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Considering that international capital markets are often inefficient in their pricing of small and mid cap companies, Lord Abbett believes that a disciplined, patient approach, based on independent fundamental analysis, can be applied to determine the intrinsic value of a company. We believe that global sector research is the most effective way to uncover companies that are selling at a substantial discount to our bottom-up, fair-value assessment.
We look for well-managed small to medium-size foreign companies with improving industry and company fundamentals. Quantitative screens, fundamental research, valuation analysis, and risk management help us select those stocks that we believe have the most attractive risk-adjusted return and appreciation potential. That generally translates into three types of opportunities: 1) "best of breed" companies, which may never develop into large companies but offer compelling valuations and are expected to continue to dominate their market niche; 2) future market leaders in early to midstage industries with the potential for explosive growth; and 3) companies that are out of favor but poised for a turnaround.
We believe that our global sector approach is critical to analyzing companies within the international small cap core equity asset class. Global capital markets are becoming more integrated, and companies typically are competing on a global scale. Our investment team applies its experience and perspective in the comparison of small cap companies with their global competitors. In addition, our practice of setting price targets provides us with a disciplined approach to support buy-and-sell decision making.
Another quality that sets Lord Abbett apart is the fact that 90% of our international small cap core equity research efforts are conducted internally. The majority of the team's time is spent meeting with company management, their competitors, and their suppliers, as well as attending industry conferences. Investment themes are often identified through these meetings and are used to supplement our quantitative research.
Rigorous Stock Selection
From an initial universe of approximately 2,100 stocks, we employ quantitative and thematic research to narrow the investable selection to an eventual portfolio of 80–110 names. Our quantitative tools include screens for liquidity, abnormal trading volume increases, and market capitalization (typically less than $5 billion). We also look at industry-specific valuation metrics, such as price/earnings,1 dividend yield,2 price/cash flow,3 price/book,4 earnings growth, and sales growth. Concurrently, we develop a thematic approach to supplement our quantitative screens. These themes are often identified through meetings with company management and discussions with industry contacts. Fundamental research is used to determine potential upside and to clearly identify catalysts that the team believes will likely unlock return potential over the next 12–18 months. We then develop price targets for those stocks that we believe have the most opportunity. Price targets are established using a combination of discounted cash flow analysis and sector-specific valuation methodologies.
Currency hedging may be implemented as a defensive strategy on occasion. The firm has a separate team that invests in emerging market currencies. This team analyzes global macroeconomic trends that favor the strengthening of developing local market currencies. Although the currency management team does not make investment decisions for the International Opportunities Fund, this team is available as a resource.
Evaluating What Went Right and Wrong
The investment team evaluates performance attribution analysis monthly to determine which sectors are outperforming and underperforming their respective benchmarks. The next level of analysis determines which particular stocks are over/underperforming, and the analysts determine the cause. Each stock is evaluated on a risk/reward basis. Our analysis results in each stock within the portfolio being evaluated, and a decision is made to continue to hold the stock, sell it, or increase the Fund's position. Successes and mistakes are discussed at team meetings so the full team can benefit from lessons learned.
The International Opportunities Fund may invest in emerging markets. Maximum emerging market exposure is generally limited to 15% of the Fund's portfolio. Investment in emerging markets allows us to diversify the portfolio into new developing markets, which often have potential for high growth as they evolve. [Note: Emerging markets tend to be less liquid and are subject to greater price volatility than those of developed markets.]
We use the S&P Developed Ex-U.S. Small Cap Index5 for performance measurement purposes. We are not, however, limited to just the benchmark index to find investment opportunities. We regularly run screens to search for all companies outside the United States with a market capitalization of less than $5 billion. In addition, we often identify themes through meetings with the management of companies that may not be in the benchmark and through discussions with industry contacts. As of November 15, 2013, 69.71% of Lord Abbett's International Opportunities Fund's portfolio overlapped with the S&P Developed Ex-U.S. Small Cap Index.
Understanding and managing the level of risk in the Fund is particularly important for our goal to add value. Company, industry/sector, and country/region risks are managed through our valuation analysis and the fundamental research of our analysts.
On a daily basis, the Fund's portfolio is reviewed with respect to its country/sector weightings, as well as the top 10 and bottom 10 holdings. On a weekly basis, the investment team reviews various factor exposures and overall portfolio statistics reports.
Individual stock positions are generally less than 5% of the Fund's total market value. At times, we may limit portfolio positions due to liquidity constraints and risk management guidelines. Sector weightings are no more than 25% or 1.5 times the benchmark weighting. Maximum emerging markets exposure is generally limited to 15% of the Funds's total market value. The Fund's portfolio is diversified with 80–110 positions. In addition, each stock is ranked by its degree of risk.
Source: Lord Abbett.
A Note about Risk: The Fund invests primarily in foreign small and mid cap company stocks, which tend to be more volatile and can be less liquid than foreign or U.S. large cap company stocks. Small and mid cap companies may also have more limited product lines, markets, or financial resources and typically experience a higher risk of failure than large cap companies. In addition, investments in foreign and derivative securities may present increased market, liquidity, currency, political, informational, and other risks. These factors can affect Fund performance.
Additional Risks to Consider: Investing in international securities generally poses greater risk than investing in domestic securities, including greater price fluctuations and higher transaction costs. Special risks are inherent to international investing, including those related to currency fluctuations and foreign, political, and economic events. With respect to certain foreign countries, there is a possibility of nationalization, expropriation or confiscatory taxation, imposition of withholding or other taxes, and political or social instability that could affect investments in those countries. The securities markets of emerging countries tend to be less liquid, especially subject to greater price volatility, have a smaller market capitalization and less government regulation, and may not be subject to as extensive and frequent accounting, financial, and other reporting requirements as securities issued in more developed countries. Further, investing in the securities of issuers located in certain emerging countries may present a greater risk of loss resulting from problems in security registration and custody or substantial economic or political disruptions. Foreign currency exchange rates may fluctuate significantly over short periods of time. They are generally determined by supply and demand in the foreign exchange markets and relative merits of investments in different countries, actual or perceived changes in interest rates, and other complex factors. Currency exchange rates can also be affected unpredictably by intervention (or the failure to intervene) by U.S. or foreign governments or central banks, or by currency controls or political developments. No investing strategy can overcome all market volatility or guarantee future results.
Diversification does not guarantee a profit or protect against loss in declining markets.
The fund's portfolio is actively managed and may change significantly over time.
The opinions in the preceding commentary are as of the date of publication and subject to change based on subsequent developments and may not reflect the views of the firm as a whole. This material is not intended to be legal or tax advice and is not to be relied upon as a forecast or research or investment advice regarding a particular investment or the markets in general, nor is it intended to predict or depict performance of any investment. Investors should not assume that investments in the securities and/or sectors described were or will be profitable. Investors should consult with a financial advisor before making an investment decision.
Investors should carefully consider the investment objectives, risks, charges, and expenses of the Lord Abbett funds. This and other important information is contained in the Fund�s summary prospectus and/or prospectus. To obtain a prospectus or summary prospectus on any Lord Abbett mutual fund, contact your investment professional or Lord Abbett Distributor LLC at 888-522-2388 or visit us at lordabbett.com. Read the prospectus carefully before you invest.
Shares of Lord Abbett mutual funds are not deposits or obligations of any bank, are not guaranteed by any bank, are not insured by the FDIC or any other agency, and involve investment risks, including the possible loss of the principal amount invested.