March 31, 2004 — “It’s almost impossible to buy companies at good prices unless they have problems,” says David Wallack, manager of T Rowe Price Mid-Cap Value Fund (TRMCX).
Wallack has coped well with troubled companies, and the offering has performed handsomely since he took over at the end of 2000. Each year since then, the fund has been in the top quartile of mid-cap value funds. For the three years through 2003, the fund rose 13.8%, on average, versus 8.0% for its peers. For five-year period ended in February, the fund returned 16.4% annualized, versus 12.3% for its peers.
Compared to his fellow managers, Wallack says he has a longer time horizon. The fund’s one-year 51.1% turnover, versus 71.9% for his peer group, suggests he is moderately more patient. Sizable inflows have actually boosted the T. Rowe Price fund’s turnover ratio.
In fact, the fund can hold some companies longer than its turnover suggests, since Wallack tends to trade around core positions, rather than buy or sell outright. It can take several years before a holding works out its problems, he says.
To damped the downside of troubled holdings, Wallack looks for stocks of dominant companies in industries with high barriers to entry. He also likes companies with hidden assets, such as real estate or joint venture stakes.
The fund’s median market cap is about $3 billion. Wallack doesn’t have a maximum market cap for a holding, but he’ll stop adding to a position when its market cap gets higher than $15 billion.
Wallack’s moves to lessen risk have kept the fund’s volatility in the mainstream of mid-cap value funds. The fund’s three-year standard deviation is 17.3%, versus 17.2% for its peers. The peer group average is lower than the average for most domestic equity fund style categories.
Relative to his peers, Wallack is overweight in energy. The fund had 9.1% of its assets in energy at the end of February. The sector’s attractive valuations, he says, is the primary reason. Financials, the fund’s largest sector weight at 18.1%, is an underweight relative to his peers. Wallack says he “struggles” to find value in the financial services sector.
Among financials, Wallack holds Janus Capital Group (JNS), which has “a very attractive base of assets.” Wallack says Janus is “working to rectify” problems stemming from market timing scandals.
The fund’s largest position in the energy sector is Diamond Offshore Drilling (DO). The oil drilling contractor has a lot of excess capacity, he says, which will prove beneficial as oil prices cycle higher. He adds that Diamond Offshore is attractively priced, trading below the break-up value of its underlying assets.
Wallack says he’s also been able to handle the fund’s inflows, so has no plans to close the fund to new investors, as some T. Rowe Price funds have. Closing the fund “probably won’t occur,” as long as flows aren’t excessive, he says. The portfolio’s lower-than-average expenses and good long-term record have helped to make it an attractive offering in the mid-cap value camp.