Q: Gary, how did you become an investment manager?
A: I have been in the investment business for 35 years after graduation from Harvard Business School in 1965. My first 18 or so years were spent with major Wall Street firms, Goldman Sachs & Co., Morgan Stanley and Brown Brothers Harriman. I started as an institutional salesperson at Goldman Sachs and evolved to the buy side at Brown Brothers.
Q: Please tell us about your firm's general investment goals.
A: Wood Asset Management uses a highly disciplined relative value approach that leads us to consider high quality equities for purchase that we consider undervalued relative to the market. Our investment goals are conservative and stress capital appreciation with superior risk-adjusted and absolute performance. We use a relative value approach that leads us to consider any high quality equity for purchase, depending on price. We believe in the concept of buying companies rather than stocks, but since we are a relative value manager, price and capital structure are very important to us. This universe includes so-called "growth stocks" when they are selling at prices that do not reflect their value in terms of expected growth rates and premiums to the market. Our emphasis is on mid-to-large capitalization stocks, although we use smaller capitalization issues on a limited basis, and convertible securities extensively. The process is price-driven and incorporates a strong sell discipline. Each of our clients' portfolios is managed individually.
We stress preservation of capital, risk avoidance and strong sell discipline. We seek to outperform the S&P 500 as well as the various value indices over a reasonable time frame - and we have done so over the past 10, 5, 3, 2 and one years. Since many of our clients are taxpaying entities, we try to create long-term gains as opposed to short-term. However, we believe investment considerations generally outweigh tax considerations so occasionally we make a short-term sale.
Q: What kinds of portfolios do you offer?
A: We offer three: Relative value equity , Balanced accounts, and Fixed income accounts
Q: How does your macro investment model fit into your overall investment process?
A:As compared to most value firms, who we believe, emphasize bottom up and screening techniques, we begin our process with top-down work. Our top-down analysis gives us outlooks for economic growth, earnings, inflation and interest rates -among other indicators. We then develop sector weights versus the S&P 500 and other indices. We will under or over weight a major sector, such as petroleum, by about 50% compared to the S&P 500. For example, the oils are about 6% of the S&P and we are at about 9%. Once our sector weightings are determined, we move to proprietary screening and other bottom up work to develop our Buy list. Our "top-down" techniques also assist us in decisions as to exposure to stocks versus bonds or cash reserves. It also leads us to desired maturity and duration levels for bonds.
Q: What investment strategies do you use for your Mid-Large Cap Relative Value product?
A: We use relative value - meaning that we are willing to buy "growth" stocks such as current holdings Johnson & Johnson, Schering Plough and H&R Block, so long as we can buy them at what we consider to be "value" prices. So, our universe includes so-called "growth stocks" when they are selling at prices that do not reflect their value in terms of expected growth rates and premiums to the market. We do not extend this to buying the current crop of nifty stocks with very high price-earnings ratios. We are not momentum investors and use strong sell disciplines to avoid risk and keep our investments concentrated in stocks with appropriate risk-adjusted expected returns.
We view selling stocks that are no longer attractive as a key determinant of investment success. At the time we initiate positions, a "sell target" is established. This target is basically where we think the stock should sell in a year or so. Daily screens are used to monitor price changes. When the stock is within 5% of the target price, the Investment Policy Committee meets and decides whether fundamentals, as opposed to momentum, have improved enough to warrant an increase in the sell target. If not, when the sell target is reached, the security is sold in all discretionary accounts. We also sell stocks of companies when the fundamentals of their business or other factors change sufficiently so as to make the investment unattractive.
Q: How do you identify stocks that appear attractive?
A: Our top-down work identifies sectors and industries that we wish to under or over weight. Once we have identified a sector or industry we wish to invest in, we use bottom up - industry specific proprietary screening techniques to narrow our focus to stocks that meet our criteria. We utilize Wall Street research as well as purchased services extensively. We only buy stocks that have appropriate upside potential. To go on our Buy list, a specific stock must also have a sell target. We are willing to change our sell target with improving fundamentals but do not raise a sell target just because the target has been reached.
Q: Please give us a breakdown of large, mid, and small cap issues used in your portfolios.
A: Our five largest mid-cap issues are Amerada Hess, Delphi Automotive, Darden, Pitney Bowes and Wilmington Trust; our five largest large-cap issues are BellSouth, Honeywell, IBM, Hewlett Packard and Johnson & Johnson. Our largest small-cap investment is D&K Healthcare.
Q: How do you adjust your portfolios for risk?
A: We look at upside versus downside risk. We produce and evaluate our statistical review at least weekly to be sure our P/E ratios are, on average, substantially below those of the S&P 500 and other appropriate indices. We also want, on average, lower debt ratios, lower betas, lower price to book value, etc. We also review price versus sales and versus enterprise value ratios for each of our stocks.
Q: With all the volatility in the capital markets over the last several years, you seem very constructive on the US equity market. Why are you so optimistic?
A: In general, we are more optimistic on the stock market from current levels than the consensus. Ten reasons for this are (not necessarily in order of importance): (1) the Fed is focused on economic stimulation and history has almost always shown improving markets after five Fed rate cuts, which we now have had - with a good likelihood of another 50 basis point cut; (2) even through President Bush's tax cut proposal has been somewhat eviscerated by Congress, most of it will likely become reality. Tax cuts are, in general, a fundamental good. Not only do they put additional money in the hands of consumers, they usually stimulate economic growth, thus increasing tax collections; (3) the stock market was down a lot last year. In the past 30 or so years we have had only one period when stocks were down two years in a row and that was 1973-74 when the inflation/interest rate/Viet Nam War/Watergate situations were on a different page, as far as being bad, from the present; (4) investor fear and Wall Street investment strategist sentiment are very negative and that usually is a good sign of a bottom in stock prices; (5) most valuation models show stocks to be undervalued currently, as opposed to a year ago when these models showed substantial overvaluation; (6) the interest rate and inflation environment is very conducive to a better stock market; (7) the Business Week-Time Magazine index has proven historically to be a great negative indicator
just when the popular media decries the death of stocks, improvement is usually forthcoming; (8) cash has been building up - a lot - at mutual funds and money market funds due to current pessimism - cash is what it takes to fuel a turnaround; (9) margin account debt, which was extremely high and has been one of our worries, has recently come down significantly; (10) we continue to expect additional "corporate events" such as takeovers, spin offs and margin share buybacks in the value area, as well.
Q: Tell us about your balanced product?
A: Our balanced accounts are assigned a maximum equity ratio, which is developed in conjunction with each client. This maximum exposure to equities is based on client circumstances, income needs, etc. as well as a "sleep at night" decision that varies from client to client. The maximum equity target can be changed - but only with client concurrence.
We view balanced accounts as having four components: equity; equity-related cash; fixed income securities; and fixed income related cash. The equity and equity-related cash are managed the same as our equity accounts. The fixed income and related cash are managed the same as our fixed income accounts.
Q: How do you use your macro investment indicators to allocate between stocks and bonds?
A: Our maximum equity ratio is more important in determining allocation between stocks and bonds than are our macro investing indicators. Since actual future returns on stocks, bonds and cash are not known, we must make our judgments based on expected returns. The expected return on cash is currently 4-5%, on bonds about 7-8% and the expected return on relative value stocks is 10-15%. Therefore we tend to be quite fully invested, and to have as high an equity ratio as client circumstances allow.
Q: What kind of turnover do you usually have and do you adjust your strategy for tax sensitive portfolios?
A: Our turnover has averaged about 40% over time. We believe we provide good tax management by using a relatively simple analytical framework that allows us to evaluate tax issues in security selection, portfolio construction and risk management. For tax sensitive portfolios, which include a high percentage of our accounts, we also manage on a tax-lot basis so if we are making a sale and there are several tax lots for that security, we specify the most tax advantageous lot. We utilize year-end tax selling techniques including doubling positions for 31 days, etc. In general, however our taxable and non- taxable accounts hold the same stocks.
Wood Asset Management, Inc. seeks to achieve a complete understanding of each client's requirement for income and capital appreciation consistent with that client's ability to assume risk. Combining this information with our view of the economy and financial markets, we develop and implement an investment plan addressing that client's specific investment goals. These objectives are reviewed and updated on a regular basis.
Q: Tell us about your convertible enhanced US Treasury product?
A: Our fixed income product is driven by interest rate anticipation, which is a product of our top down work. Other than convertibles, which we use in some of our fixed income accounts, as appropriate and with client approval, we only use US Government securities. In addition, to further control risk, we do not use maturities over 10-12 years. If we expect declining rates on the 10-year T-Bond, we place most of our bond money at 8-10 year maturity. If we expect rates to rise we stay mostly short in 1-3 year maturities. With the current frantic hedge fund activity in convertibles there are few issues of sufficient quality available at attractive prices. Therefore even though we continually monitor the convertible market place for attractive candidates, we have not used many such securities recently. Things change though, and there will probably be attractive opportunities in the future - which we will hope to utilize.
Q: How actively managed is this product and how do you anticipate rate trends?
A: This product is actively managed but is not a 'trading' product. Purchases of longer maturity issues are opportunistic with the goal of making 5-10% returns in addition to the coupon, over a year or so. If we do not see the likelihood of such returns, we tend to stay short.
Q: How are you able to produce such high returns with a fixed-income product?
A: The key is our top down work, which has been pretty correct in anticipating interest rate changes. Obviously, success is a result of being right on interest rates. Our decision making process is based on our economic work. When we expect interest rates to decline, we have most of our bond investments in the longest maturity each individual account allows, up to 10-12 years. When we expect interest rates to rise, we shorten maturities. The most aggressive position we would ever take is for our accounts to be 100% invested in US Treasury bonds maturing in 10-12 years. Most purchases and sales are made directly with the government trading desks of major firms.The time horizon is determined by our outlook for the various factors that influence bond prices. We also set up a potential band of volatility of interest rates, similar to a weighted expected return measure.
But since we tend to stay short unless we really feel strongly about the opportunity for lower rates, our average risk is much below average. Even if we go long, since we limit maturities (usually using 8-10 year T-Notes), our risk is limited over a one year holding period - at which point we will have 7-9 year paper.
Q: What sources do you use for research?
A: We utilize several purchased sources such as Zacks and are extensively covered by the major Wall Street research firms. We have 5 senior portfolio managers, all with research experience.Who are the other key people in your firm and what are their backgrounds?
CHARLENE HEISER WOLFF, Managing Director. Mrs. Wolff has eighteen years of financial experience. Her responsibilities include portfolio management, client liaison and marketing, and membership on the firm's Investment Policy Committee. She was a Vice President at Bank of Boston - Florida from 1991 until 1994. Her previous affiliations were with Cohane Rafferty Securities, Inc. , and Empire Financial Corporation. Mrs. Wolff holds a B.A. degree from Boston University in Biology and an M.B.A. in Taxation from Pace University, Class of 1981. She serves as a member of the Pine Manor College Alumni Association & the YMCA Foundation. She is a former member of the Board of Directors of the Humane Society of Sarasota County & the Consortium for Children and Youth of Sarasota County.PATRICIA K. WOODRUFF, CFA, Managing Director. Ms. Woodruff has over twenty-eight years of investment experience. Her responsibilities include portfolio management, client liaison and marketing, and membership on the firm's Investment Policy Committee. She was a Vice President and Senior Investment Officer for the Bank of Boston - Florida from 1990 until 1994. For the prior 18 years she was Vice President and Regional Investment Manager for NationsBank and Florida National Bank. Ms. Woodruff holds a B.A. degree in Economics from Stonehill College, North Easton, Massachusetts, and was awarded the Chartered Financial Analyst designation in 1985. She is a member of the Association for Investment Management and Research and a Past President of the Financial Analysts Society of Central Florida serving on its Board of Directors for seven years. BERT CARTER, Senior Vice President. Mr. Carter has over thirty-three years of investment experience. His responsibilities include portfolio management, client liaison, research, and membership on the firm's Investment Policy Committee. He was a Vice President, Director of Research and a member of the Investment Policy Committee at Schaenen Wood & Associates in New York from 1988-1995. Prior to joining Wood Asset Management he served as Vice President and Senior Portfolio Manager with Cramer Rosenthal McGlynn of New York. He was a Vice President of Irving Trust Investment Management from 1976-1988 where he managed accounts with assets over $100 million. He is a member of the New York Society of Security Analysts. He holds a B.A. degree from Cornell University and a M.B.A. from Columbia Business School. Mr. Carter is a former member of the Cornell University Council and past President of the Cornell Alumni Association of New York City.
EUGENE BOYLSTON, Director. Mr. Boylston has over forty years of investment experience. His responsibilities include portfolio management, client liaison and marketing, and membership in the firm's Investment Policy Committee. He was with Merrill Lynch as a Senior Financial Advisor from 1955 until 1998, when he joined Wood Asset Management. He holds a B.A. degree from the University of Maryland.
Q: Where do most of your accounts originate?
A: At present, most of our accounts are recommended to us by brokerage firms, both as participants in various wrap programs (Raymond James, Tucker Anthony, B.C. Ziegler, etc.) and by individual brokers referring clients. We also work with other potential sources of third party referrals such as attorneys, accountants and consultants. Our favorite referrals, however, come to us from our clients.