Happy New Year to you and Happy Birthday to our global portfolios! Two years ago we celebrated their three-year records and first set of Morningstar Ratings, so it makes sense to do so again as they turn five. We think we have reason to be proud of Ariel International Fund and Ariel Global Fund’s performance and hope you agree.
As you know, our global portfolios seek to keep risk considerations and return prospects in careful balance, which shows in their performance profiles. Over the last five years ended December 31, 2016, Ariel International Fund has generated solid relative returns, gaining +5.82% annually—good enough to rank it in the top half of its Morningstar peer group1 even if it lags its primary benchmark MSCI EAFE Index’s +6.53% return. Meanwhile, Ariel Global Fund has returned +8.45%, a bit below average in its Morningstar peer group2. It lags its MSCI ACWI Index’s +9.36% gain over that time period, one largely propelled by comparatively hot U.S. equities; we have found more enticing opportunities abroad so far.
There is no perfect way to measure risk, but the commonly-employed standard deviation metric precisely measures volatility, which many accept as a good stand-in. It does show our risk awareness nicely. Over the past five years, the MSCI EAFE Index’s standard deviation was far more jumpy at 13.47%, than our comparable Ariel International Fund’s level at just 11.60%. That score is among the lowest 8% of funds within its category. Meanwhile, the all-country MSCI ACWI Index’s 11.38% standard deviation also outpaced our Ariel Global Fund’s 10.44% mark. That mark puts Ariel Global Fund in the least jumpy 12% of its category.
Trying to capture risk and return simultaneously is difficult, with the Morningstar Rating3 serving as the most common example. It blends risk and return over three time periods—three-, five-, and ten-years. It mixes these periods together in an overall rating, weighing the longer periods more heavily. For instance, funds with more than five but less than ten years of histories have overall ratings that are 40% three-year and 60% five-year. Obviously, this means a fund’s fifth anniversary can be a key inflection point. It’s also notable how the ratings are distributed; they are not even slices. Just 10% of the funds in a category get a five-star rating or a one-star rating, respectively, 22.5% receive four stars and two stars, and 35% land in three-star territory. In other words, obtaining and keeping a five-star rating is quite difficult.
As Ariel International Fund reached its fifth birthday its overall rating declined from five stars to four. Its three-year rating remains five stars. Its new five-year rating is a notch lower, at four stars. For both periods its risk score was in the best decile of its foreign large value category, but while it notched top decile return scores over the past three years, it was just above average over the past five. As you likely recall, the fund started a bit slowly its first few months as we put cash to work at a measured pace with a sharp eye on risk and value.
Ariel Global Fund’s star rating remained stable. Within the massive World Stock category, its overall rating lands in three-star territory. It demonstrates a similar texture however: for both the three- and five-year periods it is among the best quintile of funds on a risk basis. Its five-year return score is below average, but its three-year return is in the top 30%. We took the same approach here and put cash to work gradually—which held the fund back a bit in the first few months.
Indeed, our own analytics shows that holding cash has been the biggest headwind for both funds—largely due to double-digit stakes early on. Cash levels are now more normal, in the 7% range for both funds.
Long-term, our stock selection will likely drive returns. With that in mind, we can turn to attribution to show that we have had positive stock-picking across most sectors in both funds. In Ariel International Fund, since inception, we have added value in nine sectors and lost ground in just two. Specifically, the two best areas for stock-picking have been information technology and consumer discretionary; the two most difficult ones were telecommunication services and consumer staples. Overall, stock-selection added more than 1,000 basis points to returns the past five years. In Ariel Global Fund, we had advantageous stock selection in seven areas and setbacks in four. Unfortunately the difficult sectors hurt more than the strong ones helped, leaving us with no advantage on the index. Based on stock selection, the top areas were consumer discretionary and financials; the most challenging groups were consumer staples and telecommunication services.
The opinions expressed are current as of the date of this commentary but are subject to change. The details offered in this commentary do not provide information reasonably sufficient upon which to base an investment decision and should not be considered a recommendation to purchase or sell any particular security.
