Portfolio Manager Interview

Interview with Pax World Value Fund manager Sujatha Avutu

Sujatha, before we discuss the Pax World Value Fund, perhaps you could tell us a little something about your investing background in general.
Sure. I have more than 15 years of investment management experience with various asset management firms. I began my career as a financial services analyst following banks and insurance companies primarily, and then I moved on to analyzing other industries primarily in the value sector, including energy and utilities. Prior to coming to Pax World, I was a managing director at Evergreen Investments and senior portfolio manager for the Evergreen Equity Income Fund.

What prompted you to join Pax World?
When I was contacted by Pax, I happened to be at a point where I was starting to think about what to do in the next phase of my career. I was exploring various options including starting a fund of my own – a women’s investment fund focusing on women’s equity issues – and some private equity opportunities.

When I heard about this opportunity and what it was all about, it piqued my interest. Then I met with people at Pax, and after hearing their vision of where they wanted to take the company and how they wanted to integrate sustainability factors into the investment process, I became even more intrigued. It was so close to what I was thinking in terms of what I wanted to do in the next phase of my career that I thought, “What a coincidence, what serendipity. Why not partner with someone who’s already doing the things I want to do?”

Can you share a little with us about your investing style?
My approach to investing is a value style that focuses on three important tenets – the quality of the business, the price we are willing to pay for that business and overall risk management. Focusing on these criteria allows us to construct a portfolio that really offers a significant upside potential with mitigated downside risk – somewhat of an asymmetrical risk-to-reward profile.

By the way, my focus on downside risk management fits nicely with Pax’s philosophy of integrating ESG factors into the investment decisions. ESG is a powerful tool that allows us to understand and assess risks and opportunities from a different vantage point than most investment companies would look at them from.

Asymmetrical? Can you be a little more specific about what you mean by that?
Investing 101 says that when you take more risk, you increase your opportunity for greater return. Similarly, if you take less risk, you’re likely to get less return. By applying a rigorous process that not only focuses on the quality of the business but on the price you pay for it, you will often wait for the price to come to your terms – that is, where you think the appropriate risk-to-reward is. These companies may be fallen angels that nobody wants to own at that moment, perhaps because they’re not in attractive sectors or because there are some temporary issues going on in those sectors or with those companies. If you’re very sensitive to the price you pay, then even if more bad news comes out for those companies –  if the company announces further negative earnings, for example – the stock will likely not go down as much because expectations are already low. All of a sudden, risk-reward is not equally distributed – it’s unequally distributed. Once these companies start performing well, their stocks start performing well and the gap closes much more rapidly. When the gap closes, you’re not only getting the benefit of improving fundamentals, but the initial depressed valuation gets closed as well. So you derive both benefits as these two gaps close and therefore the risk-to-return is not symmetrical, it’s asymmetrical.

Do you want to talk about stock price? How do you decide what’s the right price to pay for a particular security?
That changes. When you look at a financial company – a bank, say – versus a consumer staples company like Kimberly-Clark versus an energy company like BP versus a utility – the value of those stocks is different based on different factors, including how the market assigns values for companies in different sectors. We look at those factors and assign relevant multiples to assess the true value for each of those companies.

Is there anything else that makes your investment style unusual?
In addition to focusing on what I call “contrarian value,” I also pay attention to qualified dividends on the premise that they can help produce higher after-tax returns for my investors. Under the 2003 changes in the tax law, if you buy a security and own it for at least 60 days and receive a dividend, that dividend is considered a “qualified dividend” and the lower capital gains tax rate of 15% applies to it. This fits in well with my long-term investing philosophy. You don’t want really high turnover in the portfolio if you’re a long-term investor.

How do you feel about investing in foreign markets?
Given that we are truly in a global environment and a global economy, I see less and less rationale for making distinctions based on where a company is domiciled. Pax Value Fund investors should know that we are not afraid to go where the investment opportunities are – whether that’s here in the U.S. or in international markets where GDP growth and consumption growth have been much more attractive of late. The long and short of it is, we look for attractive investment opportunities wherever they may appear.

Do you make it a point to meet with the management of companies you’re interested in?
Yes.  I believe it’s very important to meet with management face-to-face if you can. You learn so much more. Especially after meeting with them several times, you begin to understand their habits, their body language and so forth. This is not something you can find in the pages of a financial statement or brochure, but it’s something that you can definitely and meaningfully integrate into investment analysis and decision-making.

Do you tend to stay fully invested?
Investors are paying us to manage their money, not to hold their assets in cash. As an active manager, under normal conditions, I generally try to stay as fully invested as possible. That said, there may be periods when we keep a higher level of cash on our books, but it’s generally no more than 10% and usually much, much lower.

Is there a specific type of investor whom the Pax World Value Fund would seem to serve particularly well?
As a value-oriented manager, I believe – and I think the evidence shows – that a strong sensitivity to valuation and price will benefit an investment portfolio over the long run. That’s true of value funds in general. About our Value Fund specifically, I envision it as a core foundation with lower volatility and higher dividends than its peer group under normal conditions. I believe it is properly viewed as an anchor holding in a diversified portfolio, so to that extent, it may well be an appropriate holding for many investors.

What about the bias in some quarters that one has to sacrifice performance in order to do socially responsible or sustainable investing?
“Bias” is the right word because, in my view, it simply isn’t true. I believe rigorous sustainability or ESG analysis, coupled with a rigorous financial discipline, can really help in building portfolios that are positioned to outperform their peers over the long term.

Historically, socially responsible investing was more about exclusionary factors and negative screens, many of which were based on personal or religious values rather than financial rationales. As the industry moves more toward what we at Pax call “sustainable investing,” I think we will be able to make the case that ESG factors have material economic impact and can really benefit a portfolio. This is a more financially-oriented approach.

I should mention that value funds haven’t been as historically prevalent in the ESG space. The so-called “value” industries – energy, industrials, materials, utilities – were considered to be big, bad, dirty industries that have negative social and environmental impacts. To some degree, of course, that’s true.  But I think more and more companies are looking to address these issues – often under investor or consumer pressure – and we are starting to see a gap form between the leaders and the laggards. The leaders are the companies that are proactively addressing environmental, social and governance issues in a positive way. There is change happening at the grass roots level in these dirty industries as companies increasingly see the benefit of stronger ESG performance. The leaders are starting to figure out ways to operate in a more sustainable fashion, and the laggards will have to eventually come up and meet the standards of the leaders.  So, there are investment opportunities in looking at these issues and trying to identify the best companies.

Final question, Sujatha. There are literally hundreds of mutual funds with a value orientation. What makes the Pax World Value Fund different?
As I’ve said, my style is a contrarian value style. The way I assess the quality of a business and what to pay as a price for its stock and my emphasis on downside risk management all result in a somewhat asymmetrical upside-to-downside risk profile.  When ESG criteria are overlaid atop that analysis, I believe it really gives us a potential competitive advantage over other value fund strategies. I would say that this layering of the risk and opportunity analysis is our primary differentiating factor, and I would hope that the market would bear this out in the years to come.

Thank you, Sujatha. This has been very interesting.