Sometimes less is more when it comes to asset management. In the case of the actively managed MFS Institutional International Equity Fund, that equates to an exceptionally low turnover rate of 13% in a portfolio of nearly 80 holdings, as reported at year-end 2021. That was in line with its historical average, but that doesn’t mean the fund’s two portfolio managers make a habit of kicking back, putting their feet on their desk and going through the day on cruise control.

“While our turnover looks low, we’re constantly testing our investment thesis and evaluating relative valuation opportunities,” says Daniel Ling, who runs the fund with his partner, Filipe Benzinho. “We spend a lot of time following up on companies we invest in, and one of the things we do on trips is visit companies we do not own just so we can assess relative opportunities so we can own the best possible ideas.

“And one of the reasons why our turnover is low is because we’re bottom-up investors,” he adds. “We don’t try to make explicit macro bets or currency bets. We’re focused on the quality of a business and not on the short-term volatility of a business. And we try to think about a business over a full business cycle, so you can see why our turnover is low. The average holding period in our portfolio is about seven to eight years.”

Whatever they’re doing has worked because the fund’s average annual returns have handily topped its foreign large-blend category in all of the measurable time periods ranging from one to 10 years, placing it in the upper quartile during these periods, according to Morningstar. (The same goes for the 15-year time frame, but that somewhat predates the tenure of Ling, who assumed portfolio manager duties in October 2009. Benzinho became co-head in 2016.)

But Ling asserts that the fund’s static multiyear returns and high rankings in its peer group aren’t the best way to judge it.

“The one number that bears testament to our long-term approach is to look at our rolling returns since the inception of this strategy,” he says, noting that from February 1996 through December 2021 the strategy has outperformed its benchmark, the MSCI EAFE Index, 88% of the time over rolling three-year periods. Over rolling five-year periods, it has outperformed 93% of the time.

Benzinho offers that the fund’s measured, long-term approach helps it cut through the noise to find enticing companies and avoid potential blowups. “We have the luxury of separating what’s temporary from what’s structural. Time and again we see opportunities to find high-quality businesses when the market overreacts to a short-term temporary issue.”

For example, he says, they invested in Richemont, a Swiss luxury goods company, at a time when the market was overly negative about its watch business and its online efforts. “The watch business then was going through a period of clearing inventory, which depressed revenue and margins,” Benzinho explains. “The online business was a new venture, which required a sizable up-front investment and wasn’t yet profitable. So we took advantage of an opportunity that arose when the market was worried about short-term transitions in smaller parts of the overall business.”

Global Reach
Ling operates from Singapore, and Benzinho is based in London. They work with roughly 40 non-U.S. analysts who cover more than 1,000 companies. Those names might come from within the MSCI EAFE Index, or from without: The result is a portfolio with a heaping dose of developed Europe companies and a smattering of emerging market stocks.

“During the history of this strategy, I think the maximum amount in emerging markets was around 10%. It’s usually a lot lower than that,” Ling says. “And we try to avoid as much as possible owning companies domiciled in the U.S., mainly because a lot of our clients already have U.S.-dedicated managers.”

He and Benzinho follow a growth-at-a-reasonable-price approach, with a quality bias. “‘Quality’ is probably a word that’s overused in our industry,” Benzinho says. “We think about quality as looking at the sustainability of returns and the ability of companies to protect those returns and still generate decent returns through difficult economic times. And we focus on cash metrics such as free cash flow generation because we think cash returns provide a stronger perspective on the true quality of a business.”

As bottom-up investors, the two managers evaluate companies on merit and don’t position the portfolio to be overweight in a particular sector or country. They also put a big emphasis on risk management.

“We sit down with our chief investment officer to go over our risk exposures and risk management,” Ling says. “The semiannual risk review meeting is very important because, as bottom-up investors, it’s very helpful to understand the risks we’re taking with our exposures.”

Benzinho adds, “We strongly believe that avoiding blowups is the first step in being able to outperform over the long term. We spend a lot of time thinking about what might go wrong, and we think about a business’s ability to withstand macro shocks and to emerge stronger on the other side. That means we avoid businesses with a lot of financial leverage.”

He adds that the fund has held up well on a relative basis during market drawdowns. According to Morningstar, the fund exceeds the upside capture ratio of its category peers while having a downside capture ratio and maximum drawdown percentage lower than the category average.

Of course, the duo don’t hit the mark every time. “We want to make sure we’re honest with ourselves and not be too emotional when a stock goes against us,” Ling explains. “We’ll sell the stock on the day when the thesis is broken.”

Key Themes
Despite operating on different continents in different time zones, Ling and Benzinho say they have a very close working relationship and make all of their investment decisions together.

“We speak daily via email and phone, and we’ve adjusted our working hours to maximize our overlap during the day,” Benzinho says. “Daniel stays up a bit later, and I wake up early so we have plenty of overlap, and that enables us to join meetings with management teams.”

He notes that in pre-Covid days he and Ling spent an average of about a week per month traveling to visit companies and attend conferences. But the pandemic has changed that dynamic. It has also changed the long-term growth rates and returns on a number of businesses the portfolio managers look at.

“Some businesses are benefiting from the acceleration of trends that were happening prior to Covid, such as digital manufacturing and energy efficiency,” Ling says. “We’ve also found there are a lot of companies that have advantages post-Covid.”

One example he cites is Ryanair, a low-budget airline based in Ireland. He notes the company’s low costs and strong balance sheet helped it gain coveted slots at airports that other airlines had to give up during the global lockdown. The airline is “emerging from Covid in a much better position than many of its peers that still rely on government support,” Ling says.

Benzinho highlights positive structural growth trends around industrial companies, as well as the transition of society in general from fossil fuels to more environmentally friendly energy. The fund, which is overweight in the industrials sector, includes Schneider Electric and Legrand, two French companies in the electrical equipment space.

“And we own some construction names such as Sika and Akzo Nobel and Hitachi,” he adds. “And we own industrial gases companies. These and others will benefit from investments needed in the energy transition.”

He and Ling are also invested in the digital manufacturing wave they believe is the next step in the evolution of the digital economy. That includes Dassault Systèmes, a French software company that serves companies in the aerospace, automobile and chemical industries. “Its software does everything from designing products to a product’s life cycle management. That business has been growing about 10% organically, and it’s sustainable for the long term at good margins and returns,” Benzinho says.

He also points to Capgemini, a French information technology services company. “It’s a bit like Accenture, but smaller in scale. It made a recent acquisition in a company that’s focused on operational IT services mostly for manufacturing companies to help them implement digital systems into their manufacturing processes. We feel that IT services as a whole is a great space to be in. That also includes TCS [Tata Consultancy Services, an Indian IT company].”

Ling posits that his fund may not appeal to those investors chasing short-term macro calls. “What we do might sound old school and old-fashioned, but we believe that long-term compounding of returns of quality companies is the right way to go,” he says.