“Builders of greatness reject the ‘Tyranny of the OR’ and embrace the ‘Genius of the AND,’” wrote Jim Collins and Jerry Porras in their book, Built to Last.
This philosophy resonates deeply with us.
Active and passive investing. Quantitative and fundamental analysis. Concentrated and diversified portfolios. Developed and emerging markets. Although seemingly paradoxical, we embrace them all. As a result, our investment process and strategies tend to look different.
By developing and managing these strategies with a “both/and” mindset, we believe we’re able to offer clients more creative and attractive ways to invest in international equity markets.
Our differentiated approach underpins our small- and mid-cap international, global, and emerging markets strategies and funds. By developing and managing our strategies with a “both/and” mindset, we believe we’re able to offer clients more creative and attractive ways to invest in small- and mid-cap equity markets. Creative in that we challenge the conventional wisdom of our peers and attractive in that we seek to deliver long-term appreciation and above-average returns for our clients.
We launched AZTLAN in 2016 with a single strategy—an actively managed, concentrated emerging markets small- and mid-cap SMA. Over the years, we’ve expanded our offerings to include international developed and frontier markets SMAs. The most unique aspect of our approach, however, is its manifestation as an exchange-traded fund (ETF).
Launched in 2022, our Global Stock Selection Developed Market SMID ETF (AZTD) implements the same proven stock selection methodology we utilize for our actively managed strategies within a rules-based environment. Our decision to offer an ETF structure was triggered by conversations with several family offices in Mexico who expressed the need for a more efficient way to access global small- and mid-cap equity markets. Because of local regulations, they were restricted to only a few investment options in this space. AZTD proved to be exactly what they needed and served as a catalyst for the launch of the North American Nearshoring Stock Selection ETF (NRSH) in 2023. Both ETFs represent active strategies within passive frameworks.
Many international equity investors rely heavily on top-down analysis. GDP, international trade balances, political landscape, monetary policy, and other macroeconomic factors predominantly guide their stock selection. Meanwhile, bottom-up analysis of individual securities plays only a supporting role. What top-down analysis often fails to identify, however, are the companies that, because of strong business fundamentals, can perform well despite sector or macroeconomic headwinds.
We believe there is a better way to approach international investing, one that incorporates top-down and bottom-up analysis with quantitative and fundamental research and left-brain and right-brain thinking. Small- and mid-cap equity markets in particular—generally underfollowed and under-researched by the investment community—lend themselves to this approach, which is why we developed our own unique method of analyzing and identifying opportunities in this space.
Our research process begins with a rigorous quantitative screening of our expansive investment universe. We then perform in-depth fundamental research on the companies that have cleared the initial screening process, scrutinizing six fundamental factors: free cash flow, return on equity, earnings growth, earnings revisions, valuation, and momentum. Based on this evaluation, we assign each a multi-factor score. The highest-scoring companies are then creatively combined in our concentrated portfolios, resulting in differentiated investment strategies that generate alpha uncorrelated with other investments.
Investors seeking exposure to small- and mid-cap equities cast their nets into a sea of thousands of stocks. In the U.S., 2,500 small- and mid-cap companies are included in the aptly named Russell 2500 Index while, on a global scale, the MSCI World SMID Cap Index encompasses 5,025 companies. Although mutual funds and ETFs both offer exposure to and diversification across these markets, we believe the best way to deliver market-beating returns is through active stock picking and a concentrated strategy.
We believe the best way to deliver market-beating returns is through active stock picking and a concentrated strategy.
Our rules-based investment approach allows us to narrow the broad universe of small- and mid-cap companies to what we believe are the very best businesses without sacrificing diversity. This methodology is exemplified in AZTD, a strategically curated ETF that invests in 27 companies. Here’s what it looks like.
AZTD and the index it tracks have an investible universe of 4,000 names. We divide this universe into three major regions (North America, Western Europe, and developed Asia) then categorize the companies within each region according to the sector in which they operate. These include communication services, consumer discretionary, consumer staples, financials, health care, industrials, information technology, materials, and utilities. Businesses that are excluded include those that operate in high-volatility sectors such as energy and real estate, as well as biotechnology firms, none of which are conducive to a concentrated strategy.
We further refine our focus by assessing several key fundamental factors (discussed earlier in this blog post) for each company. The top scorers within the three regions and nine sectors add up to 27 stocks, all of which are equally weighted in the portfolio. This carefully curated selection enables us to strike a balance between concentration and diversification.
Small- and mid-cap stocks in international developed and emerging markets are under-researched and under-owned by investors. However, we believe the opportunity set in these markets is significant.
According to Morningstar, small- and mid-cap stocks are trading at valuations not seen in more than a decade. And while certainly a compelling reason to invest in these companies, it’s not the only reason. International developed and emerging markets small- and mid-cap stocks provide exposure to economies and industries that typically experience faster growth rates than those in domestic markets. Through selective investments in small- and mid-cap within these economies, investors may be able to directly participate in the growth trajectories of dynamic industries and regions.
We’ve only scratched the surface in terms of why small- and mid-cap stocks in these markets deserve greater representation in investors’ portfolios. For a deeper dive, we invite you to read our blog post Why Invest in International Small- and Mid-Cap Equities. Here, however, we offer one key thought: Active management and expertise in these complex markets can make the difference between mediocre returns and exceptional ones.
Embracing a "both/and" mindset enables us to think more broadly and creatively about where and how to invest for our clients. In a world of binary choices, we choose synthesis—the synthesis of active and passive investing, quantitative and fundamental analysis, concentrated and diversified portfolios, and developed and emerging markets.