Resurgence in U.S. Manufacturing Leads to Top Picks for Small and Micro-Cap Portfolio Manager: an Interview with W. Whitney George of Royce & Associates

Wall Street Transcript

67 WALL STREET, New York - September 12, 2012 - The Wall Street Transcript has just published its Investing in Technology and Other Strategies Report offering a timely review to serious investors and industry executives. This special feature contains expert industry commentary through in-depth interviews with highly experienced Money Managers. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

Topics covered: Investing in Technology - Bottom-Up Investing - Price Discrepancies - Alternative Investing - Small-Cap Investing

Companies include: General Electric Co. (GE), Johnson & Johnson (JNJ), 3M Co. (MMM), Fairchild Semiconductor Intern (FCS), International Rectifier Corpor (IRF), Myriad Genetics Inc. (MYGN) and many others.

In the following excerpt from the Investing in Technology and Other Strategies Report, an experienced portfolio manager discusses his outlook for investors:

TWST: Are there any particular investment themes that have emerged in the current market environment you find interesting?

Mr. George: Absolutely. Interestingly, there are whole groups of stocks that really don't meet our criteria. For example, real estate investment trusts, REITs, generally do not meet our selection criteria because they trade at a cap rate that would be closer to where we might be selling than where we would be buying most of the time. Utilities are another example that tend not to show up in our portfolios, because they are regulated businesses that employ balance sheet leverage and tend to earn lower returns. We don't have much in banks because financial leverage is one of the first things that we try to avoid. They may be cheap statistically, but we are looking for high returns on capital and low debt, and they very often represent the opposite.

In the last couple of years, we have tended to gravitate to more economically sensitive businesses, because those are the ones that have gotten punished the hardest, especially given investors' fears about another recession. This is the third year in a row where, around midyear, the world became convinced that another recession was forthcoming. This year it's because of China and Europe. But last year, it was the debt-ceiling issue, so we seem to come up with a new reason every year to worry about the economy.

And when the market worries about the economy, it's going to be very skeptical of things like technology, industrial companies and energy companies, and instead, gravitates to defensive sectors. We don't invest based on a macro view, but rather we employ a bottom-up, stock-picking approach, one that looks for attractively valued companies that are currently out of favor. You tend not to find that in defensive sectors, like utilities or health care, that might offer attractive current dividend yields, but whose valuations don't come close to being interesting to us based on how we look at the world.

Another theme that I personally like, one that has been in place for approximately 10 years, is a view that you want to own hard-asset kinds of securities. That could be anything from mining companies in the precious metal space to energy companies, to certain industrial companies. My rationale is simple and straightforward - the easiest way to deal with our macroeconomic problems is through more quantitative easing of some form, which is essentially printing money. Whenever governments get in over their head, the way many find themselves currently, there are three options.

First, they can attempt austerity, tighten their belts and try to pay back the massive debt. That's politically not a very successful strategy as we see over and over again. The second option is default, but nobody really wants to do that. The third option is a form of default, one whereby a country's currency is debased by printing more of it, and that seems to be very much in vogue right now. The beneficiaries in the long run are those things that are finite in quantity. If the money that is used to purchase becomes somewhat infinite, you want to own hard assets. So that's been a theme that has been very successful for us over the past decade, not so much so in the last 18 months, but one that we think is fairly well embedded and probably has many more years to run.

Aside from that, we like industrial companies. We think that there is a manufacturing resurgence in this country. Labor and wage rates are rising in the historically cheap labor markets around the world. Transportation costs are obviously higher than they used to be, and the need to be closer to one's end markets is becoming more apparent. So we think in this country, you should continue to see a recovery in manufacturing. It had been doing quite well, although it's stalled out a bit because of the uncertainty around the election cycle, but it's one that we think is probably going to resume.

This is an unusual year in that more than half of the global GDP is represented by countries that are due for some form of an election, and that's given a particular emphasis to political events, which are short term in nature. Certainly, within our time horizon, it won't be long before there is at least some certainty to all of these outcomes, whether they be here or in China or in various parts of Europe. Russia has already gone through its process as has France. But I think that's added an extra level of anxiety to an already anxious environment, which has made this year particularly difficult to call, even though the market has done quite well so far, year to date.

TWST: You mentioned earlier Royce & Associates primarily invests domestically but recently started investing internationally as well. What are your thoughts on markets outside of the U.S.?

For more from this interview and many others visit the Wall Street Transcript - a unique service for investors and industry researchers - providing fresh commentary and insight through verbatim interviews with CEOs, portfolio managers and research analysts. This special issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

View Comments