Umbs Student Managed Fund

Sales & Trading Report

UMBS STUDENT MANAGED FUND:

A Core Mid Cap Equity Fund

ACC/FIN 725, Section 1

Professor Richard Sloan

by:

Brian Cox

Conrad Langenegger

Sumit Mehta

April 18, 2003

Overview of Fund Investment Objective and Strategies

The UMBS Student Managed Fund (The Fund) was created on April 14, 2000 with an original endowment of $95,000. The objective of The Fund is long-term capital appreciation, using the S&P Mid Cap Index as a benchmark. The fund focuses on stocks of mid-capitalization U.S. companies with a quantitative investment style applied to mid-cap growth and value (blend) stocks.

Investment Objective:

The Fund seeks long-term appreciation of capital. The Fund seeks this objective through a broadly diversified portfolio of equity securities within the approximate range of the market capitalization of companies constituting the S&P Mid Cap 400 Index.

Principal Investment Strategies:

Equity Securities. The Fund’s investments are selected using a combination of quantitative techniques and fundamental research in seeking to maximize the Fund’s expected return, while maintaining risk, style, capitalization and industry characteristics similar to the S&P Mid Cap 400 Index. Potential stock selections are initially generated using quantitative screening techniques based on fundamental valuation, earnings quality and momentum signals. Final stock selections are made after a detailed fundamental analysis of each stock. While the Fund invests in a blend of value and growth stocks, growth stocks are only included to the extent that they are priced attractively relative to their growth prospects. The Fund uses the BARRA U.S. Equity Model to restrict its expected tracking error (active risk) relative to the S&P Mid Cap 400 Index to 5% per year.

Exchange Traded Funds. Given its limited size, the Fund may invest in exchange traded funds that track US equities indices (such as Mid Cap Standard & Poor’s Depository Receipts) in order to achieve the joint goals of minimizing active risk and limiting transaction costs. The Fund invests, under normal circumstances, at least 90% of its total assets in a combination of equity securities and ETFs.

Other Investments. The Fund’s other investments are limited to securities that are considered cash equivalents.

Additional Information:

Additional Investment Restrictions. The Fund’s investments in equity securities are limited to the common stock of companies with market capitalizations of at least $50 million. Further, these securities must be traded on either the NYSE, Amex or NASDAQ NMS security exchanges. The Fund’s investments in other investment securities are limited to securities that are intended to track the S&P 400 Mid Cap 400 Index. Investments in cash equivalents are restricted to money market funds investing primarily in high quality money market instruments with an average maturity of 90 days or less. The Fund is not permitted to borrow money from banks or other financial institutions (including margin loans). The Fund is not required to immediately divest itself of any security held by the Fund simply because that security’s characteristics change while it is held by The Fund such that they no longer adhere to the above restrictions. However, the Fund must divest itself of any security whose characteristics change such that they violate the above restrictions continuously for a period longer than six months. The fund will be obligated to maintain compliance with the University of Michigan’s investment policies, and will report any deviations from such policies promptly to the UM Chief Investment Officer.

Reporting Requirements. The Fund shall submit monthly reports to UM Treasurer’s Office within two weeks of the end of each calendar month. Such reports will provide a complete Statement of Net Assets for the Fund as of the end of the calendar month, a Statement of Operations for the calendar month, a Statement of Changes in Net Assets for the calendar month, a listing of all transactions made during the calendar month and a comparison and analysis of the performance of The Fund relative to the S&P Mid Cap 400 Index. The UM Treasurer’s Office may prescribe the format that such monthly reports may take. Such monthly reports will be prepared in a fashion to report both monthly and year-to-date results.[1]

Recent Fund Performance

Over, the past three months, the Fund consisted of the following holdings.

Table 1: The Fund as of close of business 3/31/03.

During this three month period, the Fund has outperformed the Mid Cap 400 (benchmark) by an average of 268 basis points.

Table 2: Overall Performance of the Fund and the Mid Cap 400.

Date / 1/27/03 / 2/3/03 / 2/10/03 / 2/17/03 / 3/3/03 / 3/10/03 / 3/17/03 / 3/24/03 / 3/31/03
Fund / -1.34% / -7.10% / -9.68% / -10.9% / -10% / -13.1% / -10.2% / -9.34% / -9.70%
MidCap / -4.85% / -9.95% / -12.7% / -14.1% / -12.8% / -15.5% / -12.3% / -11.6% / -11.7%
Spread / 351 bps / 285 bps / 303 bps / 315 bps / 278 bps / 239bps / 207bps / 226bps / 200bps

Celebrating its third anniversary, the Fund on average has outperformed the S&P Mid Cap 400 Index. It continues to generate a higher return while minimizing the tracking error relative to the Mid Cap 400 (see Appendix A for a detailed graph of the Fund’s return since inception versus the return of the major indices).

Portfolio Management Process

Current Economic Trends

Starting the portfolio management process, the Economist/Strategist Group provided an overview of recent trends in key macroeconomic indicators and an aggregate equity valuation for each sector. The following is a summary of their assessment of the economy.

The U.S. conflict with Iraq reverberates throughout all recent economic reports. It's unclear whether these indicators reflect a fundamentally weak economy or whether special factors, such as severe winter weather in February and the war with Iraq are obscuring stronger growth. One common theme among the reports is that, despite signs of strength, economic progress will be slow until the conflict is over.

Interest Rates:

Federal Reserve Board's Open Market Committee elected to keep its target for the federal funds rate unchanged at 1.25% at their last meeting (March 2003). Despite signs of deterioration in the labor markets and mixed signals from the broader economy, much of the weakness in the economy seems to be the result of short-term uncertainty.

Gross Domestic Product (GDP):

Real GDP increased at an annual rate of 1.4% in the fourth quarter of 2002.[2] In the third quarter, real GDP increased 4.0%.

Consumer Price Index:

The Consumer Price Index increased 0.8% in February 2003. The February level of 183.1 was 3.0% higher than in February 2002[3].

Consumer Confidence:

The Conference Board's Consumer Confidence Index, which declined sharply last month, fell again in March 2003. The Index now stands at 62.5, down from 64.8 in February. Furthermore, the University of Michigan's preliminary February consumer sentiment index fell to its lowest level since September 1993. It dropped from 82.4 in January to 79.2, decreasing below its expectation of 81.2.

From the group’s analysis of the current economic trends, current fundamentals of each sector, and forecasted future fundamentals of the sectors, the Economist/Strategist Group recommended weightings for each sector. See Table 3 for a breakdown of each sector and the recommended weightings.

Table 3: Economist/Strategist Group Recommended Sector Weighting.

Following the economic overview, each sector group provided an overview of their respective sector and an individual stock recommendation from their sector. Using FactSet Quantitative Screening, business analysis, fundamental evaluation, and BARRA Aegis System, each sector group provided a buy recommendation for a stock that they identified to have the most potential to maximize the information ratio of the Fund.

Next, the class voted on the return forecast of each stock to determine a consensus voted alpha for each stock. The following table provides a summary of the proposed stocks to add to the Fund. The summary coversheets for all the proposed stocks can be found in Appendix B.

Table 4: New Proposed Stocks by Sector.

Sector / Stock / Estimated
Price / Alpha / Active
Risk / Info.
Ratio / Voted Alpha
Energy / Apache Corporation (APA) / $67.00 / 17% / 5% / 0.44 / 3.33%
Industrials / York International Corp. (YRK) / $27.02 / 15% / 30% / 0.50 / 4.23%
Technology / Take-Two Interactive Software (TTWO) / $30.59 / 20.5% / 5% / 0.39 / 8.29%
Telecommunications / Bell South Corp. (BLS) / $27.15 / 7.5% / 29% / 0.26 / 1.97%
Materials / Quanex Corp. (NX) / $37.77 / 14% / 29% / 0.47 / 4.92%
Healthcare / Sunrise Assisted Living Inc. (SRZ) / $31.08 / 26.7% / 40% / 0.65 / 6.22%
Utilities / NICOR Inc. (GAS) / $34.02 / 20.42% / 26.6% / 0.77 / 5.61%
Financials, Banks / Flagstar Bancorp Inc (FBC) / $32.14 / 19% / 5% / 0.61 / 4.00%
Financials, Non-Banks / New Century Financial Corp. (NCEN) / $37.25 / 4.60% / --- / 0.16 / 2.78%
Consumer Disc. -
Retail / Handleman Company (HDL) / $18.72 / 16% / 35% / 0.46 / 4.85%
Consumer Disc. -
Other / Landry’s Restaurants Inc (LNY) / $29.25 / 62% / 30% / 2.08 / 5.26%
Consumer Staples / John B Sanfilippo & Son (JBSS) / $18.34 / 12% / 44% / 0.27 / 6.51%

Using the voted alphas of the new stocks, the existing positions in the Fund, and the BARRA Portfolio Manager, we optimized the new portfolio to mirror the benchmark, taking into account risk, return, and transactions costs. The goal of the optimization was to maximize the active return by beating the benchmark while minimizing the active risk (tracking error with respect to the benchmark). We optimized the portfolio using neutral sector weightings. There were no sector tilts due to the conservative investment strategy, helping to minimize the Funds active risk.

The BARRA Portfolio Manager suggested the following trades to optimize the portfolio.

Table 5: BARRA Portfolio Manager Trade List.

Using this proposed BARRA Traded List and Quantitative Screening, we made the following trades:

Table 6: Actual Transactions Completed for the Fund.

Buy/Sell / Name / Ticker / Shares
Bought / New Century Financial Corp / NCEN / 50
Sold / Borders Group / BGP / 100
Sold / ExpressJet / XJT / 200
Sold / Countrywide Financial / CFC / 50
Sold / Sector SPDR Financial / XLF / 50
Sold / New Century Financial Corp / NCEN / 50
Bought / Take Two Inter Software / TTWO / 100
Bought / Sanfilippo John B & Son / JBSS / 50
Bought / Sunrise Assisted Living Inc / SRZ / 50
Bought / Nicor Inc / GAS / 50
Bought / Quanex Corp / NX / 50

The actual trades for the Fund deviated from the proposed BARRA Trade List for the following reasons:

- We liquidated Borders Group and ExpressJet prior to running the Portfolio Optimization; therefore, they were not identified in the Trade List to sell.

- We did not execute some trades because the numbers of shares were too small to have much of an effect on the overall portfolio. For example, we did not sell the prescribed three shares of the Utilities Sector SPDR.

- We took a more conservative approach to trading. We did not purchase LNY and only bought 50 shares of GAS instead of 137 because they did not screen well quantitatively. For example GAS did poorly quantitatively because of momentum.

- We rounded all trades to round lots.

- Taking advantage of catalytic analysis, we held NCEN briefly to realize the gains associated with the recent earnings conference call on 4/17/03. Following the release of the report, we liquidated the position to purchase 50 shares of Quanex Corp (NX).

After completing the trades outlined in Table 6 above, we have the following holdings in the Fund.

Table 7: Current Fund as of close of business 4/17/03.

Overview of Fund Holdings

Mid Cap 400 SPDR

These depository receipts represent ownership in the Mid Cap SPDR, Trust Series 1, a unit investment trust established to accumulate and hold a portfolio of the equity securities that comprise the S&P’s Mid Cap 400 Index. These SPDRs seek investment results that, before expenses, correspond to the price and yield performance of the index. Nonetheless, there is no assurance that the price and yield performance of the benchmark can be fully matched.

Energy Select SPDR Fund and Utilities Select SPDR Fund

These funds make up 2 of the 9 Select Sector SPDR Funds; these investments are exchange-traded securities that represent ownership in any of nine Select Sector SPDR Funds. Each fund is designed to accumulate and hold a portfolio of common stocks, and seeks investment results that, before expenses, parallel the price and yield performance of its respective Select Sector Index. As with the Mid Cap SPDR above, there is no assurance that the price and yield performance of a specific Select Sector Index can be fully matched.

Griffon Corporation

Griffon manufactures and installs garage doors, makes specialty plastic films and advanced information and communications systems, and installs manufactured fireplaces. Griffon’s Clopay subsidiary sells garage doors through retailers such as The Home Depot and Lowe’s. Griffon’s plastic films are used in products such as disposable diapers, adult incontinence products, medical garments, and surgical drapes. Griffon’s Telephonics Corporation subsidiary makes radar and air-traffic control systems. Its U.S. sales account for 80%.

Humana, Inc.

Humana Inc. is a health benefits company that offers coordinated health insurance coverage and related services through a variety of traditional and Internet-based plans for employer groups and government-sponsored programs. In 2001, the Company realigned its management to better reflect its focus on the consumer. As part of this management realignment, it redefined its business into two segments, Commercial and Government. The Commercial segment consists of members enrolled in products marketed to employer groups and individuals, and includes three lines of business: fully insured medical, administrative services only and specialty. The Government segment consists of members enrolled in government-sponsored plans, and includes three lines of business: Medicare+Choice, Medicaid, and Tricare.