Robert Urquhart Managing Director, Portfolio Manager Oppenheimer Capital	Martin Mickus Co-Portfolio Manager Oppenheimer Capital

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In a conference call, Oppenheimer Capital’s Robert Urquhart and Martin Mickus put today’s market volatility into historical perspective, and discussed how their growth investment approach may help position investors well for the long term. The following is an excerpt of the call.

Living through history

Those of us who have been in the business for a long time will probably agree that this is the toughest market we’ve seen in our careers. We’re living through history, which is particularly apparent when looking at several unprecedented statistics:

• Ten-year rolling returns in the market just turned negative. That means if you invested in the market ten years ago, you’ve lost money. The only other time that happened was in the Great Depression.
• The VIX (the Chicago Board Options Exchange Volatility Index, which measures the implied volatility of S&P 500 Index options) recently fell below 70, which is about 5.5 standard deviations above the norm. The probability of this happening is less than 1%, and actually much closer to 0%.
• In the last two months, there have been 16 times when the market moved 5% either up or down in a single day. In the previous 20 years, it happened 15 times.
• The most disconcerting event is that the capital markets have ceased working. This is not something that we or anyone else could have predicted.

There are two responses investors can have to the current market situation: The first is to say that nothing makes sense anymore, and you’re going to walk away—poor but alive. The second is to believe that the world is going to realign, and you’re going to continue searching for investment opportunities. Of course, the second response requires a leap of faith, because signs indicate that the world as we know it is ending. But we don’t believe that’s the case. Yes, we’re living through history, but we believe we’re much closer to the end than the beginning, in part because we’ve suffered huge losses already. So we can look at this either as a tragedy or an opportunity. We believe if you take a long enough view, it’s an opportunity.

For starters, people who call this the next Great Depression don’t really understand the differences in monetary policy between then and now. Something like 3,000 banks failed in the late 1930s and early 1940s, and the Federal Reserve allowed them to collapse. This time, that will not happen. This time, we’re seeing a completely different scenario with the liquidity from the Fed. All we need is for the money velocity to turn positive.

And yes, the capital markets have stopped functioning and things have slowed down rapidly, but the flip side is that when capital markets actually start to function and liquidity starts to flow, we really could get a symmetrical rebound.

So while Oppenheimer Capital is not in the business of predicting what’s going to happen over the next three months, we believe that over the next three years, the return in the equity market is likely to be positive.

Growth is good

The main reason we see this as an opportunity is that growth is good. We believe most people want to buy a company when fundamentals are improving or the company is growing, instead of when fundamentals are getting worse or the company is shrinking. So in a way, all investors— including value investors—are really growth investors.

In addition, we believe that growth is good in the current market environment for three reasons:

• Growth stocks have historically outperformed in downturns.
• Investors want an enterprise whose value is expanding, and you get that from growth stocks.
• The growth investment style is less cyclical than other approaches to investing.

So keeping in mind that past performance is no guarantee of future results, while the growth investment style has generally outperformed in downturns because growth companies are still growing, it can outperform in an upturn as well because these companies are generally growing faster than the rest of the market.

Our process positions us well

We believe that Oppenheimer Capital’s investment process is well-suited to navigate this market environment thanks to our philosophy, our bottom-up process and our focus on risk management. But it’s most revealing to tell you what we don’t do. We don’t do macro investing. We don’t make explicit sector bets. We don’t believe in sector rotation. We are first and foremost stock pickers.

That means we invest in stocks where our research shows us that the market is underestimating the true earnings potential of a company. So when we have strong conviction that a company is being misunderstood by the market, we tend to heavily weight that stock. And if you look through our portfolios, you generally see that our top ten weighting is 30%–40% of the portfolio.

Of course, because our top holdings are generally highly concentrated, you may think we’re taking outsize risks to get that return. But that’s not the case. We look at risk consistently throughout our investment process, and we distribute risk so that about 75% comes from stock-specific decisions and about 25% comes from market risk.

The reason why that’s important is because if most of your risk comes from stock-specific issues, then you’re less reliant on market forces like the big credit squeeze we’ve seen in the market, the VIX and the macroeconomic environment. Our portfolios have generally been less susceptible to these outside market dynamics.

Sector insights

Here are a few examples of how our investment process has helped us recently, keeping in mind that current and future portfolio holdings are subject to risk:

• Healthcare has been an overweight for us all year. Through stock selection, we’ve ended up largely in biotech companies because we believe they have good pipelines and expanding sales and earnings, and we don’t think that the valuations are stretched. But we’ve generally avoided traditional pharmaceuticals and managed care companies because we think they’re susceptible to earnings shortfalls.
• Our analysts have done a good job of keeping us out of financials for most of the year, but we have identified companies where we believe growth or earnings are likely to be better than what people expect, and where we don’t agree with the market’s perception of risk. For instance, Visa and MasterCard are credit card processors, but they don’t actually have any receivable risk. Still, we’re skeptical that we’ve seen the last of the write-offs in the financial sector.

At Oppenheimer Capital, we will continue to follow our investment process and do what we have always done. We will focus on delivering positive alpha to investors’ portfolios through proprietary bottom-up research that results in differentiated insights. And our growth teams will continue to seek to identify opportunities where our insights about the magnitude or duration of earnings growth exceed consensus estimates.