Diane Jaffee believes value investing offers the shareholders of TCW Galileo Diversified Value Fund/N (TGDVX ) a safety net in good times and bad. While the manager says markets are efficient over the long term, she finds they are often slow to see companies turning themselves around.
Jaffee says a key strength of her fund's management team is finding catalysts that unlock shareholder value. The fund's returns indicate this strategy has been successful. For the five years through February, TCW Galileo Diversified Value rose 8.4%, on average, vs. 4.2% for large-cap value funds. For the one-year period through last month, the fund surged 54.7%, vs. a 40.1% gain for its peers.
According to Standard & Poor's data, the fund is slightly more volatile than its large-cap value peers based on its three-year standard deviation. The fund has outperformed its peers in three of the last five years. S&P gives the fund an overall rank of 4 Stars, based on risk and return characteristics during the last three years. Bill Gerdes of S&P's Fund Advisor recently spoke with Jaffee about the fund's strategy. Edited excerpts from their conversation follow:
Q: What is your basic investment philosophy?
A:We focus on relative value, looking for stocks selling at attractive valuations. We like companies whose earnings have been low historically. We try to find unpolished gems that have been overlooked and have a fundamental catalyst that can change their dynamics.
Q: What types of catalysts do you look for?
A:They include new managements, new product cycles, or earnings surprises. We feel stocks with catalysts tend to have higher future earnings and sell at more attractive valuations than the overall market. We are great believers in efficient markets over time.
Q: Would you describe a holding with an attractive catalyst?
A:J.C. Penney (JCP ) is planning to sell its Eckerd division. We feel J.C. Penney has the potential to unlock shareholder value.
Q: What are the main steps of your investment process?
A:First, we look at valuations. Typically, we look at price to cash flow, price to book, and price to earnings. At the front end, we screen for companies with market caps greater than $1 billion. Then, we focus on fundamentals. Our portfolio construction process is bottom-up.
Q: How many holdings does the fund have?
A:Currently, there are 44 holdings. We try to stay fairly concentrated, ranging from 30 to 50 holdings.
Q: What's your approach to sectors?
A:We make sure we're represented in all economic sectors. We have a minimum of a 50% weighting relative to the S&P 500-stock index for each sector and no more than two times the index' sector weighting.
Q: What are your sell criteria?
A:We'll sell a holding if it meets our price target and no longer meets our valuation characteristics, or if there's a fundamental deterioration. We don't let the patient hemorrhage on the table.
Q: What stocks have you recently sold?
A:Nothing recently, although we sold Freddie Mac (FRE ) because of their accounting issues.
Q: Why have your recent and long-term returns been competitive?
A:Our relative-value strategy does better in down markets but captures gains in up markets. We say we gain 120% of market upsides and 75% of the downsides. Our value approach gives us a safety net.
Q: What are the fund's largest holdings?
A:American Express (AXP ), Bausch & Lomb (BOL ), Kimberly-Clark (KMB ), Motorola (MOT ), and ConocoPhillips (COP ).
Q: Time Warner (TWX ) is a large holding. What's your view of the company in light of the potential takeover of Walt Disney (DIS ) by Comcast (CMCSK )?
A:The Disney offer validates Time Warner's strategy of having both media content and distribution.