Then the analysts create forecasts of earnings, balance sheet strength, and cash flows for the next 3 to 5 years. They present their estimates and views to a group of senior investment professionals, typically the chief investment officers and directors of research. This review process challenges the analyst’s assumptions and conclusions to make sure that they are consistent, insightful, and robust. Once the group has identified the stocks with high-quality expected returns and attractive business prospects, the firm’s Investment Policy Group selects stocks for the portfolio.

Lazard’s relative value investment philosophy is based on bottom-up stock selection. The firm assesses the trade-off between valuation and financial productivity for an individual security. Lazard believes financial productivity determines appropriate valuations; therefore assessing a company’s financial productivity is an important part of the firm’s research process. Lazard’s analysts, organized into sector teams, seek to provide a global perspective on companies, conforming to Lazard’s belief that where and how a company does business is more important than where it is domiciled.

This bottom-up research process is the key driver of value-added and country or regional allocations are an outcome of this stock selection process. Companies are evaluated by comparing a company’s ability to generate a return on capital with its valuation. Research is conducted to identify the appropriate measures for financial productivity and valuation in each industry, focusing on measures as previously discussed, that have successfully predicted outperformance in the past.

Q: What would be a reason to sell a stock?

A: Each advisor maintains a systematic sell discipline. At Hansberger, shares are sold if the price rises to a specific sell target, if share fundamentals deteriorate, if there is a loss of confidence in management, or if superior alternatives are found. Bernstein’s sales are also initiated when a stock has appreciated to their forecast of fair value or when the company’s fundamentals or business prospects deteriorate to the point of changing their conviction in the stock.

Q: What is the turnover of the fund?

A: It is very low relative to the peers. Over the past five years, the fund had an average turnover rate of about 31%.

Q: What major risks do you or the managers perceive? How do they measure, monitor, and control them?

A: The risks include currency risk, investment style risk, country risk, and manager risk. Given that the returns of international stocks include both the equity performance and the currency effect versus the U.S. dollar, the performance of Vanguard International Value Fund, by any measure, may be quite volatile.

Each of the managers has a different approach to risk management. Hansberger has organized the portfolio construction to best reflect the individual stock ideas generated by the fundamental research. As they monitor their activities, stock selection is the primary factor of performance. Although they are aware of the index composition, the index is not a primary driver of country or sector allocations.

However, Hansberger is keenly aware of the index risk generated by their bottomup stock selection. They monitor country differences and compare regional allocations. These include Europe ex-UK , United Kingdom, Japan and others. Allocations outside the range of 70% to 130% to these major regions would prompt a discussion between the portfolio team and the policy committee for possible remedies. Sector allocations have greater range possibilities relative to the benchmark, or a minimum of 50% and a maximum of 150%.

Bernstein only takes risk when they believe they are being paid to do so. They employ a risk model that dissembles the risk of each security into different components, including global equity, country, industry, local industry, and companyspecific risks. This allows them not only to estimate the risk of every security in their universe, but also its correlation to other securities. Therefore, they can use these risk estimates to forecast the volatility and the tracking error in the portfolio and this information is incorporated in the portfolio construction process. In addition, Bernstein uses proprietary attribution tools to evaluate the effectiveness of their security selection, the impact of their country over- or underweights and the currency exposure. The Investment Policy Group looks at both short and longterm results of the performance attribution in order to clearly understand the sources of risk and return.

Though industry, sector and country weights are a by-product of Lazard’s fundamental, bottom-up analysis, Lazard continually monitors these exposures to gauge the risk in the portfolio. To manage these risks, portfolio management teams rely on quantitative processes to gain insight. Optimization programs (such as BARR A Aegis and Northfield Optimizer) are utilized by Lazard to monitor exposure to various measures of risk including: industries, sectors, countries, and style characteristics (such as large or small cap bias). Individual security exposure is also limited to control risk and maintain liquidity.

Q: Could you give us some examples of successful stock picks based on your research process? Have you had disappointments with certain equities?

A: In the past year, our holdings in energy and financials added significant value. In addition, emerging markets exposure remained a key driver in the period as Brazil, China, and Russia contributed significantly to both absolute and relative results. However, the fund’s South Korean holdings detracted from relative results despite a 4.5% advance in the period.

Among the largest contributors to the fund’s performance in the first quarter of 2006 were Brazil’s Petróleo Brasileiro and Russia’s OAO Lukoil. Yanzhou Coal Mining, another large holding, also performed well.