The first screening results in a stock universe of about 1,500 companies. The next step is ranking this universe by the four criteria that I already mentioned - quality, valuation, earnings revisions, and price momentum – and creating a composite rank based on those factors. We measure the quality through return on investment, while the value is determined through discounted cash fl ow and traditional metrics such as price-to-earnings and price-to-book ratios. In terms of market sentiment, we look for the companies that the market is optimistic about, or companies with positive earnings revisions and strong aggregate earnings forecast. Finally, we look for companies that exhibit a positive price trend.

For the next step, the fundamental research process, we are interested in the top 150 companies in that universe. Overall, the process allows us to defi ne our universe with characteristics that we like, and to narrow it down to a manageable list.

Q:  What does the fundamental research process involve?

A: The fundamental research process involves building a fi nancial model, which incorporates the historic data of the income statement, the balance sheet, and the cash fl ow statement. Then we try to understand the drivers behind those historic numbers and to make assumptions about the future of the company.

The model is not too complex, but it aims to provide fundamental understanding of the drivers of the revenues and the profi ts. Whether it refers to the minutes of use for a telephone company, the seats available from an airline, or the number of computers manufactured, it comes down to the same principle and to the understanding of the drivers of the volume, prices, and costs.

We make additional assumptions based on the working capital and capital expenditure requirements and analyze the industry direction and the macroeconomic drivers. Overall, building a fi nancial model and inserting your assumptions means that you have to distill all the information down to hard numbers.

Q:  What type of information do you mostly rely on?

A: We derive information from the company prospectus, the annual reports, the quarterly fi lings and interim statements. We may use brokers’ research to get some background on the company, but we do not use their opinions. We may visit the company only at the end of the process to clarify the details. The chief executive may be a very charismatic fellow and, therefore, you may be carried along with his vision. Therefore, we prefer to meet the management after we have developed an unbiased view and a level of understanding of the company.

Q:  How do you approach the portfolio construction process? Do you follow any benchmarks?

A: The portfolio is put together on a bottom- up basis and I do not spend too much time worrying about individual weightings. We use a benchmark, the mSCI All Country Far East ex Japan Index, but we deviate widely from it. For example, Australia has a 33% weighting in the benchmark, while it has 7% in the fund. Thailand has a weighting of 2% in the benchmark, while we have invested 21% there. We use the benchmark mainly as a framework of the split between individual countries and sectors, but we are not trying to replicate it.

The concentrated portfolio has 40 names that are equally weighted. If I do not like a stock, I wouldn’t trim it but I would sell and replace it. We don’t have specifi c limits on the country or sector exposures, but we try to avoid concentration. Currently, we have about a dozen of sectors represented in the fund, including telecommunications, banks, consumer stocks, and utilities. We also split our exposure in a particular country among certain sectors and, more importantly, we would know why we chose those sectors.

Q:  What types of risks do you monitor and how do you control them?

A: Diversifi cation is a major risk control as the portfolio is reasonably spread among countries and sectors. But we do very little formal risk monitoring because I don’t manage the fund to a benchmark. Our purpose is to provide a diversifi ed portfolio of high-yielding Asian companies. The volatility of the fund is going to be higher than in a U.S. domestic portfolio because Asian markets have higher volatility. But since the fund was launched, its average volatility has been around 14%, compared to 10% for the S&P 500, and 17% for Asia.

We manage the risk of capital loss through the due diligence process and through investing in companies that generate stable cash fl ows. Such companies may see some deterioration, but if they generate cash, the absolute risk of loss is low.

Overall, I believe that the best way to deal with the risk is to know your exposure and the underlying reasons. Currently, we have a tilt towards fi nance, materials, and technology sectors. On the country level, we have taken a big position in Thailand and we are under-exposed to Korea and Australia. We have scaled back our exposure to the China growth story, which was a major driver of the performance and the volatility. As we shift towards the domestic Asian growth, I expect the volatility to drop further. So we keep an eye on the risk generated by our exposure, but we don’t formally value or manage the risk to a benchmark.