In a sector as diverse as financial services, it’s sometimes difficult to understand why all the companies in the sector are lumped together. Home to banks, brokerage firms, insurance companies, leasing companies, and asset management firms, this sector’s performance often leaves half its companies flourishing while the others struggle for breath. The ability to play on this sector’s instability is one reason why Anton Schutz, manager and founder of the Burnham Financial Services Fund (BURKX), has thrived in an economy where so many have floundered.
“You literally have to break this sector out into specialties because there are so many opportunities,” says Schutz, president of Mendon Capital Advisors Corp. in Rochester, New York, which runs the fund for Burnham Asset Management. “You have to look at the entire picture, including interest rates and the economy.” With one trader and two analysts, BURKX invests in companies overlooked by most other funds. “In the smaller-cap ones there are few analysts following them,” he says. “This gives you an edge.” But Schutz’s search is not limited to lesser-known angels. He looks for both small- and mid-cap firms that appear to be temporarily undervalued and to those that may be targets for acquisition by larger companies. And while he remains almost fully invested, with less than 7% in cash and equivalents, his turnover rate hovers somewhere above the 500% mark (his peers currently average a 177% turnover).
For the three-year period ended February 28, 2003, Burnham Financial Services Fund/A had an average annualized total return of 38.6%, versus a total return of -13.7% for the S&P 500 Composite Index, and -8.4% for all equity sector funds, according to Standard & Poor’s. This fund ranked first within the entire universe of 769 funds in S&P’s peer group. Both Morningstar and S&P have awarded this fund five stars.
“It’s interesting to me that headlines are saying mergers and acquisitions are way down, and financial services are in the ninth inning of the game. In 1990, there were 15,000 banks, and today there are 9,000. We’re in the middle inning of the game, and there is a lot more [playing] to be done.”
BURKX is the only fund Schutz manages, and he has a large amount of his own money invested in it. But before you begin pitching this fund in your next client meeting, remember its high expense ratio, 1.60%, its 5% front-end sales load (waived for advisory platforms), and that high turnover rate.
On a visit to New York, Schutz talked about why financials are the place to be, why it’s profitable to look at companies that are down but not out, and which investors he expects would benefit most from his fund.
Your company’s literature says this fund is based on “proprietary research techniques.” Can you tell me what that includes? A lot. There is a tremendous amount of data and intuition that goes into it, but it all starts with a macro view. First, you have to look at the entire picture. Then you look at the financials sector, which is really a series of subsectors, and decide which parts you want to be in. Then you take a bottom-up approach and pick the names you think are going to outperform within those subsectors.
The second part of the research is more actuarial. The smaller-cap companies, like the savings and loans, actually have a “lifespan.” The reasons these companies go public for the most part is to enhance the wealth of the depositors and the management. When these companies do go public, at six months of age the managers are granted 4% of the company’s stock as options. At one year, they are granted to buy an unlimited amount of stock back; typically these companies have way too much capital and the regulators force that on them when they go public. Then at three years, they can sell the company without asking the regulators for permission.
So you can literally go out and age a portfolio and harvest companies at these various stages. At six months you can buy stock because it is not very liquid, but [there's] room for gain. Then you want to buy again at one year.
Your fund seeks opportunities among lesser-known financial institutions because fewer analysts typically follow these companies. Yes, in the smaller-cap ones there are few analysts following them, and this gives you an edge.
Today, I am going to visit a bunch of bank CEOs who are playing golf. I am a terrible golfer, but if it gives me a chance to spend four hours with them, I am happy to absorb as much information as I can. Every bit of information helps, even the smallest. There are subtleties like body language, and even the physical appearance and health of a management team that matter. When you think about these people who are in their late 50s and early 60s, they are starting to think more about golf and less about making money. And you start to think that maybe these guys are sellers.