Westwood Holdings Group, Inc. (NYSE:WHG) Q2 2016 Earnings Conference Call July 27, 2016 4:30 PM ET
Sylvia Fry - SVP and Chief Compliance Officer
Brian Casey - President and Chief Executive Officer
Tiffany Kice - Chief Financial Officer
Mac Sykes - Gabelli & Company
Good day ladies and gentlemen and thank you for standing by. Welcome to the Second Quarter 2016 Westwood Holdings Group Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded.
I would now like to turn the conference over to Ms. Sylvia Fry, Senior Vice President, Chief Compliance Officer. Ma'am please begin.
Thank you. Good afternoon and welcome to our second quarter earnings conference call. I would like to start by reading our forward-looking statements disclaimer. The following discussion will include forward-looking statements. These forward-looking statements are subject to known and unknown risks, uncertainties, and other factors, which may cause actual results to be materially different from those contemplated by the forward-looking statements.
Additional information concerning the factors that could cause such a difference is included in our press release issued earlier today, as well as in our annual report on Form 10-K for the year ended December 31, 2015, filed with the Securities and Exchange Commission. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You are cautioned not to place undue reliance on forward-looking statements.
In addition, in accordance with SEC rules concerning non-GAAP financial measures, the reconciliation of our economic earnings and economic earnings per share to the most comparable GAAP measures is included at the end of our press release issued earlier today.
On our call today, we have Brian Casey, our President and Chief Executive Officer; and Tiffany Kice, our Chief Financial Officer.
I would like to turn the call over to Brian Casey, our CEO.
Thanks Sylvia and good afternoon everyone. Welcome to the Westwood Holdings Group's second quarter 2016 earnings call. As the second quarter drew to a close, the aftershock of the UK’s Brexit vote became front and center for investors as the unexpected became reality.
In response global bond yields fell sharply while several central banks around the world quickly positioned themselves as a liquidity backdrop to the market. Equity markets initially posted steep losses with the S&P 500 declining 5% over two days.
However, a sharp rebound ensued with most equity markets now trading at or above their pre-Brexit levels. For investors, the June FOMC meeting was also noteworthy and that the Fed signaled a lower expected path of future rate hike. The reduction of rate expectations also served to limit any material appreciation than the US dollar which along with the continued rebound in oil prices provided at least temporarily some relief for US corporate earnings.
Lastly, but perhaps most importantly the ever growing amount of global debt now trading with the negative yield approximately $12 trillion is impacting valuations across practically all asset classes and not surprisingly intensifying investors’ search for yield.
Given that I’d like to start by talking about our investment teams and how they are navigating and performing in the environment beginning with our US value team. During the quarter when price appreciation was largely driven by multiple expansion as opposed to an improvement in operating fundamentals, the low quality high TE and high beta names were the top performers in the US market. Same hopes true on a year-to-date basis.
In terms of absolute performance, every Westwood US value strategy posted a positive return in the second quarter and for the first half of the year. Performance for our US value equity strategies was strong relative to peer groups with most ranking in either the top quartile of the top path of their category for the second quarter.
However, while not severe as the first three months of the year, the second quarter remained a challenging environment for active management in general with benchmark indices topping most managers including Westwood for the period. From a positive perspective the peer group rankings of our LargeCap value and SmallCap value strategies continue to look attractive of both short and long-term time period.
The peer group rankings for SMid and SMidCap Plus strategies showed some improvement for the quarter but we realized we have more work to do to improve our one, three and five year performance in the strategy. Given Westwood’s focus on downside protection, we were pleased with our strategies performed in June, particularly following the Brexit decision when all but one of our equity value strategies outperformed the benchmark and every strategy posted a positive return for the month.
As was the case in the volatile first quarter, our flagship multi-asset strategy income opportunity continue to perform well in the second quarter with a gain of 3.8% while experiencing significantly lower volatilities on the broader market.
Lastly, we spoke on previous calls about how the downdraft and the master limited partnership sector during 2015 and that our belief that the asset class would rebound and we were happy to see our MLP infrastructure renewal strategy registered a gain of almost 16% in the second quarter as investors took confidence in the rebound in crude oil prices.
Moving on to our global and emerging markets equity team, the second quarter proved to be one of continued validation in our people, our process and our conviction. Despite renewed global market volatility due to Brexit and uncertainty over the outlook for economic growth in China, all five of the strategies managed by the team outperformed their respective indices during the period.
With a more benign outlook on monetary tightening arising from the potential slowdown in the UK and in Europe, an environment of improving growth supported by ongoing liquidity appears positive for global equity and emerging markets. All the investment strategies now rank above median in their peer group over the past 12 months with the three year numbers also showing significant improvement.
As for the global convertible securities team, our long only global convertible strategy outperformed for the quarter and has ranked above median in its peer group over the one, three and five year time periods. The asset classes come under flow pressure globally as many investors that use convertibles within their fixed income allocation have rained in non-core fixed income exposure over the course of the last year.
However, we’ve seen similar cyclical outflows previously and we believe the asset class is well positioned to benefit from an increase in market volatility. In addition, we are encouraged by an improvement in new issuance of convertible securities during the quarter.
The team’s liquid alternative strategy market neutral income which has an absolute return focus has also performed well this year and since the inception of our mutual fund vehicle in 2015. In fact, we earned a nice performance fee from this product during the quarter. We believe this strategy is a suitable fixed income alternative in this environment given both the yield and the inherent short duration profile.
As for flows, the institutional net flows for the quarter were disappointing while our year-to-date client retention rate remains above 95%, we have seen a number of redemptions from US equity clients to fund allocations to alternative asset classes. In addition, we saw some reductions in mandate size in a number of our sub-advisory relationships where the underlying investors are retail investors.
While these are not new phenomenon, this quarter, the net impact is more visible given that our gross sales have been lower than we’ve seen in recent years. This is partly driven by the continued slowdown in decision-making by investors given the uncertain environment they face, but also by the timing of some unfunded wins. These unfunded wins amount to over $1.3 billion in new assets.
The wins are across a number of strategies including emerging markets and income opportunities. However the largest unfunded wins is a new sub-advisory mandate for our global convertibles team while a lower fee mandate, it does bring our global convertible strategy to such scale that we believe it will make the strategy more appealing to other prospects.
On the mutual fund side, mutual fund net sales showed improvement during the quarter two with our year-to-date redemption rate now below what we experienced in 2015 while slightly negative overall, we were encouraged to see that our largest fund, the income opportunity fund had positive net sales in each month over the period.
And other points to note, the SmallCap value fund remains one of the strongest performing funds over all time periods. It’s five star rated and has one of the best track records in the industry over the past five years.
In addition, the Westwood LargeCap Value fund raising moved to four stars and celebrated its 10 year anniversary during the quarter. Similar declines in other market segments private wealth investors faced a difficult environment in which to make investment decisions, our job is to help our clients maintain their focus on the long-term objectives of their investment portfolio – excuse me just one second – I’ll now turn it over to Tiffany for just a minute.
Okay, so let’s go ahead and move into our financial report. For the second quarter of 2016, we are reporting total revenues of $31 million compared to $37.3 million from the same period of 2015. Asset-based advisory fees decreased $4.8 million due to lower average assets under management primarily related to net outflows and asset depreciation since the second quarter of 2015. Additionally, we earned performance-based advisory fees of $0.4 million in the current quarter compared to $1.9 million in the second quarter of 2015.
Net income was $5.7 million compared to $9.8 million in the second quarter of 2015. The decrease was primarily due to the decrease in advisory fees and included one-time implementation cost for information technology improvements of $0.6 million net of tax.
Diluted earnings per share was $0.69, compared to $1.23 to the prior year quarter. Economic earnings and non-GAAP metrics decreased to $10.4 million from $14.4 million in the second quarter of 2015. In turn, economic earnings per share fell to $1.27 in the second quarter of 2016, compared to $1.80 per share in the prior year quarter.
Firm-wide assets under management totaled $21 billion at quarter end and consisted of institutional assets of $11.9 billion or 57% of the total. Private wealth assets of $5.4 billion or 25% of the total and mutual fund assets of $3.7 billion or 18% of total. We experienced net outflows of $860 million for the quarter, partially offset by market appreciation of $697 million.
Our financial position continues to be very solid with cash and investment at year end totaling $73.9 million and a debt-free balance sheet. Our Board of Directors approved a quarterly cash dividend of $0.50 per share payable on October 3, 2016, to stockholders of record on September 9, 2016. This represents an annualized dividend yield of 4.1% at yesterday's closing price.
We encourage you to review our investor presentation we’ve posted on our website reflecting the second quarter highlights, as well as a discussion of our business, product development and longer-term trends and revenues, earnings and dividends.
I will now turn it back over to Brian.
Thanks, Tiffany. I apologize for the break. I have had a cold and I was having a coughing sense, so I’ll start back up. We were on private wealth and as I said our job is to help our clients maintain their focus on the long-term objective and while our growing client retention rates remains strong, we’ve seen a renaissance by many potential clients to make active decisions in the first half of the year. And we emphasize with that and we continue to build our prospective pipeline across the geographies that we are involved.
And as we’ve expressed on previous calls, we remained interested in expanding our private wealth business in other locations. This has resulted in continued discussions all at varying stages with a number of groups.
Before wrapping up, I’d like to address the business environment that Westwood as an active manager is facing given the current industry dynamics. While these dynamics are not new, they’ve undoubtedly strengthened over the past few years. Morningstar released out last week that underscored the depth of the current challenges.
June mutual fund close for actively managed US equity funds were the worst since 2008 and over the past year, American savers have withdrawn $236 billion out of active equity funds while $229 billion has moved to passive and quasi-passive equity funds. This impart reflects the fact active managers as a broad group has underperformed since the end of the great financial crisis.
We, as part of the broader industry acknowledge this, but we question whether the moved index funds as well as many of the smart beta approaches is in the process of going too far. We’ve seen periods of cyclical outperformance of passive over active in the past and we did not believe the current period as a secular phenomenon.
Active managers as a group have traditionally preserved capital better during volatile market environment and during correction. Investors have said that they value downside protection and that is the hallmark of the Westwood investment approach across all of our teams.
We are truly active managers with conviction in our approach. We believe that all consistent investment processes will see periods of underperformance, in fact, we believe they should.
The benefits of a consistent approach will be seen over full market cycles as evidenced by the fact that all of our institutional strategies with greater than a 10 year track record, that is those that have seen both bull and bear markets have outperformed their respective indices.
As many of you know, Westwood has thought to expand its investment capabilities in recent years to reduce its reliance on US equity strategies. Today we are a diversified business with significant assets in both multi-asset and emerging market strategies.
We have also incubated a significant number of new strategies in recent years that we feel have investor demand. Many of these have shown strong initial performance and will approach the critical three year milestones at various points over the next few years.
This diversification by type of investment strategy as well as our global client diversification positions us well to weather the current industry challenges and to prosper over the long-term.
With that, I’ll pause and thank you for your support of Westwood, apologize for the interruption there. I’ll turn it over to you to ask questions that you have. Thanks.
[Operator Instructions] Our first question or comment comes from the line of Mac Sykes from Gabelli. Your line is open.
Good afternoon everyone. I am sorry about your cold, Brian.
Hey Mac, thank you.
So I have a couple questions. You actually came a little bit muffled during your comments about the convertible funds. Could you just actually repeat what you had said about the nature of that relationship, I think you commented on the fees or in the potential size for that?
Sure, what I said was that the unfunded wins amount over $1.3 billion in new assets and that the wins are across the number of strategies including emerging markets and income opportunity. But that the largest unfunded win is a new sub-advisory mandate for our global convertible team. And as a sub-advisory mandate, it will come with a sub-advisory fee which is below market rate. However there are some other unfunded wins that would come at a rate that would be more closer to what our typical overall fee is, but they are some from existing clients and existing clients as you know have tiered fee schedules and some of those assets would come in at lower tiers. So we are excited about the new money, but it’s not all coming in at the rate that everybody is used to seeing from us. But we are thrilled to have it.
And how should we think about the trajectory of this pipeline? Is this spread out over the second half or can you see some visibility in the next quarter or?
Yes, I mean, it’s hard to say, some of it has come in – smaller parts of it has come in, the big sub-advisory is a slow moving animal and it will probably take anywhere from 30 to 120 more days to get it all across the line, it’s just hard to know. As for other unfunded wins, they will come in as they typically do over the balance of this quarter or certainly over the course of the rest of the year.
And then, one last thing on this new convertible sub-advisory, is this a new counterparty relationship or do you have the ability to perhaps market some of your other products there?
I think, honestly this is going to be, for now the only product that we’ll be able to market to this particular group and I am not at liberty to say who it is at this point, but they are hiring us specifically for our expertise in this area.
Okay. Thank you very much.
Thank you. [Operator Instructions]
Do we have any other questions in the queue?
I am showing no additional audio questions at this time, sir.
Okay, well, thank you very much. If you have any further questions, feel free to call us. Go to Westwoodgroup.com our website. We appreciate you being shareholders and appreciate your interest in Westwood. Thanks again.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.
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