Turn to Face the Change
Janus Contrarian Fund targets firms in transition
When much of the market moves with the herd, a contrarian viewpoint becomes more valuable. We spoke with Dan Kozlowski, portfolio manager of the Janus Contrarian Fund, about his investment approach and why it works.
What is contrarian investing?
DK: It's a philosophical approach based on avoiding the consensus view on markets and during the stock selection process. Given the stock market is a discounting mechanism, the investment view du jour is often outdated, representing crowded, or played-out investment situations. "When it's in the papers," as they say, "it's in the prices." We, on the other hand, look for non-consensus investment ideas that are less understood and have evolving change factors at hand.
What is a change factor?
DK: It's a major transition that could greatly improve the performance of a company. We research three different kinds of change. The first is firm-specific, resulting from a management change, spinoffs or other situations that change the strategic direction of a company. The second is industry change: Usually this is driven by consolidation of a formerly over-competitive industry. As consolidation occurs, pricing power is often conferred on the survivors. The third is sentiment change: A company is maligned, often because it made a serious mistake or is under incredible pressure. But a small lift in perception can take valuation from extremely undervalued to equilibrium.
If we see overlapping change factors, then there's a multiplicity effect, and that may inform us to take a more sizable position. We've seen that in the airline industry, and it has led to one of our largest and most successful investments.
Isn't focusing on companies in flux risky?
DK: We look at companies for which the valuation is attractive before the positive change factor is applied. If at the end of the day the change catalyst doesn't work favorably, we're not paying for the upside, so we expect to roughly break even on the investment. When predicting future cash flows and their impact on valuation, we do scenario analysis. We aim to buy at a price level that is at or even below our worst-case valuation scenario, which also helps us to manage downside risk.
To reduce risk further using change-factor investing, we prefer to focus our investing on well-funded businesses that were underperforming with their former management teams. Our view is that new management has more flexibility to transition successfully if it starts with a good balance sheet.
We're similar to value investors in that we look for undervalued companies. But value investors generally buy at a low valuation and just hope things get better. We like to invest when true change is occurring that could catalyze high performance.
How does the Fund reflect the Janus investment approach?
DK: First is our reliance on fundamental research. I believe that when considerable change is occurring, fundamental research is most valuable. Second is our use of the Janus analyst teams. For me, it's a two-way street: I bring change-factor ideas to the analysts and leverage their industry expertise to help me understand and ultimately determine the probability of a change factor going in our favor. In return, I ask the analysts to bring me ideas about companies that are early into major transitions, so that I can be early to those potential opportunities.
How would the Janus Contrarian Fund fit into an investor's portfolio?
DK: A portfolio like this will perform differently than other products in the marketplace. It will also perform differently than other Janus Funds: We attempt to never hold more than five positions in Contrarian that are among the top 20 firm wide holdings. That makes the fund a diversifier, so it can be a great complement to any investment strategy, whether it's a value, growth or bond-weighted portfolio.