You are here:

Inflation Plus 10%

Created:
20 August 2008
Written by:
Alistair Blair

Let me introduce you to the Longleaf Funds, which are run by Southeastern Asset Management. This modest fund management company is based in Memphis, Tennessee. It is modest both in size and as in "modesty", but it has a superb record and some interesting things to say about its investment prospects.

Advertising

Southeastern was founded by Mason Hawkins in 1975 after he left his job as a young analyst with a regional bank. Local institutional investors awarded him small mandates. He did well and the business expanded. By 1987, Hawkins' reputation was sufficient to enable the launch of a public fund. This was the Longleaf Partners Fund, which had been run in-house since Southeastern's inception as the vehicle in which employees invested their personal funds. It invests in the same stocks as the institutional mandates. This fund is now worth $10bn. A small-cap fund launched in 1990 (the Longleaf Partners Small-Cap Fund) and an international fund started in 1998 (the Longleaf Partners International Fund) are each worth $3bn. Southeastern's institutional mandates remain the mainstay: they account for $22bn. Thus total funds are $38bn.

This figure would have been much higher if Southeastern had been a conventional fund manager out to maximise funds under management. However, because it insists it will only invest in its most outstanding investment ideas, it restricts the amount of funds it manages. The Partners' fund only intermittently accepts new funds for investment - it has recently been reopened after being closed to new investors for three years. The small-cap fund has been closed for many years.

Refusing to take on too much money is not the only Southeastern attribute that puts it in a tiny minority of fund management companies in terms of deep business integrity. Longleaf also charges smaller management fees than rivals, whereas based on its performance it could easily charge premium fees. The two domestic funds charge less than 0.8 per cent in management fees, which is about 40 per cent less than the going market rate. Longleaf does not charge upfront fees or exit fees (except to short-term investors).

Unquestionably, Southeastern has sacrificed several hundred million dollars of fees in the interest of providing its clients with the best returns it could attain.

Despite the old-fashioned attributes, Southeastern maintains a hedge fund style goal, which it expresses in terms of absolute returns. This goal is "Inflation plus 10 per cent". I venture to suggest that few hedge funds would set themselves such a stretching target. In fact, the small-cap fund has fallen short. Nevertheless, even it has significantly beaten the conventional benchmark, the Russell 2000 Index. The average annual returns of the three funds have been as follows:

Years since inception

Average annual return

Inflation plus 10%

Conventional benchmark*
Partners 21 13.10% 13.10% 10.20%
Small-Cap 19 11.80% 13.00% 9.80%
International 10 14.20% 12.80% 7.70%

*S&P for Partners, Russell 2000 for Small-Cap, EAFE for International

Having compounded over many years, these returns have been hugely advantageous to Longleaf investors. A $100,000 investment in the Partners Fund in 1987 is now worth $1.3m, whereas the S&P 500 would have multiplied your starting money to just $733,000. Of course, most investment management companies have underperformed the S&P. $100,000 invested at the launch of the International Fund is now worth $355,000, compared with $203,000 for an investment in its benchmark, the EAFE Index.

The firm is a true Ben Graham-style value investor. Mason Hawkins read the book as a teenager and became an overnight disciple. His investment commentaries regularly refer to Mr Graham's antihero, "Mr Market". These credentials are evident in the composition of its portfolios as well as in its returns. Last year, the Partners Fund sold three stocks and bought four others. That works out at one investment decision every seven weeks. Or put another way, for each $1.4bn of investment funds it holds, Partners makes just one investment transaction a year. I'd guess that was far less than one 10th of the turnover level of the average large mutual fund. You might reflect on how this level of investment activity compares with your own.

Southeastern is extremely excited about investment prospects. The following excerpt from its shareholder report last month might cheer you up.

"We do not know how long economic uncertainty and shareholder fear will last... The mispricing, however, is providing the opportunity to own high-quality companies with terrific five-year outlooks that imply high long-term returns. We are aggressively adding personal capital to the funds… Historically, the best time to invest has been when owning stocks has felt the worst."

MORE FROM NO FREE LUNCH...

Read more of Alistair's columns at his IC home page.

You can add your own tuppence-worth using the YourOpinion form...

...or you can e-mail Alistair directly at: a7461blair@pobox.com

Alistair Blair is a past winner of the Business Writer of the Year Award, and has worked in investment banking and fund management.

You can get a FREE desktop alert the minute his column is published by registering with our alerts service. Click here for more details.

  • Back to top

Products and Services from Barclays Stockbrokers.

The UK’s No.1 Stockbroker

Stocks and Shares

Contracts for Difference

Financial Spread Trading

Gilts and Bonds

Funds Market

FX

Education Centre

Trading Simulator

Advertorial Feature

Take control of your investing with CFDs

Have you ever watched a move in the markets that you saw coming, but you weren't able to exploit?

by Dominic Picarda

Advertorial Feature

Spread your risks with spread trading

With so many big moves in the world's financial markets, there have seldom been more opportunities around for spread traders. Isn't it time you joined them?

by Dominic Picarda