Ron Muhlenkamp is a no-nonsense kind of guy. He likes good companies at cheap prices, and regardless of company size, he lets the numbers guide him to the most attractive investment opportunities. “We don’t think size matters,” he says. “We think profitability matters, we think growth matters, and we think a good balance sheet matters.”
And Muhlenkamp lets his own numbers speak for themselves, too. With a five-year annualized return of 17.35% as of August 31, 2001, and a year-to-date return of 0.61% as of September 11, the Muhlenkamp Fund seems to be doing all the right things in this tough market environment. The fund also maintains a 10-year tax-efficiency ratio of 97.46% as of August 31, putting it in the upper echelon of mid-cap value funds. A diversified offering, the fund is the only fund that Muhlenkamp and Co. offers. Muhlenkamp sees this as a benefit to the average shareholder. He says, “We had a man call one day and said, ‘Ron, you only have one fund, I can’t switch,’ and I said, ‘If you know when to switch, you don’t need me.’”
Muhlenkamp, who has been managing the fund since its inception in November 1988, holds a BS in Engineering from M.I.T. and an MBA from Harvard. His investment philosophies were primarily developed in the early 1970s when markets were down and he had the time to do research to see what did and did not work. As a result of that early experience, Muhlenkamp developed his own techniques that he still maintains 30 years later. Muhlenkamp states flatly, “We tell people we’re looking for Pontiacs and Buicks when they go on sale. We don’t want a Yugo at any price. We don’t want a lousy company. We’d like to buy Cadillacs, but they don’t go on sale very often. I’d rather get a Buick at a discount than pay sticker price for a Cadillac.”
We recently spoke to Ron Muhlenkamp about his thoughts on tax efficiency, diversification, and the latest Federal tax cuts.
How do you maintain such a high tax efficiency ratio in your fund? We work at it. There are a couple of reasons we do this. First is that after-tax money is the only money you can spend. We’ve always run money for our clients with an eye toward taxes. My own money is in the fund, as is my family’s. In many respects, what makes sense for investing also makes sense for taxes. If we buy 10 stocks, odds are we are going to be wrong with two or three of them, and we like to realize our mistakes early. Whereas when you’re right about a company, you let it run a while. One thing we do is to make sure losses are short-term and gains are long-term. Another thing we try to do is always look for longer-term trends if we can identify them. We run money to maximize returns on an after-tax basis. What’s been interesting is among the people who rank mutual funds, up until next year when you have to report after-tax numbers, as we did last year, the manager hasn’t gotten any credit for being tax-efficient. The only things reported were pretax numbers. We think after-tax returns are the only numbers that make any sense.
What kinds of changes will we see because of the new reporting law? Presumably there will be more focus on it. It got play in the media a year ago and made me wonder what would happen when the media discovered the wheel. The only reason to invest money is on an after-tax basis and a year ago they acted like it was a new idea. People floated funds with that goal. What I can’t understand is why they didn’t look at who’s been doing it that way and who hasn’t. I would think the focus would be on after-tax returns going forward.
Is this the only fund that Muhlenkamp offers? Yes. We only have one fund on purpose because most people tend to switch [funds] at the wrong times. We think our record at switching from one area to another is probably better than the average shareholder’s. We help them by not giving them the option of switching. The only reason I can see to have a second fund would be to have one that’s designed for tax-free holdings so the things we do to get long-term gains would not be a restriction.
So the fund must be extremely diversified to meet all investors needs? Well, it’s funny–when we talk to investors, they only have three needs. They all tell me they don’t want to lose money, they all want to make a decent return, and they want to do it in a fashion that allows them to sleep at night. That covers all our investors. We don’t know anyone who needs income. We know a lot of people who need spending money. We think our job is to grow their assets, and their job is to spend what they need to spend. A lot of people have been snookered by their advisors. They were taught to spend income, and not to touch principal.
Do you agree with Morningstar classifying you as mid-cap value? We think we’re all-cap. We don’t think that size is a useful criterion. In our fund we own some big, we own some middle, we own some small, and we own some very small companies. The only thing I can figure is that someone had a master’s thesis due in six weeks and didn’t have time to do useful work, so they figured out what the computer can measure. The computer can measure size pretty easily. So you’ve got these studies now of how big-cap works versus small-cap. We think the whole thing is nonsense. We look for good companies at reasonable prices. What we find is if the numbers take us to a lot of big stocks then that, in fact, is a good place to be. When it takes us to a lot of small stocks, then that’s a good place to be.
So you are looking at the numbers to guide you along? Exactly. We don’t think size of a company is a useful domestic criterion. I believe it was Warren Buffett who said “Growth is part of value.” We agree with that. Morningstar, for instance, calls us a value fund. I asked them why and they said our P/E ratio is below average. It turns out our return on equity and our growth are above average. So in fact, if all our stocks doubled, I guess they’d call us a growth manager. We don’t think this is useful either. So once you get rid of all those things, there is no reason to have more than one fund.