Gabelli’s Mighty Mites Best With Value: Riskless ReturnCharles Stein
Mario Gabelli named his microcap fund “Mighty Mites” after a football league for youngsters, with the idea that his stocks, like the players, would get bigger and move up to a higher level.
Gabelli, a bargain-hunter who buys stocks he deems inexpensive, has found enough picks that graduated to the next level, giving the $1.3 billion Teton Westwood Mighty Mites Fund the best-risk adjusted performance among U.S. equity funds over the past decade, according to the BLOOMBERG RISKLESS RETURN RANKING. The fund, which generally buys stocks with a market value of less than $500 million, had a higher absolute return and lower volatility than 95 percent of 518 U.S. equity funds with at least $1 billion in assets.
Gabelli, 71, has benefited from a philosophy based on the ideas laid out in “Security Analysis,” the 1934 book by Benjamin Graham and David Dodd that’s considered the bible of value investing. The fund has also been helped by takeovers, with 20 of the fund’s small-company stocks being bought by larger firms last year and 50 acquisitions over the past three years, said Laura Linehan, one of three managers who run the fund with Gabelli.
“Coming out of the financial crisis, big companies were sitting on a lot of cash,” said Linehan, 46, in a telephone interview. “Our holdings make perfect bite-sized acquisitions.”
Gabelli, the founder of Rye, New York-based Gamco Investors Inc., has put his own stamp on value investing by developing a method for finding what he calls private-market value, or what a buyer would pay for 100 percent of a business. Stocks that trade at a sizeable discount to that price are considered attractive, especially if there is some catalyst, such as a change in management, that might cause the market to recognize the company’s true worth.
“Our investment philosophy does not change as a result of rising or falling markets,” the managers of the Mighty Mites fund wrote in a January 2012 letter to shareholders. “It is premised on fundamental, bottom-up research-driven value investing.”
Bloomberg’s risk-adjusted return is calculated by dividing total return by volatility, or the degree of daily price-swing variation, giving a measure of income per unit risk. The returns aren’t annualized.
The Mighty Mites fund had a risk-adjusted return of 11.8 percent in the 10 years ended March 17. It had a higher return than all but 19 of 518 funds and lower volatility than all but 16. Funds that buy smaller stocks typically are more volatile than those that buy larger ones, according to data compiled by Bloomberg.
The $17 billion Thornburg Investment Income Builder Fund ranked second with a risk-adjusted return of 10.8 percent. The $4 billion Alger Spectra Fund gained 10.6 percent on an adjusted basis, the third-best result.
The Mighty Mites fund’s focus on bargain stocks has contributed to the smooth results, said Linehan.
“We are not buying high-flying growth stocks which are more volatile,” she said.
The fund’s swings have also been damped by holding cash equivalents, which accounted for 26 percent of assets as of Dec. 31, according to regulatory filings. Cash has built up recently as a result of takeovers, said Linehan.
Because microcaps aren’t traded in great volume, they come with their own set of risks, said Christopher Ely, managing partner at Nichols Asset Management, a Boston-based firm that oversees more than $400 million. Microcap stocks have a market value of less than $1 billion, according to Chicago-based Morningstar Inc.
“When too much money comes pouring into these stocks the values can get way out of whack, and if you are forced to sell them it can be painful,” said Ely, who said he normally avoids very small stocks.
The Mighty Mites fund has done especially well in years when the broader market struggled. The fund lost 24 percent in 2008, compared with a decline of 40 percent for the Russell Microcap Index, data from Gamco’s website show. In 2002, the fund declined 0.8 percent, compared with a 16 percent drop for the benchmark.
Linehan has been a manager on Mighty Mites since it was created in 1998. It is managed by Teton Advisors Inc., an investment company previously owned by Gamco and spun out in 2009 as an independent firm. The fund has always focused on microcaps, an area especially ripe for uncovering hidden bargains, said Linehan.
“In a lot of these small companies the stories are not well understood and you can find things that don’t show up on a computer screen,” she said. “There is a chance you will discover companies that are materially underpriced.”
The fund found one such stock last year when it bought Coastal Contacts Inc., a Vancouver-based company that sells contact lenses online. The stock was depressed, said Linehan, because the firm was losing money on a second business, offering eyeglasses over the Internet.
Linehan reasoned that the company would find a way to get investors to recognize the value of its contact-lens operation, which was consistently profitable.
Last month, Essilor International SA, a French company, agreed to buy Coastal Contacts for $C12.45 ($11.18), a 42 percent premium to its average price over the previous 60 days, according to an Essilor press release. The stock has almost doubled since March 31, 2013, when it first appeared in the Mighty Mites holdings, regulatory filings show.
Over the 15-year life of the fund, 127 companies it owned have been acquired, Linehan said.
Another recent winner for the fund was World Wrestling Entertainment Inc., the Stamford, Connecticut-based company that broadcasts professional wrestling matches around the world.
Linehan and her colleagues, who bought the stock in the second and third quarter of 2013, saw two potential catalysts that could drive its price higher: a plan to expand the company’s audience by making its entertainment available for $9.99 a month, and the renegotiation of existing television contracts for significantly higher prices.
“Both of these developments are game changers for the company,” Kim Opiatowski, a New York-based analyst for Vertical Group, said in a telephone interview. Opiatowski has a ‘buy’ recommendation on the stock.
World Wrestling Entertainment shares have tripled since the end of the last year’s second quarter, the first time the fund reported owning it, regulatory filings show.
Like many value investors, Gabelli tends to hold stocks for a long time. The Mighty Mites fund trades its stocks about one-fifth as often as the average small-cap fund, according to data from Chicago-based Morningstar.
That patience doesn’t always pay off. Layne Christensen Co., a Mission Woods, Kansas-based company that provides drilling and water-management services, has lost almost half its value since December 2010. The Mighty Mites fund has steadily added to its holdings of the stock over that period, according to data compiled by Bloomberg.
Layne Christensen has had a series of problems, Linehan said.
“We think the underlying value is there so we hold on,” she said.
Gabelli remains actively involved in running Mighty Mites, said Linehan, even though he is listed as part of the management team of 31 funds, according to data compiled by Bloomberg.
“He is very passionate about picking stocks,” said Linehan of her boss, “and there is no better place to do that than in microcaps. You can add so much value.”