Change at the top

There was a hint of wistfulness in his Irish brogue as George Morgan said goodbye to the unitholders of Templeton Growth Fund at the annual meeting in Toronto. He talked about the close-knit Franklin Templeton community in Nassau and how much he and his family would miss it. But he and his wife have two young sons, ages 10 and 12, and decided they would rather have them attend secondary school in Calgary, where they had previously lived for many years. So at the end of September, they’re trading the palm trees of the Bahamas for the spruce trees of Alberta.

In his farewell address, Morgan focused more on the future than on the challenges he has faced since taking over the fund at the beginning of 2001, just as a world-wide bear market was starting to really take hold. At the time, it was the largest mutual fund in Canada with assets of $10.4 billion. Today it has shrunken to less than half that size ($4.8 billion), indicating a stunning loss of confidence on the part of investors and financial advisors. The huge asset decline has meant a drop in revenue of about $60 million a year to the Franklin Templeton organization, which charges a 1.1 per cent maagement fee on the fund’s “A” units.

Perhaps this explains why Morgan received a polite but hardly emotional send-off at the fund’s AGM. The elevation of the plain-taking Lisa Myers to the top job, the first woman ever to hold the manager’s chair, opens what both investors and corporate executives hope will be a new era that will see Templeton Growth regain some of its former glory.

But just how bad have the past five years been? As it turns out, from a performance perspective Morgan did a reasonably good job. The fund’s average annual compound rate of return for the five years to July 31 was only 1.97 per cent but that was about half a point better than the category average of 1.46 per cent and the benchmark index performance of 0.37 per cent in Canadian dollar terms. In fact, with the exception of 2005, the fund was a consistent first or second quartile performer under Morgan’s stewardship. If it hadn’t been for the sudden surge in the value of the Canadian dollar, which cut deeply into returns, Templeton Growth would have been right up there among the top global performers over the period.

Besides the loonie, what went wrong? The bear market! Morgan was a victim of bad timing. He managed to preserve his investors’ capital in 2001, finishing his first full year with only a fractional loss. But 2002 was a disaster. The fund lost more than 20 per cent! Investors, who tend to be older and very conservative, were shocked. No one could remember a one-year loss of that magnitude. I checked the records going back more than 20 years and found nothing that even approached it.

The big drop put a $2 billion dent in the fund’s asset base and investors compounded the woes by bailing out of long-held positions. Although the fund rebounded with a gain of almost 14 per cent in 2003, by then the Canadian stock market was taking off and people were opting to stay close to home. The asset base continued to shrink.

Given this history, no one was surprised when Morgan used his farewell speech to direct people’s attention to what lies ahead rather than what has already happened. He reminded the audience that people tend to want to invest in the wrong things at the wrong time. Resources, emerging markets, and small-cap stocks are yesterday’s stories, he said. His advice: base today’s buying decisions on what you’ll want to own five years from now.

With that in mind, he argued that the commodities boom, which has fuelled the TSX since 2003, is just about over – in fact, he warned of “some kind of calamitous downturn in metals prices”. Also over is the commodity-driven surge in the value of the Canadian dollar. “Our currency may go higher but the worst – or the best, depending on how you look at it – is behind us.”

Placing too high a percentage of your money in Canada right now is dangerous, he suggested, pointing out that financial, materials, and energy stocks account for 79 per cent of the TSX. If there was ever a time for global diversification, this is it. “By and large, global stocks look very attractive in terms of their intrinsic value,” he said.

His successor, Lisa Myers, has been an analyst with Franklin Templeton for the past decade and worked closely with Morgan for much of that time. She promised a seamless transition and a continuation of the value style that is at the core of the fund’s approach to stock picking.

She feels the best buys are currently to be found in the U.S. where stocks have underperformed both Canada and the MSCI World Index since the end of the bear market in late 2002. Specifically, she cited Microsoft (“trading at a deep discount”), Pfizer (“a 20 per cent discount to NAV”), and media stocks such as satellite-provider DirectTV.

Franklin Templeton has a lot riding on her ability to turn around Templeton Growth. It is still the Canadian company’s largest single fund but if it’s ever going to regain its former glory Myers is going to have to outperform the competition by a wide margin. It’s a tall order.