A Talk with Oppenheimer's Men on Main Street
Fund managers Nikolaos Monoyios and Mark Zavanelli don't let their quantitative models get rusty. "We learn new things every day," says Zavanelli. "We still find a new piece of data or evidence." From their perch at the World Financial Center in New York, they focus on discovering better factors that affect stock prices and the best way to incorporate them into their model.
"This takes intense effort and research," Monoyios says. But then again, they don't visit companies, attend conferences, listen in on conference calls, or worry about the Fed.
This numbers-crunching approach has made the Oppenheimer Main Street Small Cap Fund (OPMSX) a consistent winner. Monoyios, 57, and Zavanelli, 35, try to stay ahead of other funds and the Russell 2000 Index by taking small stakes in more than 1,200 stocks and owning more or less than what's represented in the index. When they trade in and out of stocks, they use program trading most of the time to keep costs down.
In addition to Main Street Small Cap, the two men are also involved in two other funds: Oppenheimer Main Street Opportunity Fund (OMSOX) and Oppenheimer Main Street Fund (MSIGX). Monoyios is co-manager of all three funds, and Zavanelli is co-manager of the Small Cap and Opportunity funds.
BusinessWeek Online's Karyn McCormack recently spoke with Zavanelli and Monoyios about the fund's methods and what sets it apart. Edited excerpts of their conversation follow.
Why has your fund been so successful? Zavanelli:
Why has your fund been so successful?
Zavanelli:We launched the fund in August, 1999, with an objective to create a small-cap fund that would be better than all other small funds over longer periods of time. We think we can achieve this because we have a quantitative model. When you look at other funds, they either hit a home run or strike out, and you see managers taking risk. If we can win, even by small amounts, then we can rise to the very top.
Monoyios: We believe that with all of our funds, there are three things we need to do. One is stock selection -- that's the first step, but it's not enough to succeed. The second is portfolio construction -- weights are important. The third is trading, which allows us to manage more money and have less trading costs. We have a low-risk process.
How do you do it? Zavanelli:
How do you do it?
Zavanelli:We work hard to make our models style resistant. We create a model that's diversified that can win in all sorts of markets. We're constantly working on it.
Monoyios: Along with Mark and I, there's the director of quantitative research, Marc Reinganum, and three other quant analysts that help create models, along with three highly-skilled quant traders. We have 3,000 stocks in our universe, and run our models daily with as many as seven or 10 variables.
When we trade, 80% is done with program trading, which is a way to trade a basket of stocks at once and is very efficient. Each week, we might buy/sell 300 stocks by increasing or reducing by small increments. We sell gradually over a period of days or weeks to minimize the impact that could make it go up. Similarly, if we want to buy something, we don't buy it all at once. There are things that no one can predict.
How many stocks does the fund own? Zavanelli:
How many stocks does the fund own?
Zavanelli:There are 1,271 stocks in the fund. The first thing that people notice about our fund is it's so diversified. Some people say it looks like an index fund.
Monoyios: We've done twice as [well as] the benchmark index, so there's no way anyone can accuse us of being an index fund.
How do you handle so many stocks? Zavanelli:
How do you handle so many stocks?
Zavanelli:We know what we don't know. That means we're not overconfident when it comes to picking a stock. We look at "hit" ratio -- how much we're right or wrong on a stock. You want to take a lot of small bets, and be underweight or overweight. All of these stocks are overweights or underweights -- that's how we view them. If we have underweights, that means we're less optimistic on the stock.
What makes your fund different from other quant funds? Monoyios:
What makes your fund different from other quant funds?
Monoyios:They all basically look at the same type of factors -- like valuation, momentum, and quality of earnings. Our model is different in a couple of ways. First, we have found over many years that different factors work better in different universes. Either the factors are different or may have a different weight than for mid cap or large cap. A lot of quants apply the same model to the same universe of stocks.
Second, our models work differently in different times of the year. For instance, there's the market move in December and January, known as the January effect, whereas other factors work well at other times of the year. We're like baseball managers -- we look at RBI, history, how they do against left-handers or right-handers, how they perform at night and on artificial turf.
The third thing is we believe in continuous improvement. It's not a black box. It's not something we created 10 years ago and is the same. Over the years, we look for better factors and the best way to combine them. This takes intense effort and research. We don't have to visit companies, go to conferences, listen to conference calls, or worry about the Fed.
Zavanelli: We learn new things every day. We still find a new piece of data or evidence. The quant model is only a stock selection scheme -- the rest is up to the management approach.
Small caps have had a nice run. How are you positioning the fund now? Monoyios:
Small caps have had a nice run. How are you positioning the fund now?
Monoyios:Small caps over time tend to outperform large caps. It's a cyclical phenomenon. Small caps make up 10% of the market, so investors should have at least 10% in them. We've had six years of small cap outperformance, so the odds are you won't see the level of outperformance that you've seen over the last six years.
This fund will always have a lot of exposure to small caps. But we can have microcaps, the bottom 3% of the market or anything below $700 million in market cap, and we can also use mid-cap stocks between $2 billion and $5 billion. We have reduced microcap exposure to 17% from 40% three years ago. Mid-cap exposure has been increased from 10% to 31% -- these are many of the largest companies in the Russell 2000. Our small cap exposure has remained relatively constant, at 53% of the fund. Last year, microcaps started to underperform.
What are your largest holdings? Zavanelli:
What are your largest holdings?
Zavanelli:Our process doesn't emphasize that. Those names change a lot, quarter to quarter. Perhaps more interesting are the top four overweights vs. the Russell 2000 index: USG (USG), Western Digital (WDC), Plexus (PLXS), Cymer (CYMI).
What areas of the market are you overweight or underweight? Monoyios:
What areas of the market are you overweight or underweight?
Monoyios:What has hurt is we were underweighted REITs. Our models weren't suited to make distinctions between real estate stocks and REITs. REITs have done well, so that has hurt us. No stock is overweighted more than 0.3% of the benchmark. We try not to fall in love with stocks or become overconfident, because something very bad could happen.
Zavanelli: We don't have extreme sector bets, or concentrate the fund in just a few sectors. Currently the larger deviations from the Russell 2000 are 25.7% of the fund is in tech, vs. 18% in the index. In financials, the fund has 12.4%, vs. 21% for the index. Those are the two biggest underweight and overweight. We're also overweight in consumer discretionary and underweight health care.
Is there anything else we should know? We don't make bold predictions about what's going to happen. We think investors have to look at risk. People get mesmerized by what has worked well, and forget that they can be risky. Our fund may look boring because it's diversified, but it can look very good over the long term. And you'll sleep better at night knowing there won't be a blowup.
Is there anything else we should know?
We don't make bold predictions about what's going to happen. We think investors have to look at risk. People get mesmerized by what has worked well, and forget that they can be risky. Our fund may look boring because it's diversified, but it can look very good over the long term. And you'll sleep better at night knowing there won't be a blowup.