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Money Life Interview – Colin Dunn

Cambiar SMID Fund Portfolio Manager Colin Dunn recently joined the Chuck Jaffe Show to discuss where he is finding opportunities within the smaller market cap spectrum.

 

Transcript:

Chuck:

It’s big interview time on today’s show. And I am joined right now by Colin Dunn. He is the co-manager of the Cambiar SMID Fund, CAMMX, the ticker symbol. If you’re looking for more information, it’s going to be cambiar.com. Colin Dunn. Thanks so much for joining me on Money Life.

Colin:

Yeah, thank you for having me. It’s a great pleasure to be on the show.

Chuck:

I was interested in having you on the show because we haven’t spent a lot of time lately talking about small and mid-caps, and there’s been something that early on in pandemic, I kept hearing. And now we’re at a spot where I’m wondering why I haven’t seen it necessarily. So as we got into pandemic mode, people were saying, Oh, we’re going to get to a point where small caps, mid-caps will start to pick up. But then in the craziness, that was the pandemic, well, no, it was just the biggest companies driving everything market. While that was happening, people going, yes, you wait, small caps are coming, but here we are. We’re getting ready to be moving forward to the next phase of recovery from the pandemic and the rally that I think a lot of people expected, hasn’t really materialized. What’s holding us back because I know you’re optimistic about small and mid-caps, but why haven’t we seen the return to performance that perhaps we expected from the cap size?

Colin:

Well, I think at the outset, when the pandemic struck last year, remember it was the larger companies in many cases that were the immediate beneficiaries of consumer spend, but also their ability to operate. So simplistically, a company like Walmart was able to keep all their stores open. And therefore also had a lot of the necessities that consumers are looking to consume, while some smaller competitors of theirs actually were mandated to close or unable to stay open. So while that’s not, doesn’t necessarily explain the entire under-performance of small-cap, it does give some perspective as to some of the companies were to some degree disadvantaged relative to the larger ones. Also they weren’t the destinations of some of the spend, where people could spend money over the last 12 months. It also coincides with what has been in favor broadly or what we’ve observed, where some of these technology powerhouses, these platform-oriented companies have thrived in this period of time.

And by definition, platform company and small-cap are almost oxymorons where, you just don’t find a lot of those types of businesses down the cap spectrum. So we think those companies have the platform companies that is similar to the Walmart scenario and have been the great beneficiaries and have seen their financial performance be quite strong. And the stocks have acted accordingly.

Further down the cap spectrum, where you have a lot of companies deeper in the supply chain, those companies where you had inventories get run down, have also seen their businesses disproportionately affected by the weaker overall business volume. So we think a lot of those things are set to improve the next 12 to 24 months where the companies that have been big beneficiaries, these dominant type platforms, or in the case of say, a Walmart, are going to face tougher comps and maybe some of the spend will migrate away from them elsewhere to some of the companies that have been kind of left out in the cold over the last 12 months.

So again, some of this is being discounted in the market more recently where the beneficiaries of a stronger economy are acting much better, particularly over the last three months, but there’s a lot more to go there. And just from a long-term perspective, we continue to believe there’s lots of opportunities to be an active investor in the small and mid-cap landscape. Long-term market performance suggests there’s lots of alpha to be generated, as it remains a very volatile asset class. I think we looked at the Russell 2000 performance over 10 or 20 years and intra-year drawdown averages 15 plus percent, which when you’re an investor, like we are where you track companies that you covet to own at the right price. And you’re just patient, you tend to get shots to buy good companies. And so we’re excited about our opportunity. A) to benefit from the tail end that’s likely to come to the smaller and mid-cap stocks over the next 12 to 24 months. But as well, the ongoing opportunity to be an active manager in that space.

Chuck:

Well small-cap is an area where we would expect to see more benefit to active management. And I mean, you guys at Cambiar, you are relative value investors. So let’s talk about where the valuations are, because as much as I said that small caps, while, we haven’t seen the rally that we expected, I mean, small caps did end 2020 on a pretty strong upward trend. I mean, like up 30%, the last quarter on the Russell 2000. So with that having been the backdrop and having continued just maybe not at the kind of overall pace we would have expected, say over the last 12 to 18 months, but with that having continued, where are we on a valuation spectrum? I mean, I know that you guys are relative value, but how are these values at this point?

Colin:

Yes. In aggregate the small-cap valuations, like the large-cap valuations are elevated versus history. There’s no doubt about it. But again, this is a large universe of companies that we are looking to attack. We continue to find opportunities to allocate client capital from our bottom-up research process. Certainly there are more opportunities last spring and last summer, but there remain some. What we would observe is that while the aggregate valuations across the index are high, they still do remain in some respect below where they were 20 years ago, which is the benchmark a lot of us are looking at, and we’d also observed there’s pockets of elevated sentiment in valuation. So certainly the sexiest of the growth companies look high to us. These are cool businesses. They have a terrific long-term opportunity, but some of the EV to revenue ratios say 50, 60, 70, a hundred times, make it hard for us to figure out what’s the value opportunity is there.

Similarly, some of the reopening plays have moved quite a bit and have discounted a good portion of what we think is likely to come over the next 12 to 24 months, maybe not entirely, but a lot of that has been discounted. And we think there’s a big fat middle of the market, where these are solid companies that don’t fit some theme that investors are looking to play, where we have been able to find opportunities. And so with patience at the core of our process, we wait for some of these better businesses to come our way, and we find that they still are coming our way.

Chuck:

So as we discuss the opportunities, there has been some movement in small caps. In fact, it’s been the headline moving stuff in small caps. Obviously, I’m not asking you to comment specifically on say GameStop, but it wasn’t just GameStop that was rallying. As GameStop was going through everything that raised it up and the ridiculousness of GameStop was that a week ago it was finishing a week where it was up more than 150%. And that was only its second-best week of the year. Right? That’s how silly and crazy that’s gotten. But there were a lot of other names that got sucked into it. I mean, just for a day or two, here or there, it would be some story stock, whether it was the entertainment companies, or Tootsie Roll got picked into it one day and you kept seeing all these different names that came out of nowhere. Is that changing environment, creating problems or opportunities for a small-cap manager like you?

Colin:

Well, we would say that it creates opportunities. We would question how good some of that activity is in terms of what is going on from, or what’s driving that from a retail investor perspective, but just the volatility can create opportunities for an active manager who has a list of stocks, ready to buy, whether it’s the stock going way up and you happen to own it and you think it’s kind of going way up for reasons that are ahead of fundamentals. It’s an opportunity for us to harvest some gains for our clients. And if, or if the stock is going down disproportionate relative to its fundamentals, it’s an opportunity to buy. We were even involved in a stock that got caught up among five or 10 names from the GameStop frenzy. We’ve been a fan of the Bed Bath and Beyond turnaround. And that was one that got swept up in that. And that was an opportunity for us to remain constructive, but maybe take some gains for our clients.

Chuck:

So what do you do in a situation like that? You take some gains and it doesn’t mean you’re getting out completely necessarily. And are you then expecting it to settle back to where it was? And if it does, pick it up again?

Colin:

We try to let the fundamentals be our guide. So we have a favorable view of the company’s business or in this case, how the business is going to progress from a fundamental perspective and have a valuation framework we work with and the company migrates towards our ultimate price target. We’re looking to reduce exposure for clients in favor of allocating that capital to a different place. And so we would treat Bed Bath and Beyond or any other stock caught up in a short-term, seemingly nonfundamental rally relative to that rubric.

Chuck:

It’s interesting because of course, that’s what everybody has to do in this, where are you going to be if your stock is the next thing that gets caught up into this craziness? That said, do you also believe that for as much as this craziness is creating headlines, that it’s not really the story. I mean, here we have been talking about the trend and the things that are important to you and that you see happening in the market. I had to raise GameStop, yet GameStop and those stocks have been making all the headlines. Is what we’re hearing in the news overblown? And do you as a manager go, yeah, that’s not our story.

Colin:

We’ll observe and marvel at what goes on in the fringes, in a situation like GameStop, but are much more concerned with our sector analysts following their sectors, determining where value is accruing and eroding, who are the winners of that value accrual scenario, put them in a library of good companies, identify a price where you want to buy it, and wait for a moment to buy it. That’s where we spend the vast majority of our time and try not to get caught up in the noise that grabs the most headlines while certainly being aware of how that might affect the companies that we do own, or the companies that we might own.

Chuck:

Historically small caps and mid-caps have returned a little bit better than large caps that has not, of course been the story for most of the bull market that has existed since 2008. But as we look forward now, help my audience, in the limited time we have left, set expectations. What do you expect to see small caps deliver going forward? What is a reasonable expectation? Not necessarily absolute, but at least relative to large-cap.

Colin:

Well, not wanting to be bold and brave in terms of predictions, we think there’s a great opportunity for them to do what they have done over the longer period of market history over 10, 20, 30 year periods, which is, generally deliver superior returns than the large-cap indices. Given the companies being small, tend to have a little more runway and their ability to grow. And that can be something that I think an investor in small-cap land can take advantage of. As well as the market inefficiencies, which are still there in terms of the stocks underlying those indices, being quite volatile and a manager with a disciplined process, has an opportunity to take advantage of that volatility and align client capital with potential to value creation.

Chuck:

Colin great stuff. Thanks so much for joining me to talk about it. Look forward to chatting with you again in the future.

Colin:

That’s great. Chuck, thanks so much for your time today.

Chuck:

That is Colin Dunn. He is co-manager of CAMMX, the Cambiar SMID Fund. If you want to learn more cambiar.com, find Colin on the Money Life show recent guest page, and get a long link directly to an information page about the fund or follow the firm on Twitter @cambiarinvestor. We’re halfway into today’s show. That means we’re just getting warmed up, stick around. We’ll be right back to talk some technical analysis.

 


DISCLOSURE

Mutual fund investing involves risk, including the possible loss of principal. In addition to the normal risks associated with investing, investments in smaller companies typically exhibit higher volatility. There can be no assurance that the Fund will achieve its stated objectives.

To determine if a Fund is an appropriate investment for you, carefully consider the Fund’s investment objectives, risk factors and charges and expenses before investing. This and other information can be found in the Fund’s summary or statutory prospectus which can be obtained by clicking here or calling 1-866-777-8227. Please read it carefully before investing. There is no guarantee that the Funds will meet their stated objectives.

As of 3.4.21, the Cambiar SMID Fund had a 2.5% weighting Bed Bath & Beyond, 0.0% in Gamestop, and 0.0% in Walmart.  

This material represents the portfolio manager’s opinion and is an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice or a specific recommendation of securities. There is no guarantee that any forecasts made will come to pass.

Cambiar Funds are distributed by SEI Investments Distribution Co., 1 Freedom Valley Dr. Oaks, PA 19456, which is not affiliated with the Advisor.  Cambiar Funds are available to US investors only. Strategies included within the Separate Account section are not mutual funds and are not affiliated with SEI Investments Distribution Co.

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