Leuthold Global Fund Reaches Five-Year Milestone

Q&A with Chief Investment Officer Doug Ramsey and Matthew Paschke, Co-Portfolio Managers of the Leuthold Global Fund

On April 30, 2013, the institutional share class of The Leuthold Group’s global tactical asset allocation fund, the Leuthold Global Fund (NASDAQ: GLBIX), marked its five-year anniversary. The Global Fund pursues market-beating returns with substantially less risk. Over the five-year period ending May 31, 2013, GLBIX has returned 4.00% on an annualized basis, outperforming its benchmark, the MSCI ACWI Index (1.72%), as well as the average return of those funds comprising the Lipper Global Flexible Portfolio category (1.75%).

In the following Q&A, Doug Ramsey, Chief Investment Officer of The Leuthold Group, and Matthew Paschke, discuss the history and outlook of the firm’s most wide-ranging, “go anywhere” product. They co-manage the Global Fund together, along with Leuthold’s senior fixed-income specialist, Chun Wang.

Q. You launched this fund in 2008, just prior to the market collapse. Can you discuss what that was like and how you positioned the fund in that environment?

Ramsey: In the Global Fund, our overall equity exposure can range from 30% to 70% in response to our disciplines. In the summer and fall of 2008, we had about 50% equity exposure. At that time, our technical indicators showed extremes never before seen, even dating back to the bear market of 1973-74. Yet valuation work at that time showed prices not far from long-term averages, so we weren’t all the way down to the lowest allocation to equity allowed, 30%. In 2009 and 2010, we bought aggressively - especially non-U.S. stocks - and benefited from the rebound with a maximum equity exposure in the fund.

Q. In the last few years, as tactical funds have become more popular, have you seen any misconceptions about them or their use?

Ramsey: Tactical investment products came to prominence in part due to some successful navigation of the 2002 bear market in stocks. That was a bifurcated bear market: if you avoided telecom and technology, you could still make money during the bear market. And, with rates significantly higher then, you could also make money in fixed income. Today, yields on fixed income are too low to buffer equity performance or provide income. Also, correlations across all asset classes have gone up and stayed up. As a result, many “go-anywhere” funds lost money alongside everyone else during this cycle. They couldn’t avoid participating in the intra-year corrections of 2010, 2011, and 2012.

Paschke: In our view, what’s important now more than ever is genuine flexibility. Some “tactical funds” have actually veered toward being “balanced funds” that tend to hug a 60/40 (or similar) allocation of stocks and bonds. As bond prices have continued higher than we ever thought they would, those funds have done well. But in the future, we think the industry will see real value in having disciplines that can take you from much lower to much higher exposures to a given asset class.

In the Global Fund, we have lots of ceilings but no floors, except our 30% minimum exposure to equities. If we don’t like an asset class at a given time, we leave it out. And we regularly make significant changes to the portfolio’s makeup.

Q. Why should advisors/individuals include a tactical allocation fund in their portfolio? How should this fund fit with a wider portfolio?

Ramsey: Neither global stocks nor bonds are trading in a way that rewards a buy-and-hold investment approach. For example, our 10-year forward-looking return estimation for U.S. stocks is about 5%. And bonds are even worse. A simple and historically reliable estimate of 10-year forward-looking bond returns is the current yield level. With yields at or under 2%, that makes for a dismal picture over the next decade. The need, then, is to do something different from the benchmark. Rather than counting on what we think of as “experimental economic policy” by central banks around the world, we see value in following the boom/bust cycles inherent in every industry. Too much capital flows into an industry, resulting in too much capacity and then reduced performance. As quantitative investors, we see those signals as much more reliable - and useful - than trying to be an economist with superior insight on how money printing will impact, say, U.S. or Japanese asset prices. We work with what we know and we’ve kept years of data on industry performance. We take defensive steps when valuations are high and market conditions are poor. A tactical approach, in our view, is the practical solution to an anemic 10-year outlook and vast uncertainties at the policy level.

Q. In a global product, how important is getting your overall equity exposure “right” versus more specific attributes of that exposure (sector, country, etc.)?

Paschke: In our approach, the overall equity exposure comes first; if you get that right in a tactical fund, you have huge tailwinds behind you. For us, the “how much equity” decision is completely separate from the “which equities” decision. In this way, we take emotion out of the investment process as much as possible. Emotion is one of the biggest destroyers of capital. For example, say you’re a manager tasked with both overall exposure levels and choosing specific names. If your favorite trade at the company level goes sour, are you going to be able to keep from letting that influence your decisions at the macro level? In our process, Doug uses the Major Trend Index and other inputs to determine our overall equity exposure level. I use a separate quantitative process to pick individual stocks concentrated in only those industry groups we find favorable. We track 92 global industry groups and typically invest in only 15 or 16. We never purchase any groups that are outside our top quintile according to our model.

Q. What are some of your top industries now?

Paschke: Right now, we’re substantially overweight Financials, at almost 30% of our equity allocation. We’re also heavy in Consumer Discretionary, at approximately 25%. At the other end of the spectrum, we are zero-weight Technology. These sector-level values are convenient for reporting, but we actually conduct our analysis and decision-making at an even more granular industry-group level. For example, our three biggest groups at present are Reinsurance, Auto Components, and Airlines. Within each group, we also apply a stock selection model to choose approximately 5 to 15 individual names that make up our group-level exposure. Ideally, we’re able to add value in two ways: at the group level (choosing about 15 or 16 of the 92 total) and at the individual security level, where the goal is for our chosen names to outperform the group. The models that drive these two processes are different from one another and are actually designed to work opposite each other. At times, both models work well and we can add value from both directions. At other times, one model leads to positive returns and the other doesn’t. However it’s rare for both to break down at the same time. The following table illustrates our current top three groups since their appearance in the fund:

Q. How about current geographies?

Paschke: Whereas our sector exposures are very different from the fund’s benchmark, right now the geographic breakdown is fairly similar to the benchmark levels. Of our equity holdings, about 48% are U.S. names, which is close to the MCSI ACWI. But that level changes significantly over time. We’ve been as low as 20% of our equity exposure in the U.S. and as high as 52%. Similarly, our emerging market exposure, which at 13% is currently near the ACWI level, has ranged from 8% to 28%. We believe the fund is among very few tactical products that can swing that much. From a philosophical perspective, one way our approach is different is our focus first and foremost on industries. We let regional weights fall from our industry analysis. A cornerstone of our thesis with this fund is that the world is getting more global, with multi-national corporations, electronic trading, and vertical supply chains that span the globe. Any given product may contain physical parts manufactured from all four corners of the world. Our approach is to focus on the best industries and companies, wherever they are, and let the country weights fall where they may.

Q. You recently raised equity exposure due to moves in the Major Trend Index. What are you expecting in the back half of the year?

Ramsey: Recently the Major Trend Index has hovered on both sides of neutral and our equity exposure has been neutral. Most recently, it moved into barely positive territory. Accordingly, we boosted net equity exposure in the Global Fund from 54% of assets to 57%. That’s down from 63% at the end of the first quarter, when the Major Trend was still solidly positive. We’re worried about valuations in the U.S. The valuation gap of U.S. stocks vs. the rest of the world is significant. Both emerging market stocks with fairly strong valuations and Europe with anemic valuations are trading several price-to-earnings points below U.S. levels. What’s more, short-term sentiment has heated up, especially in the U.S. where the broad market is up significantly year to date. Overheated market sentiment is usually a sign of an upcoming correction.

About The Leuthold Group

The Leuthold Group has produced independent research for institutional clients for more than three decades. The experienced investment team also manages more than $1.7 billion in both separate accounts and six mutual funds. Based in Minneapolis, The Leuthold Group is recognized as a pioneer in tactical asset allocation, with a flexible flagship strategy that has a 25-year track record. The firm’s investment philosophy stresses quantitative measures of value combined with recognition of fundamental and technical trends for an investment approach that is disciplined, unemotional, and at times contrarian. The Leuthold Group is majority employee-owned. Its investment arm is Leuthold Weeden Capital Management.

Investors should consider the investment objectives, risks, charges and expenses of the investment company carefully before investing. The Prospectus contains this and other information about the Funds. For current Prospectus, call toll-free 1-800-273-6886, or go to www.LeutholdFunds.com. Please read the Prospectus carefully before you invest. 

(1) The MSCI ACWI is designed to measure equity market performance of developed and emerging markets. (2) The Lipper Global Flexible Index is composed of funds that allocate investments across various asset classes, with a focus on total return.

Performance data quoted represents past performance and is no guarantee of future results. Investment returns and principal may fluctuate so that investors’ shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown. For performance data current to the most recent month-end, call Leuthold Funds’ Shareholder Services, toll-free: 1-800-273-6886. Per Prospectus dated 1/31/13, excluding dividends on short positions and acquired fund fees, annual net operating expenses for GLBIX were 1.37%; gross operating expenses, including dividends on short positions and acquired fund fess, were 1.46%. There are no fee waivers or expense reimbursements.

Risks of Investing:
Short Selling Risk –Funds may make short sales, which involve selling a security in anticipation that the price will decline. The Funds will suffer a loss if they sell a security short and the value of the security rises rather than falls. Since there is no maximum attainable price for a stock, in theory, short selling could result in unlimited loss.
Foreign Securities Risk –Securities issued by foreign companies may be less liquid and more volatile than U.S. securities, and may involve risks such as fluctuations in currency rates, differences in financial standards, and instability of foreign governments and economies.
Credit Risk –Issuers of bonds and other debt securities held by the Funds may not be able to make interest or principal payments. Even if issuers are able to make payments, they may suffer adverse changes in financial condition that would lower the credit quality, leading to greater volatility in the price of the security.
Asset Allocation Risk –Performance may be affected by Adviser’s ability to correctly anticipate the relative returns and risks of the asset classes in which the Funds invest.
High Portfolio Turnover Risk–High portfolio turnover will result in the Funds incurring more transaction costs such as brokerage commissions or mark-ups or mark-downs. Payment of those transactions costs reduces total return.
Quantitative Investment Approach Risk –While the Adviser continually reviews and refines, if necessary, its investment approach, there may be market conditions where a quantitative investment approach performs poorly.

John Mueller, Co-CEO, The Leuthold Group – (612) 332-9141

Ben Bishop, The Lowe Group – (414) 465-2510

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