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  • Home>Research & Insights>Undiscovered Managers>Timothy Hartch and Michael Keller, BBH Core Select

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    Timothy Hartch and Michael Keller, BBH Core Select

    Skittish about stocks? The managers of BBH Core Select have carefully constructed a 30-name portfolio that has been more stable than the market.

    Laura Lallos, 04/26/2010

    A scion of the 200-year-old white-shoe private bank Brown Brothers Harriman & Co., BBH Core Select BBTEX enables the general investing public to rise above the fray.

    Comanagers Timothy Hartch and Michael Keller take a sensibly conservative approach to stocks. They are very particular and very patient. First, they seek strong balance sheets, significant free cash flow, and high return on capital from companies that can sustain such performance by selling essential products to loyal customers. Only 150 or so large-cap names make the cut. Then they insist on a discount of at least 75% to intrinsic value; they might eye a prospect for several years before it is priced low enough to buy. Once a stock is in, it is held on average for at least three years.

    The result is a portfolio concentrated in fewer than 30 names that has proved more stable than most broadly diversified core funds or the market. For the past five years--since current management took over and implemented its strategy in 2005--the fund has one of the highest returns in the large-blend category, an annualized 5.6% through Jan. 31, with one of the lowest risk profiles.

    That makes this fund "appropriate for most of our clients, in the large-cap core space," says Walter Zagrobski, a senior vice president at Boston's Appleton Partners, the investment advisor to Cambridge Appleton Trust. Zagrobski says BBH Core Select can even stand as a sole holding for small accounts with long-term time frames. Cambridge Appleton Trust began investing in the fund about a year ago after meeting with Hartch and Keller. Zagrobski liked the fund's low-turnover, tax-efficient strategy and the fact that it invests in a limited number of names that the managers know inside and out. "What impressed us is their depth of knowledge about the management and financial metrics of all their holdings. We had to cut them off after five or 10 minutes on each stock [in order to get to everything]."

    Fact-Based Stock-Picking
    Indeed, as Keller describes it, stock-picking at BBH is an exhaustive collaborative process. The managers and their team of seven analysts "will spend hours sitting in the same room trying to develop a shared conviction." They check their own emotions against fact-based, written summaries developed for every investment before it is added to the portfolio. They add to positions in companies that continue to live up to their risk/reward profile when discounts to intrinsic value deepen, and they begin trimming when the price rises within 10% of that target.

    That deliberative process led to a decision to sell the fund's bank stocks in 2006, one factor in the fund's subsequent category-leading returns. Keller makes it sound so simple: "It was a credit-related decision." The management team worried that credit concerns would affect even the best commercial banks-- a weakness obvious to many only in hindsight. That said, the managers were not making a sector call against banks; they never make top-down calls. Rather, because they prefer to err on the conservative side when estimating earnings growth, the credit risks made these stocks uncompelling. As the fund isn't measured against a market benchmark for sector weights, there was no need to maintain exposure.

    Credit concerns are still an issue, says Keller, but the fund recently bought its first bank stock since then, U.S. Bancorp USB. "USB was consistently profitable through the credit crisis, and they passed the government's stress tests rather easily. Our capital is better protected in a bank where the credit underwriting culture is conservative and has been for many years."

    Again, this is a bet on a particular bank, not banks in general. "People think that there is not much difference among commercial banks, but USB's strong underwriting discipline has differentiated it, and it is primarily a deposit-funded institution, so money is coming in the door regularly at low cost. The stock was trading well below even conservative estimates of earnings, and we were pleased to bring it into the portfolio."

    Laura Lallos is a former Morningstar analyst and editor, and a frequent contributor to Morningstar Advisor magazine.