Dilok Klaisataporn
[A key challenge of investing in large-cap value stocks is that all investors have extensive access to large-capitalization company information and the thinking and strategies of their corporate management teams. There are plentiful analyst research reports, easy-to-retrieve company fundamental metrics, leadership interviews, stock tracking tools, and so on. When you literally have the full range of institutional and retail investors across the world investing on similar footing alongside you, how do you get an edge on your stock selection and portfolio construction for this large-cap value asset class?
To learn how some large-cap value managers work to differentiate and position themselves for investment advantage, we were introduced to Paul Roukis and Jeff Agne, Portfolio Managers of the Large Cap Value Strategy at Great Lakes Advisors, LLC – a Chicago-based asset manager founded in 1981 with a strong affinity of serving those who serve others including clients that run health and welfare funds, Taft-Hartley plans, police and fire retirement funds, public funds, religious organizations, endowments and foundations, financial advisor intermediaries, and private wealth clients. The firm offers a wide range of client-focused, actively managed equity, fixed-income, and multi-asset strategy solutions. We focused our questions specifically on their Large Cap Value strategy which seeks to outperform the Russell 1000 Value Index through a differentiated philosophy, process, and team structure. They have demonstrated a level of consistency in that pursuit by outperforming their value index in 19 of the past 23 calendar years since inception as of December 31, 2023, and gross of investment management fees.]
Hortz: What is your perspective on the Large-Cap Value asset class?
Roukis: The large-cap value universe has changed dramatically over the past few decades. With technological innovation, you are seeing an even further acceleration in these changes. Historically, the perception of large-cap value stocks was that these were stable, mature, dividend-paying stocks with low but steady growth. Today you are seeing quite a different large-cap value space with innovation driving change in these legacy spaces – whether it be healthcare, financial services, industrials, or just across the board. Today’s successful companies have the financial resources to reinvest in their businesses to gain market share and extend their competitive advantages. As investment managers, you must be willing to adapt to that change because these companies are evolving quickly.
Agne: I would add that the large-cap value space now gives you the opportunity to invest in a lot of the major secular investment themes driving the markets, such as global electrification and de-carbonization trends, manufacturing on-shoring and supply-chain security, and artificial intelligence (AI), but to do so with more valuation discipline than you might find on the growth end of the spectrum. We often look for the second and third derivative investment ideas of those secular themes that are a bit off some people’s radar screens that allow us to play them in more attractive ways. We believe we are also positioned to benefit from idiosyncratic opportunities in many other sectors like Healthcare and Manufacturing.
Hortz: What particular benefits and opportunities does your large-cap value investment approach provide for investors?
Roukis: The goal with our investment approach is to be consistently good rather than occasionally spectacular. If you were to ask our clients what they appreciate the most about our large-cap value strategy, it would be the consistency of the return profile. The strategy has outperformed the Russell 1000 Value benchmark in 19 of the past 23 calendar years and by approximately 1.7% on an annualized basis since inception as of December 31, 2023 (both measures on a gross-of-fees basis). Importantly, we have also protected capital better than the benchmark in every calendar year the Russell 1000 Value produced negative returns. The end result is a strategy that has delivered strong risk-adjusted returns as measured by the information ratio – a metric many fund complexes utilize to evaluate investment managers.
Agne: This consistency of performance comes from deliberately not making big bets, being very holistic in our way of looking at stocks, and our relative valuation mindset. We manage diversified portfolios and do not make top-down calls on interest rates or the direction of commodity prices. We minimize factor and sector bets due to our acknowledging the rapidly changing business environment all industries are now dealing with. This is a bottom-up stock selection approach that manages company risks and seeks to deliver consistent outperformance to the benchmark. Our clients appreciate the consistent and predictable return pattern that we have provided for them, in both up- and down-markets.
We also care a lot about style purity. When you invest in our large-cap value product, you get a large-cap value portfolio that very much looks and feels like the Russell 1000 value benchmark – just tilted and positioned in names that are attractively valued versus peers with dynamic catalysts that should unlock the valuation disconnect that we see in the market.
Roukis: When it comes to our stock selection process, I like to use the phrase in Newton’s law that a body in motion tends to stay in motion. The same goes for companies as well. We are not trying to catch a falling knife. We are not trying to look for the most deeply valued stocks with a reversion-to-the-mean mentality. Our goal is to focus on companies that are gaining market share and generating ample cash flow to reinvest in their businesses and reward shareholders. At the same token, we do not want to overpay for those stocks. We feel our particular investment approach is a healthy balance in the marketplace and takes a more modern approach to stock selection.
Hortz: How does your firm’s investment perspective and process help you differentiate your large-cap value offerings from other large-cap value products?
Agne: Many value managers, certainly deep value managers, have really relied on valuation alone. Our process has a second lever. For us, it is valuation combined with improving business fundamentals, cash flow, or catalysts that help our portfolio companies to competitively outperform over time. These catalysts, which can unlock the value we see in that company, can come in many different forms, such as product innovation, margin enhancement opportunities, policy changes, pricing power, capital allocation, new management teams, et cetera. Without clearly identified catalysts, you can often get left in value traps.
As you can imagine, stocks are often cheap for good reasons. It is more than just valuation alone that helps value managers outperform. Companies with improving business trends and/or catalysts on the horizon often coincide with companies exceeding market expectations and ultimately a higher stock price.
Roukis: I think we take a practical and modern approach to investing and portfolio construction. We believe that inefficiencies exist at the stock level, which is why our investment process is focused on minimizing factor and sector bets. So, I think another source of differentiation for us is how we build our portfolios. An important element of our portfolio construction process involves the close monitoring of our portfolio characteristics, particularly in relation to the benchmark. Examples of key factors that we consider include sector and industry exposure, size, and market beta. We seek balance within the portfolio so that stock selection can be the main driver of returns. We believe stock selection is the most repeatable form of alpha. We believe in the value of diversification, and we have great respect for the consequences of mispricing risk in the portfolio.
Lastly, our team structure is another differentiator. While there are many ways to be successful in this business, by design, we work as a small and nimble team consisting of five experienced people. We believe this lets information flow freely and quickly, which allows us to exploit inefficiencies in the market that typically do not last long.
Hortz: Why is the large-cap value asset class and your strategy attractive now?
Agne: In terms of the asset class, large-cap value stocks provide broad exposure to cyclical, defensive, dividend-income, and secular-growth areas of the market with sensitivity to operating fundamentals and valuation. Cash flow is an important element within the value universe, providing optionality to capital allocation measures against various economic backdrops.
Roukis: Corporate profit and cash flow trends have remained more resilient than anticipated, favoring stocks in the traditional “value” sectors, including energy, materials, consumer staples, healthcare, utilities, and specific areas of financial services. As we mentioned earlier, traditional value-oriented sectors are experiencing rapid changes fueled by technological innovation. The fund has exposure to scale players within the large-cap value universe participating in these key secular trends. We think that investors should participate in that growth.
We believe a relative-value investment approach provides the opportunity to perform well across most parts of the market cycle. Within this framework, we think it is important to have a portfolio anchored by profitable, attractively-valued, growth-oriented companies and balanced by more cyclical, discounted stocks. And finally, the valuation gap between growth and value stocks has widened in 2023-2024, with the Russell 1000 Value sitting near a 30-year low versus the Russell 1000 Growth index, providing an attractive entry point for value-oriented stocks, in our view.