Taking stock of managers Good fund performance shows up in share prices

Investors sometimes like a product so much that they buy shares in the company that makes it. Does the same logic work for mutual fund management companies? Good fund performance is key to a goodshare price for a fund management company. Investment performance provides the strongest indication of fund flows, which improve revenue. In 2002, all of the net flows to equity funds were capturedby funds that were top-rated at four or five stars by Morningstar, while the rest of industry experienced net redemptions. If this were a beauty contest, the London-based hedge-fund manager Man Groupwould be wearing the crown. Analysts love this stock. For Huw van Steenis, a London-based analyst at Morgan Stanley, Man plays to many of the themes that he sees as critical in asset management:growth in demand for alternative investments, scale, strong sales support and, critically, investment performance. Man Group funds are consistently at the top of the quarterly charts. “Our researchsuggests institutional appetite for alternative investments is growing,” van Steenis said. “Also, we believe a greater proportion of inflows to hedge funds are coming via funds of funds, a marketwhere Man is the No. 1 player.” There are potential hurdles, however. Man Group must maintain performance and grow in size, since a poor showing in either of these two areas could hurt the shareprice, he said. Man Group shares traded Tuesday at l14.47, or $24.50, for a price/earnings ratio of 18 Because Man Group’s product line is not heavily weighted toward equity funds, its revenue is notcorrelated with the rise in stock markets. Traditional mutual fund managers, however, are more direct beneficiaries of any upswing in equity markets. Three down years for stocks have squeezed profitmargins at the fund managers, but rallying markets should help fund inflows and improve revenue, according to analysts. Martin Cross, a financial stocks analyst with Teather & Greenwood inLondon, favors special-situations asset managers, who invest in companies whose value can be enhanced through improvements in financial or operational management. Liontrust Asset Management, he said,is a distinctive fund manager with a very focused product range. The company, he said, is growing fast and has a good track record, and its valuation is not demanding.” Liontrust shares traded onTuesday at 440 pence for a P/E of 23. Van Steenis said the investment manager Schroders had good prospects but thought that most of its recent improvements in structure and fund performance hadalready been built into its stock price, leaving little room for appreciation. Schroders shares traded on Tuesday at 745.5 pence for a P/E of 58. For long-term investors, Van Steenis prefers 3iGroup, a private manager with investments at all stages of the private- equity cycle, from early stage growth to management buyouts. “The private equity cycle has turned for the better, Van Steenissaid, adding that 3i stock should benefit as exits, or sales of restructured companies, pick up. 3i shares traded on Tuesday at 622 pence for a P/E of 27. Finally, for investors who balk at bettingtoo heavily on a recovery in equity markets, diversified banks could be worth holding as a defensive measure. Even if the economic recovery gathers pace and markets continue to rise, investors canhave some exposure through the banks’ asset management businesses. James Eden, a banking analyst with Commerzbank in London, likes HBOS and Lloyds TSB. “HBOS is on a low valuation relative to itspeer group, yet it is one of the fastest growing domestic banks in Britain,” he said. “HBOS has doubled its commercial loan portfolio, moving up the risk curve, but we believe this is not a cause forconcern.” Lloyds TSB has been in the news lately, announcing the sale of its National Bank of New Zealand unit to ANZ Bank of Australia last week. The deal should give the British bank, which alreadypays an 8.3 percent dividend, cash to play with. “The company can buy back shares, thereby improving earnings per share and dividend cover, Eden said. Or management can retain the cash to improvecapital ratios. Both options look good for shareholders.” Jeremy James, a banking analyst with Pioneer Investments in Dublin, favors European banks that have exposure to an economic recovery in Asia.”Standard Chartered is a pure play on the Asian boom because the majority of its earnings comes from the region, he said, “but HSBC, which derives around 35 percent of its business from Asia, is lessexpensive.” Take your pick.