Small Cap Strategy FACTSHEET

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The Small Cap Strategy is best suited for clients who seek price appreciation as a significant component of portfolio total return and have a long-term investment orientation. The strategy aims to deliver competitive returns over a full business cycle by building a portfolio of companies with above-average growth potential.

  • Our primary investment objective is to construct a portfolio that will deliver competitive returns versus the major market indices over a business cycle.
  • Our investment philosophy stresses the benefits of a concentrated portfolio of high-quality companies with a track record of long-term earnings growth.
  • We subscribe to the notion of reversion to the mean: the idea that asset prices tend to move in wide swings above and below their fair value, but eventually move back toward their historical norms.

Investment Selection

The Small Cap Strategy invests in the common stocks of domestic companies that we believe are trading below intrinsic value based on our estimates of normalized earnings. Market capitalization ranges will be within the market capitalization range of the Russell 2000 at the time of purchase.

Investment ideas are generated from a variety of sources, including:

  • Our own reading, conversations, research, and observations;
  • Quantitative stock screening;
  • Stocks that have recently suffered significant share price declines;
  • Investment news;
  • Investment industry publications and newsletters.

For new ideas worthy of further investigation, we will generally compare the stock’s current valuation metrics against the historical averages, review the company’s financial statements for the past several years for material information that may bear upon its future prospects, review company conference calls, participate in conference calls with analysts to gain industry insight, and hold calls with management teams to get a better understanding of general business fundamentals.

We typically avoid companies that:

  • Involve products or business models we do not like or understand;
  • Are heavily leveraged or in financial distress;
  • Have a history of treating outside shareholders poorly (e.g. multiple shareholder classes);
  • Have a recent history of accounting irregularities, legal problems, and regulatory scrutiny.

A review process is triggered on positions that have dropped 20% from cost relative to the Russell 2000.

"There is one thing I can assure you. If good performance of the fund is even a minor objective, any portfolio encompassing one hundred stocks is not being operated logically. The addition of the one hundredth stock simply can’t reduce the potential variance in portfolio performance sufficiently to compensate for the negative effect its inclusion has on overall portfolio expectations."

— Warren Buffett, Partnership letter 1965

Portfolio Construction

The portfolio typically holds between 30 and 40 stocks, although holdings may be above or below this range if conditions warrant. Most holdings range within a 2% to 5% range of the equity allocation. Further, we are generally fully invested.

Annualized turnover typically ranges between 25% and 35%.

Sell Discipline

We will review, reduce, or sell entirely a stock in the strategy if:

  • A position declines by 20% from its original cost relative to the Russell 2000;
  • A stock fails to make a material contribution after a two-year holding period;
  • A position becomes outsized due to performance;
  • The stock reaches our estimate of fair value;
  • Our original basis for the investment has changed;
  • We have lost confidence in management;
  • A superior investment alternative becomes available.