• 07/09/2017

The Discipline of the Long Distance Runner

The Discipline of the Long Distance Runner


J David Wagner, CFA,Portfolio Manager, U.S. Equity Division

It is of little surprise when speaking to the Portfolio Manager of T. Rowe Price’s US Smaller Companies Equity Strategy, J David Wagner about T. Rowe Price’s US Equity capabilities, that he spends as much time discussing the firm’s human resource policies as those that guide the growth of its funds. Having spent twelve of his thirteen years of investment experience with the company, he is a case in point of its low employee turnover. “Our average portfolio manager has a tenure of fifteen years with the firm and twenty years average investment experience,” Wagner explained. “This, coupled with a low employee turnover, yields a consistent style and disciplined investment decisions.” 

Research intensive approach

The US Equity platform draws on research from its eighty-one analysts to generate long-term value funds for its global client base. The firm has six research bases in total located in Baltimore, Hong Kong, London, Singapore, Sydney and Tokyo. T. Rowe Price’s analysts conduct assessments of investment trends and themes, and go on site visits visits to get firsthand overviews of companies’ operations. Wagner attributes the quality of the firm’s investment decisions to this independent research. “By sharing this information globally within the company across sectors, strategies and assets classes, holistic investment decisions are able to be made at both a country and company level,” he said. “Qualitative processes drive every aspect of our US Small Cap Growth Equity Strategy, from generating investment ideas to building the portfolio. We do not use a quantitative, model driven-approach to stock selection or portfolio construction.” This approach has paid off, with the group scooping BENCHMARK’s Outstanding Achiever Award in the House Awards US Equity Category.

T. Rowe Price’s analysts rate stocks on a scale from one (strong buy) to five (strong sell), signaling their performance expectations over a twelve month time frame. Wagner is quick to point out that the group’s rating system tends to be asymmetric, with stocks rated ‘buy’ or ‘strong buy’ tending to outweigh the ‘sell’ or ‘strong sell’ category. “This primarily reflects our emphasis on long-term, longonly investing, which creates a strong incentive for analysts to focus on the identification of attractive buy and hold opportunities,” he said. The firm typically expects to hold the securities it selects for two to three years or more, as long as the fundamentals remain solid and the valuations are reasonable. This approach results in a relatively low portfolio turnover of twenty percent to thirty percent, versus the small growth norm of eighty percent.

The strategy also allows for both the compounding of earnings growth and a reduction in trading costs.

Investment criteria

The group’s stock selection process incorporates a number of factors including the growth prospects of the industry, the potential for above-average earnings growth of at least fifteen percent, the attractiveness of the business model and the management team’s shareholder orientation. The group also looks at the level of insider ownership, internal growth and cash flow generation, sales and earnings, and financial flexibility. “None of these factors is more meaningful than the others and our analysts base our stock selection decisions on our assessment of a company’s fundamental characteristics taken in aggregate,” Wagner said. The process involves considerable legwork from the on-the-ground research teams.

This legwork covers everything from meetings with company management, to industry conferences to discussions with company suppliers, customers and competitors. The group also analyzes metrics, such as the price-earnings ratio and expected growth rate of companies, to assess whether a firm’s stock price reflects its growth potential.

Team work

Wagner believes the firm’s collaborative approach to analysis and strong on-theground research is what makes it shine. “In our industry it is crucial to avoid the pitfalls of groupthink. This is why our team offers diverse viewpoints, actively listens to one another, and openly debates ideas. Our collaborative environment is no accident.”

The firm strives to create an environment in which multiple perspectives are nurtured, and there is a culture of challenging opinions and constantly reassessing conclusions. Wagner believes this ultimately leads to superior decisionmaking.

“We have a history of focusing on long-term investment merit that has allowed us to avoid fleeting fads and illconceived product structures,” he said.

The family-like culture fostered by T.Rowe Price starts at the recruitment level and is evident throughout its training and promotion programs. “Investment professionals usually enter the firm early in their careers,” Wagner said. “We typically hire analysts who have recently graduated from business school, many of whom have participated in our summer internship program. These new hires are mentored by experienced analysts to help sharpen their analytical and investment management skills, at the same time as familiarizing them with the firm’s approach to exchanging ideas and insights with their investment management colleagues.

After approximately two years, the new analysts are eligible for promotion and are assigned specific industries and sectors to follow across all portfolios. They are given hands-on experience through participating in portfolio management teams for major mutual funds or separate account strategies, helping to create a pipeline of rising portfolio management talent.

The whole process is managed with the big picture in mind, and a view to promoting continuity as analysts move up the company’s ranks. “Analysts who move to portfolio management positions may have specialized skills or industry backgrounds that are not easily replaced, leaving temporary gaps in our coverage,” Wagner said. “For this reason we seek to maintain a pipeline of qualified internal candidates for open senior analyst positions.” Wagner added that, although T. Rowe Price has a strong preference for developing talent internally, it doesn’t hesitate to hire experienced investment professionals from the marketplace when specialized talent gaps arise.

Investment outlook

Going forward, Wagner believes small caps will see reasonable growth in 2013, as the economy continues to show signs of recovery. He thinks the improving housing, employment and capital investment sectors indicate a better overall economic outlook. “Valuations in the small cap space look reasonable relative to history and relative to large caps,” he said. “Within the small cap category, we would give a slight edge to small cap growth stocks versus small cap value stocks based on superior revenue growth and comparable valuations. We continue to stick to our discipline within the strategy, seeking attractive growth companies at attractive prices. History tells us that sticking to our discipline serves our clients best.” BM