Andreach, a managing director of Manning and one of 10 portfolio managers of Pro-Blend.
It's surprising that such a uniquely diverse and thrifty fund could have been dragged so far down. Unlike its target-date siblings, Pro-Blend is an aggressive, actively-managed, fully-invested mutual fund that does not confine itself to any asset class or investment style. It owns bonds as well as stocks, and it invests across the equity spectrum in both growth and value styles, and in companies of all sizes. It also crosses geographic borders, from Western Europe to emerging markets. And Pro-Blend is a consummate bottom-crawler, buying stocks at a discount to fair value of at least 25%, according to Andreach.
But Pro-Blend dug a hole for itself two years ago when investors were convinced that the Wall Street crash would have an even more devastating effect on emerging markets. So the fund's holdings in emerging markets and even U.S. companies that depended on those markets for revenue went through the floor. As the dollar started to look like a safe haven, the fund's British stocks took a beating. The fund also owned U.S. banks that got pummeled even if they weren't distressed.
"Easy Money Opportunities" Getting Harder to Find
Andreach and his colleagues haven't lost a moment trying to dig out Pro-Blend since the market hit bottom in March 2009. In the process, they found themselves buying growth stocks like Google (GOOG), Cisco Systems (CSCO) and EMC Corp. (EMC) that were valued as cheaply as classic value stocks like banks. Prices for these three stocks have roughly doubled from their lowest levels in the crash. "We saw competitive capacity coming out of the market, and we thought these companies would be the ones left standing when the economy recovered," says Andreach. They made similar bets on SouthWest Airlines (LUV), United Parcel Service (UPS) and FedEx (FDX).
As a result, Pro-Blend grew modestly, by 43%, during the 12 months through April 15, when it had $678 million in assets. But even at that rate, the fund is starting to fall behind the S&P 500, underperforming the index by 1.88 percentage points during those 12 months. And the rest of the year could prove to be a far greater challenge as Andreach and his co-managers find it a lot harder to find such "easy money opportunities" in the wake of the rally, he says.
That's why Pro-Blend recently made a contrarian bet on health care stocks that many investors won't touch for fear that the new health care reform law signed by President Barack Obama on March 23 could somehow prevent pharmaceutical companies from recouping the cost of developing drugs. The fund is buying companies that Andreach says are insulated from such political risks because they are on the diagnostic side of the industry. Yet their stock prices still fell in the last week of March too, presenting a buying opportunity for the fund.
One of these companies is Quest Diagnostics Inc. (DGX), which conducts blood tests and other tests ordered by doctors. Another is Inverness Medical Innovations Inc. (IMA), which sells products used to test patients for pregnancy, cancer and other medical conditions. Another is Gen-Probe Inc. (GPRO), which screens blood for the Red Cross.
Andreach believes the rest of the year could prove far more challenging as stocks of all styles and sizes start to look way overpriced. In the near term, he predicts that stock prices will become increasingly volatile. So the fund is taking a defensive posture, recently selling shares of two supermarket chains, Kroger (KR) and Safeway (SWY), which that Andreach says normally do well when the economy is recovering.
It would be hard to find a less subtle hint that the recovery is -- at least in the eyes of Manning & Napier -- threatened. "Our outlook is not for another market crash," says Andreach. "But prospective returns are not going to be as robust as they were six months ago."
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