Janus Best as Bond Acumen Boosts Stocks: Riskless Return
Marc Pinto and Gibson Smith, co- managers of the $8.9 billion Janus Balanced Fund (JBALX), gave investors the highest returns with the lowest volatility among asset- allocation mutual funds by leveraging their bond research to pick stocks.
The managers at Denver-based Janus Capital Group Inc. (JNS) posted a risk-adjusted return of 2.3 percent in the past five years, the best among 18 similar funds of more than $5 billion that invest at least 50 percent in equities, according to the BLOOMBERG RISKLESS RETURN RANKING. Janus Balanced had a total return of 30 percent in the same period, also the best in the group, which includes T. Rowe Price Group Inc., BlackRock Inc. (BLK) and Fidelity Investments.
After growing concerned that banks and brokers were taking on too much debt, Pinto and Smith sold some of their biggest financial stocks before the 2008 crisis, one of the biggest contributors to the fund’s higher returns and lower volatility over the past five years. The duo’s equity and fixed-income research also lead to the decision to buy shares of CBS Corp. (CBS), which have quadrupled since 2009, and Anheuser-Busch InBev NV (BUD), which have more than doubled.
“Because of the collaboration between fixed income and equity, we got some early warning signs on the stress in the financial system in the U.S.,” Pinto, 51, who oversees the stock portion of the fund, said in a telephone interview. Fixed- income research done by Smith and his team gave the managers “confidence buying stock when markets were nervous,” Pinto said.
The Janus Balanced fund has the ability to adjust its relative allocations to stocks and bonds, helping the managers navigate through different market cycles. The fund, which cut its stocks to less than 40 percent of the portfolio in 2008, has since brought equities up to about 56 percent as of Aug. 31. The fund’s top stock holdings are Apple Inc., CBS and Philip Morris International Inc.
Corporate debt, which accounts for about 28 percent of the fund, makes up the biggest part of its bond holdings. Smith, 44, who oversees the fund’s fixed-income holdings, said he has focused on debt issued by companies that have the cash position to pay it back, regardless of their rating. The fund’s average debt-to-common-equity ratio, a measure of indebtedness, is 95 percent compared with 121 percent for the Standard & Poor’s 500 Index, according to data compiled by Bloomberg.
Pinto and Smith said their emphasis on companies that have the ability to grow revenues at a consistent annual rate and manage debt effectively has helped reduce price swings in the portfolio. The fund had a trailing 12-month sales growth of 11 percent compared with 6.5 percent for the S&P 500, according to data compiled by Bloomberg. Facebook Inc. and Apple are among the top five companies in the fund with the highest sales growth in the past 12 months.
Over the past five years, the fund had a volatility of 13, compared with the average volatility of 17 for the group and 27 for the Standard and Poor’s 500 Index.
“We can’t take away all risk or volatility but by having a diversified portfolio and really concentrating on stock selection, instead of making sector bets, we’ve decreased volatility,” Pinto said.
The risk-adjusted return, which isn’t annualized, is calculated by dividing total return by volatility, or the degree of daily price variation, giving a measure of income per unit of risk. Higher volatility means the price of an asset can swing dramatically in a short period, increasing the potential for unexpected losses.
The managers’ approach has helped them beat competitors over the past five years including the $13.5 billion T. Rowe Price Capital Appreciation Fund (PRWCX), which had a risk-adjusted return of 1.3 percent. Janus Balanced produced a better risk- adjusted return than four similar funds at Fidelity, including the $22 billion Fidelity Balanced Fund, which rose 0.6 percent including price swings. The $79 billion American Capital Income Builder (CAIBX) ranked last during that period, with a risk-adjusted return of 0.15 percent.
“It’s been a stellar performer,” Jeff Tjornehoj, senior research analyst at Lipper, said of the Janus fund. “It looks particularly good next to other moderate risk portfolios.”
The $9.7 billion FPA Crescent Fund (FPACX), run by Steven Romick, had the second-best risk-adjusted return of 2 percent.
Over the past year, Janus Balanced has produced a risk- adjusted return of 1.6 percent, the second-highest in the ranking. It was beaten by the T. Rowe Price Capital Appreciation Fund.
“We’re getting incrementally more cautious” about the outlook for equities, Pinto said. After a 5.8 percent rally in the U.S. market in the third quarter, Pinto said he has been reducing positions or selling stock that has met his valuation objectives, declining to name specific stocks.
The fund’s price to earnings ratio is 16.9 times, higher than the 14.7 times ratio for the S&P 500, according to data compiled by Bloomberg.
Since late 2010, Pinto has added to holdings of consumer- oriented companies that benefit from growth in developing markets such as China and Brazil. One such company is Philip Morris International (PM), the maker of Marlboro cigarettes that has expanded in countries where tobacco consumption is increasing. Janus Balanced has owned Philip Morris since it spun out of Altria Group Inc. (MO) in the first quarter of 2008 and is now its third-biggest holding.
Tobacco stocks handed investors the best risk-adjusted returns in the decade ended 2011, avoiding volatility as smokers typically are reluctant to scale back consumption when the economy struggles. Philip Morris said in June that it will buy back $18 billion in stock over the next three years. The New York-based company, which makes all of its sales outside of the U.S., has increased its quarterly dividend by 85 percent since the spinoff while more than doubling its free cash flow to $3.2 billion as of June 30.
The equity portfolio also focuses on luxury consumer brands, Pinto said. The fund holds shares in Coach Inc., Estee Lauder Cos. and Nordstrom Inc., according to data compiled by Bloomberg. Luxury brands and companies like Philip Morris fall into what the managers consider consumer stocks, which is the fund’s largest industry holding at 6.6 percent.
The S&P 500 Consumer Discretionary Sector Index has gained 27 percent in the past five years, compared with the 53 percent decline for financial companies in the S&P 500 during that period. This year, financial stocks in the index have gained 24 percent compared with a 21 percent gain for consumer discretionary stocks.
Janus Balanced’s performance has helped attract investor deposits this year, as the parent company has struggled to reverse client redemptions for 12 straight quarters. Investors put an estimated $62 million into Janus Balanced this year, compared with $5.5 billion in withdrawals from all Janus mutual funds, according to data compiled by Chicago-based research firm Morningstar Inc.
Smith, described by Lipper’s Tjornehoj as Janus’s “bond guru,” joined Janus in 2001 and also serves as co-chief investment officer at Janus. He studied economics at the University of Colorado. After graduating in 1991, he moved to New York to join Morgan Stanley’s junior analyst program.
Pinto graduated from Yale University in 1983 with a degree in history and earned an MBA from Harvard Business School in 1987. He worked at Fred Alger Management in New York, before joining Janus in 1994.
Examining companies as a whole rather than analyzing debt and equity separately is a key feature of the fund, Smith said. After gathering information on the business, the managers determine whether they should own the debt, equity or both.
Smith and Pinto said the fixed-income team noticed in 2007 that financial companies such as Merrill Lynch & Co., once the fund’s biggest holding, were taking on too much debt and their yields relative to benchmarks had widened to historic highs. The managers sold Merrill shares by the end of that year and by the fourth quarter of 2008 they had brought their stock holdings in financial companies to zero. The Standard and Poor’s 500 Index had 18 percent in financials in 2007 and 14 percent in 2008, according to data compiled by Bloomberg.
That bet paid off, with Janus Balanced posting a 14.4 percent loss in 2008, compared with a 37 percent loss for the S&P 500, including reinvested dividends, according to data compiled by Bloomberg.
The most recent equity purchase resulting from fixed-income research was chemical company LyondellBasell Industries NV (LYB) in 2011. Fixed-income analysis showed the company could pay down its debt and return cash to shareholders, prompting the equity stake, Pinto said. The fund holds a 1 percent stake in LyondellBasell Industries, which has paid a dividend seven times since 2011, including a special dividend of $4.50 a share in December, according to data compiled by Bloomberg. The stock has climbed 67 percent this year.
The Rotterdam-based company’s second-quarter profit of $1.65 a share beat analysts’ estimates and it may pay a special dividend using excess cash, according to a July 27 call with investors and analysts.
The relationship between fixed-income and equity research influenced the fund’s decision to “aggressively” buy Anheuser- Busch InBev’s stock during the financial downturn, said Pinto. Pinto and Smith’s research showed European beer producer InBev could fund its 2008 acquisition of Anheuser-Busch, which was not a belief shared by other investors at the time. This meant InBev’s debt and equity were trading at “attractive” valuations, prompting Janus Balanced to buy during the December 2008 equity-rights offering, the managers said.
“There were concerns about the acquisition of Anheuser- Busch but we got the confidence that they would close and fund the deal,” he said.
The shares have surged 131 percent since the second quarter of 2009 and profit for the most recent quarter was $1.96 billion, a 35 percent increase from the second quarter of 2011, according to data compiled by Bloomberg.
Smith took a debt position in CBS in November 2008, as the company struggled with slowing ads and had to write down the value of its radio and television stations that year by $14.1 billion. Pinto and his equity team got interested in the first quarter of 2009 when the shares were trading at between $7 and $8 and the broadcaster paid a dividend of 5 cents a share. As the owner of the most-watched U.S. television network rebounded on higher advertising sales, the company more than doubled its dividend.
For Janus Balanced, which holds 2.1 percent of the broadcaster, its second-largest holding, that bet has paid off as shares have since soared to $34.07 as of Oct. 16.
“If you didn’t have the confidence that the company was on a path to fixing its balance sheet, you wouldn’t have been comfortable owning the equity,” Pinto said.
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