Money Men

January 07, 2014

**PNC is among the largest banks in the United States** and is best known in financial circles for its investment management businesses, including services for corporations and high-net-worth individuals. But its large-cap funds — those investing in the largest of U.S. companies — had become a weak link in PNC's investment lineup. In 2002, PNC hired Douglas Roman, M.S. '92, CFA, a successful analyst whose investments consistently outperformed the market, to turn it around. And that he did, growing the business from three or four accounts with far less than $20 million to nearly 4,000 accounts and $3.5 billion under management.

The PNC Large Cap Core Fund and the PNC Large Cap Growth Fund both finished 2011 in the top 20 percent of their respective fund categories. The funds’ two-year performance rankings were equally impressive, as the Core Fund ranked in the 7th percentile of its peer group (1,029 Large-Cap Core Funds) and the Growth Fund ranked in the 14th percentile of funds in its category (756 Large-Cap Growth Funds).

In other words, the Philadelphia-based Advantage Equity Team’s primary (core) fund not only outperformed the overall stock market, but also generated higher returns than over 90 percent of its competitors over the past two years.

Roman attributes the funds’ successes to a lesson he learned early on: “You’re not going to beat the market by just having the amalgamation of ideas and being smarter than the market. It’s not a matter of knowing more than anyone else, or having better ideas about a certain company. It’s not about information. It’s about having a disciplined process that creates a portfolio that creates characteristics that outperform.”

Roman’s process is centered around a quantitative model that he started to develop when he was at Rittenhouse Investments serving as its vice president of research.

“We believe earnings drive stock prices. Therefore, we focus on companies that we think will exceed consensus earnings estimates. That model has helped us avoid disappointments. In any given quarter, we experience half as many disappointments and many more earnings surprises than does the broad market.”

Roman credits his team’s success not only to the process but to the analysts who have embraced and improved it. Of the 11 analysts on the team, four of them, including Roman, are LeBow alumni: Mark Batty ’84, M.S. ’89, CFA, is the co-portfolio manager managing the financial services and sustainability sectors.

Getting emotionally invested in a company is a mistake even a seasoned analyst can often make.

Joe Jordon ’78, CFA, manages the consumer staples and media and telecommunications sectors. Michael Coleman ‘12, a former co-op who was LeBow’s valedictorian with a 4.0 GPA, was hired last year as an investment research associate.

“As a co-op, Mike was outstanding,” Roman says. “He knew what we were looking for. We gave him the opportunity to select stocks based on our criteria. As a co-op you take what you want from your position, and he truly excelled. We made an effort to bring him on the team since we thought he was exceptional.”

While Coleman and Batty were both hired by Roman, Jordan had been a longstanding analyst with PNC before Roman came on board. He is a fan of Roman’s process.

“We were an old-fashioned equity research department before Doug arrived,” he says. “Analysts were hired to learn their industry and rate their stocks: buy, hold or sell. They had their personal biases. The new process took time, but as an analyst it actually makes my job easier. Once you understand the process and the metrics — you just lift up the hood and find out what drives the stock price.”

Getting emotionally invested in a company is a mistake even a seasoned analyst can often make, Roman says. “You have to look at the negative effects of behavioral finance. You don’t want to fall in love with a company. What tends to happen is that analysts want their stock to win; they root for it. That really distorts any analytical ability. Having rules established negates the effects of behavioral finance.”

While the investment strategy has worked well for the decade that Roman has been at PNC, there have been times it has faltered. In 2009, there was a junk rally when stocks that were poor performers excelled. Roman’s quantitative model wasn’t working, and it was a tough time on relative performance.

“We stuck to our process,” Roman says. “If you change in times of pain, then you lose your credibility with your clientele and your investment officers. There is a gut reaction to modify what you’ve been doing, but that’s when you separate the men from the boys. We stuck to the process, and the style comes back. We gained a tremendous amount of respect from consultants who saw that we didn’t deviate. We are transparent about our process. If we are underperforming we want our clients to understand why that is. Our business actually picked up after that.”

While Roman says that the quantitative model can be tweaked, he cautions against any changes when “you’re in the most pain. We are always looking at our model and seeing if any factors aren’t working before modifying. But the key variable for us is earnings. We’re always focused on that. If our companies earn more than expected, we avoid disappointments.”