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December 01, 2004 at 02:00 AM
The characteristics of the Greenspring Fund (grspx) might be a little hard to grasp at first glance. S&P calls it a “hybrid U.S. flexible” fund, a classification that lacks the clarity of, say, mid-cap value or large-cap growth. Whatever you call it, from an objective performance viewpoint the fund looks pretty good. It’s dramatically outperformed its style peers in every measurable period for the last decade. S&P gives it a five-star rating overall, as well as for the one-, three-, and five-year periods. Morningstar echoed that endorsement when it raised the fund rating to five stars on November 2 of this year.
The advisor to the Greenspring Fund is Corbyn Investment Management, an employee-owned firm based in Lutherville, Maryland, that also offers separately managed accounts for high-net-worth individuals.
The firm takes a balanced approach to its investments both for the Greenspring Fund and its individual clients with the combined goals of preserving capital and providing consistent returns regardless of current conditions in the bond and equity markets. Fund manager Charles “Chip” vK. Carlson, who also serves as Corbyn’s chairman and president, isn’t afraid to park the fund’s money in cash alternatives if that’s what it takes to keep his shareholders from losing money in an unfriendly environment. It’s a strategy that has paid off over time, allowing the fund to offer its investors consistent returns and above-par performance even in difficult markets.
Let’s start by talking about the background of the Greenspring Fund and the investment philosophy behind it. The fund is distinctive in many ways. We are not part of a family of mutual funds. This is the only fund we manage and we are totally focused on a single investment philosophy. I think that’s a point that separates us from many other mutual fund companies. In style the fund takes a very hard-core value approach to both stocks and bonds. We’re a balanced fund. Lipper calls us a flexible portfolio fund, which means we’re not mandated to be within a certain range of stocks or bonds. With our equities, we like to focus on what we call inefficiently priced stocks as well as fixed-income securities.
With so many options to choose from, what screening do you perform to arrive at the right portfolio? As far as equities are concerned, we search through what we call the “inefficient” sector. These are companies that are not well covered or sufficiently followed by the investment community. Consequently, most of the investments that we end up buying are in the small- to mid-cap area, but we certainly have some large-cap stocks as well, ones that we feel are mispriced.
We’ve always done a lot of our own homework because, by definition, if a stock is inefficiently followed, the research coverage isn’t very deep or thorough. I think the trend on Wall Street with a lot of the major investment banking firms dropping analysts and cutting back on their research staff bodes well, in a competitive sense, for the Greenspring Fund because we’re used to doing our own research.
The stocks that are not well covered by the investment community tend to be inexpensively valued on the basis of a company’s earnings, or cash flow, or free cash flow. Free cash flow in particular is a characteristic that we like to focus on when we’re researching a company. We like companies that have a good industry position, have a strong management team, have the ability to generate free cash flow, and have exhibited a history of making wise allocation decisions with that free cash flow.
So we like to find stocks that are inexpensive relative to their industry and to the market overall. Ideally these stocks will provide positive performance to the fund, regardless of what the overall stock market is doing.
When it comes to gauging your own performance, what do you use as a benchmark? That’s always been a challenge with the Greenspring Fund. My benchmark has always been positive performance. I want to outperform a risk-free rate of return, in money market funds or whatever. We are very much focused on providing steady, consistent performance to our shareholders. That’s a concept that has become more popular the last few years with the sharp decline of the Nasdaq and some of the major indexes, but it’s something the Greenspring Fund has always focused on. If you look at our track record since inception, we’ve always done very well during difficult stock market environments. Admittedly that same style may cause us to underperform during strong market environments, but that’s okay with us. We preach to our shareholders and potential shareholders that we are going to try and preserve capital during difficult market environments. That’s what Greenspring Fund has always striven to achieve, and it’s done a pretty good job of it in the past.
When constructing the portfolio, do you have an optimum percentage of equities that you shoot for? We are not top-down asset allocators; we are very much bottom-up investors. We will invest our shareholders’ assets in those securities that we feel have positive risk/reward characteristics. If we find enough equity ideas that meet our criteria, then we’ll be heavily skewed toward equities because typically they will be able to provide superior performance to fixed-income securities. We’ve always taken pretty much a balanced approach to the portfolio.
Both Morningstar and S&P list the fund as having 40% to 45% of its holdings in equities and about an equal amount in corporate bonds, or “other.” Could you talk about your non-equity holdings? What you are referring to are convertible bonds. Morningstar for some reason lists convertible bonds as “other.” It’s not like convertible bonds are some exotic asset class. We buy what we call “busted convertible bonds,” which are more bond-like and less equity-like. It’s sort of a hybrid between a bond and an equity, but it’s certainly more bond-like, the way we buy them.
Why do you call them “busted bonds?” Let me stress first of all that busted means that the conversion option has been busted, not that the company is busted or struggling financially. That’s an important distinction to make. Busted convertible bonds fit in very well with our desire to provide steady, consistent performance for our shareholders. Just like most bonds, they pay interest twice a year and hopefully will mature on the maturity date, and they provide a steady stream of income to the fund. That steady stream, typically with some capital appreciation, will be achieved regardless of what happens in the stock market or in the bond market. It’s been a very important ingredient in our ability to provide steady, consistent performance over the last several years in some difficult market environments.
When we buy busted converts, we invest in companies that have very strong balance sheets, yet their common stock price has declined significantly since the time the convertible bond was issued. Consequently the ability of the holder to convert that bond to common stock has become less valuable; i.e., it’s been busted. At the time we buy the bonds, they have more interest as a straight bond than as a way to participate in the equity movement of the company.
