Stanislaus County Employees Retirement Association

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1 Stanislaus County Employees Retirement Association Quarterly Report 3 rd Quarter 2009 December 9, 2009 Legato Capital Management LLC 433 California Street, 11 th Floor San Francisco, CA Victor L. Hymes Fawad A. Razzaque, CFA

2 Table of Contents I. Legato Capital Management, LLC II. 3 rd Quarter 2009 Market Review III. Small Cap Growth i. Investment Objective Strategy ii. Manager Allocations iii. Total Assets IV. Investment Performance and Characteristics i. Investment Performance ii. Characteristics Appendix A. Compliance and Investment Guidelines Checklist B. Manager Overview C. Market Update Third Quarter 2009 Stanislaus County Employees' Retirement Association 2

3 Legato Capital Management LLC Stanislaus County Employees' Retirement Association 3

Legato Capital Management What We Do le-ga-to adj. & adv.

capabilities to provide expertise in Asset Management and Manager Development Legato Universe of

Development The investment managers we utilize, typically have less than $2 billion in assets

4 Legato Capital Management What We Do le-ga-to adj. & adv. Smooth, connected; without breaks We leverage our extensive manager research and due diligence capabilities to provide expertise in Asset Management and Manager Development Legato Universe of Asset Management Entrepreneurial Manager Research Managers and Due Diligence Manager Development The investment managers we utilize, typically have less than $2 billion in assets under management and invest in large, midsize and small companies, bothinthe the U.S. and abroad Stanislaus County Employees' Retirement Association 4

5 Investment Philosophy h & Process Our Philosophy We believe the greatest stability of alpha can be achieved by combining high conviction managers whose approaches are diversified Stanislaus County Employees' Retirement Association 5

6 Investment Philosophy & Process Our Approach Our manager research process identifies entrepreneurial managers with the greatest potential to deliver the highest risk adjusted returns over the intermediate and long term periods A portfolio of the highest conviction managers is then constructed to meet each client s unique objectives Universe Identification Manager Research Conviction Ranking Construction and Risk Management Stanislaus County Employees' Retirement Association 6

7 Firm Overview Key Investment Professionals Investment Professionals Professionals Victor L. Hymes Lead Manager Oberlin College, BM Stanford University, MBA Years of experience: 25 Adam S. Lawlor, CFA Manager University of Connecticut, BS Chartered Financial Analyst Years of experience: 16 Lieve Mertens, CFA Manager K.U. Leuven, Belgium, MS University of Chicago, MBA Chartered Financial Analyst Years of experience: 19 Fawad A. Razzaque, CFA Manager UET, Pakistan, MS LUMS, Pakistan, MBA Chartered Financial Analyst Years of experience: 10 Soumya Iyer Research hanalyst Birla Institute of Technology & Science, M.Sc. and MMS Years of experience: 6 Stanislaus County Employees' Retirement Association 7

8 Firm Overview Assets by Strategy and Client Type AUM By Strategy ($1,054 MM) AUM By Client Type ($1,054 MM) Large Cap 57% Small Cap 27% SMID Cap 16% Asset Management 43% Manager Development Programs Asset 57% Management Manager 43% Development Programs 57% AUM as of 9/30/2009 Stanislaus County Employees' Retirement Association 8

9 Market Review 3 rd Quarter 2009 The third quarter was marked by the continued rally in the equity markets. Having recovered from this year s March 9 th market bottom, the Dow Jones Industrial Average closed the quarter up 15.82%, and gained 13.49% year-to-date. The S&P 500, which reflects the broader stock market, ended 15.61% higher for the quarter, and up 19.26% year-to-date. The technology heavy NASDAQ composite index is up 34.59% year-to-date. Investors encouraged by the potential end of the recession and less negative economic indicators piled into the riskiest and highly leveraged debt and equity securities searching for higher returns in the low interest rate environment. There were a number of positive indicators signaling the economy is in a recovery phase. The domestic economic environment has improved, with positive change in retail sales, stabilization of the housing markets and strengthening in the manufacturing sector. In addition, low inflation, interest rates and energy prices could continue to support an economic recovery. The Conference Board reported that the Leading Economic Indicators increased for the sixth consecutive month in September, marking over that time period the highest pace since Finally, forecasted growth in emergingmarketsled by the BRIC s countries (Brazil, Russia, India and China) should assist in the rebound of the global economy. While the economy is showing signs of life, it remains relatively weak. Unemployment continues to be the area of greatest concern, having risen to 9.8%, the highest level since See Appendix C for more details Stanislaus County Employees' Retirement Association 9

10 Market Review 3 rd Quarter 2009 Index 3 rd Quarter 2009 Year-to- Date 1-Year 3-Years 5-Years S&P % 19.26% -6.91% -5.43% 1.01% Russell % 22.43% -9.55% -4.57% 2.41% MSCI EAFE (net of dividend withholding tax) 19.47% 28.97% 3.24% -3.60% 6.07% 90-day Treasury Bill 0.04% 0.14% 0.19% 2.35% 2.89% Barclays Capital Aggregate Bond S&P Goldman Sachs Commodity Index 3.74% 5.72% 10.56% 6.41% 5.13% -1.76% 4.68% % % % Source: Standard & Poor s, PSN/Informa, Russell, Barclays Capital, MSCI Barra Stanislaus County Employees' Retirement Association 10

11 Small Cap Growth Investment Objective and Strategy Objective 1) Outperform the Russell 2000 Growth benchmark, net of management fees, over a complete market cycle, and rolling three and five year time periods. 2) Rank in the top 40% of an appropriate peer group of actively managed portfolios. Strategy A manager-of-managers (MOM) portfolio designed to consistently produce alpha, utilizing entrepreneurial managers with complementary styles generally with less than $2 billion in assets under management. Stanislaus County Employees' Retirement Association 11

12 Small Cap Growth Total Assets 3 rd Quarter 2009 Total Assets 9/30/2009 Equities $47,714, Cash & Equivalents $1,001, Total $48,716, % 97.94% Equities Cash & Equivalents Stanislaus County Employees' Retirement Association 12

13 Small Cap Growth Manager Allocations 3 rd Quarter 2009 Manager Target Weight Current Weight Difference Chinook SCG 18.00% 18.00% 0.23% Nicholas SCG 11.75% 12.19% 0.44% Nuveen HydePark SCG 22.00% 21.84% -0.16% Riverbridge SCG 26.00% 25.51% -0.49% Stephens SCG 22.25% 22.22% -0.03% SCG: Small Cap Growth. Target weights revised 6/2009 Stanislaus County Employees' Retirement Association 13

14 Small Cap Growth Investment Performance 3 rd Quarter 2009 The portfolio for the third quarter underperformed the benchmark gross of fees: 14.97% versus 15.95% for the Russell 2000 Growth index, but has outperformed the index since inception 34.78% versus 31.91%. The portfolio lagged the benchmark during July, but outperformed during August and September. All underperformance for the quarter was caused by weak stock selection. With all sectors in the benchmark up significantly during the quarter, Cash & Equivalents had a negative effect on performance. Underweighting Utilities, up only 4.88% for the quarter, and overweighting Integrated Oils, up 4094% 40.94% for the benchmark, were major contributors at the sector level. Security selection in Health Care and Consumer Discretionary were the most significant detractors, while in Producer Durables and Technology it was a contributor. The portfolio is overweight in Technology, Financials and Auto and Transportation and underweight in Consumer Discretionary, Healthcare and Materials and Processing. The portfolio is broadly diversified with over 600 securities. In summary, its weighted average and median market cap are higher than the benchmark; growth rates as measured by EPS Growth LT in line with the benchmark, P/B and P/E are lower and quality, as measured by ROE and Debt/Equity, higher. Stanislaus County Employees' Retirement Association 14

15 Small Cap Growth Investment Performance 3 rd Quarter Returns for Month Ending September 30, Returns (10.00) Last Month Last 3 Months Last 9 Months Since Inception StanCERA - SCG (Gross) Russell 2000 Growth - StanCERA inception date December 22, 2008 Stanislaus County Employees' Retirement Association 15

16 Small Cap Growth Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association 16

17 Small Cap Growth Attribution and Analysis 1,2 3 rd Quarter 2009 Top Contributors Allocation Selection Total Producer Durables Auto & Transportation Bottom Contributors Allocation Selection Total Health Care Consumer Discretionary Thomson/Vestek analysis includes cash & equivalents. 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and reorganizations. Numbers may not add up due to rounding errors. Stanislaus County Employees' Retirement Association 17

18 Small Cap Growth Characteristics 3 rd Quarter 2009 Characteristic StanCERA Legato Small Cap Growth Russell 2000 Growth Index Number of Holdings Cash (percent) Market Cap (million) $1,277 $967 Market Cap Median (million) $808 $408 Dividend Yield Price/Book PE Forecast 12Mth EPS Growth Long Term EPS Growth Historical 5Y Return on Equity Debt/Equity Long Term Source: Thomson/Vestek Stanislaus County Employees' Retirement Association 18

19 Small Cap Growth Characteristics Top 10 Holdings 3 rd Quarter 2009 Company Name StanCERA Legato Small Cap Growth Weight in Russell 2000 Growth Index Contribution to Performance U S DOLLAR 2.06% 0.00% 0.00% PORTFOLIO RECOVERY ASSOC 1.20% 0.16% 0.20% CEPHEID 1.17% 0.18% 0.06% UNITED NAT FOODS INC 102% 1.02% 024% 0.24% -003% 0.03% NEOGEN CORP 1.01% 0.10% 0.01% NATIONAL INSTRS CORP 1.00% 0.00% 0.00% LKQ CORP 1.00% 0.00% 0.00% ALLSCRIPT MISYS HEALTC 1.00% 0.00% 0.00% SEMTECH CORP 0.98% 0.24% 0.02% CYBERSOURCE CORP 0.94% 0.26% 0.02% Total: 11.38% Source: Thomson/Vestek Stanislaus County Employees' Retirement Association 19

20 Small Cap Growth Characteristics Sector Allocation (%) 3 rd Quarter 2009 Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash & Equivalents StanCERA Legato Small llcap Growth Russell ll2000 Growth Weight Source: Thomson/Vestek analysis includes cash & cash equivalents Stanislaus County Employees' Retirement Association 20

21 Appendix A Compliance Checklist and Investment Guidelines Stanislaus County Employees' Retirement Association

22 Compliance Checklist All securities publically traded on established exchange (including NASDAQ) or registered under SEC Rule 144a Holdings of single issuer < 5% of shares outstanding; max weight of 8% of portfolio at time of purchase Market weighted capitalization +/- 33% of Russell 2000 index Market weighted capitalization +/- 33% of Russell 2000 Growth index Foreign denominated stocks < 20% of market value Sector diversification: max. 3 times index weight or 25% at time of purchase and of market value at end of each quarter; GICS Cash < 10% No derivatives Legato hereby certifies that it has conducted a reasonable investigation concerning the matters stated above and that the foregoing information is true to the best of our knowledge, information and belief. Stanislaus County Employees' Retirement Association

23 Appendix B Manager Overview Stanislaus County Employees' Retirement Association

24 Manager Overview 3 rd Quarter 2009 StanCERA Legato Small Cap Growth Monthly Balance (Gross of Fees) For period ending: 9/30/2009 Market Value Month QTD YTD Performance Since Inception* Total Legato $ 48, 716, % 14.97% 31.98% 34.78% Benchmark: Russell 2000 Growth N/A 6.57% 15.95% 29.12% 31.91% Sub-advisors: Chinook Capital Management $ 8, 882, % 14.91% 41.63% 43.61% Nicholas Investment Partners $ 10, 639, % 20.03% 40.18% 44.44% Nuveen HydePark Group $ 5, 940, % 14.91% 25.09% 28.34% RiverbridgePartners $ 12, 429, % 13.55% 28.18% 30.05% Stephens Investment Management Group $ 10, 823, % 14.09% 31.07% 34.11% *Inception: 12/22/2008 Stanislaus County Employees' Retirement Association

25 Manager Overview 3 rd Quarter 2009 StanCERA Legato Small Cap Growth Monthly Balance (Net of Fees) For period ending: 9/30/2009 Market Value Month QTD YTD Performance Since Inception* Total Legato $ 48, 716, % 14.73% 31.18% 33.93% Benchmark: Russell 2000 Growth N/A 6.57% 15.95% 29.12% 31.91% Sub-advisors: Chinook Capital Management $ 8, 882, % 14.66% 40.79% 42.72% Nicholas Investment Partners $ 10, 639, % 19.78% 39.29% 43.48% Nuveen HydePark Group $ 5, 940, % 14.66% 24.33% 27.53% RiverbridgePartners $ 12, 429, % 13.31% 27.39% 29.22% Stephens Investment Management Group $ 10, 823, % 13.85% 30.29% 33.27% *Inception: 12/22/2008 Stanislaus County Employees' Retirement Association

26 Manager Overview 3 rd Quarter 2009 Chinook Capital Management Founded in 1997 Headquartered in Portland, Oregon Firm assets changed from $301 million to $389 million over the quarter Product or strategy assets changed from $176 million to $251 million over the quarter Focused on high quality (ROE > 20%), high growth (sustainable earnings growth > 20%), above average profitability, and reasonably valued companies using fundamental bottom-up research. Combination of core and opportunistic ti growth holdings. Concentrated t in Health Care, Technology and Consumer Discretionary, traditionally the largest Russell 2000 Growth sectors. Benchmark: Russell 2000 Growth Index Investment Team: 3 Total number of employees: 8 No changes to investment team SEC offsite examination phase ongoing with end date November 2009 Stanislaus County Employees' Retirement Association

27 Chinook Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association

28 Manager Overview 3 rd Quarter 2009 Nicholas Investment Partners Founded in 2006 Headquartered in Del Mar, California Firm assets changed from $188 million to $256 million over the quarter Product or strategy assets changed from $36 million to $47 million over the quarter Focused on high growth small cap companies able to sustain strong earnings growth, with catalyst for change, and timely (relative price strength), utilizing blend of quantitative and fundamental lbottom-up research h( (aggressive growth strategy) t Benchmark: Russell 2000 Growth Index Investment Team: 5 Total number of employees: 11 No changes to investment team Stanislaus County Employees' Retirement Association

29 Nicholas Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association

30 Manager Overview 3 rd Quarter 2009 Nuveen HydePark Group Founded in 2001 Headquartered in Chicago, Illinois Firm assets changed from $1.206 billion to $1.316 billion over the quarter Product or strategy assets changed from $17 million to $19 million over the quarter Focused on quantitative enhanced index strategies. Utilized fundamental security valuation combined with quantitative risk controls. Benchmark: Russell 2000 Growth Index Investment Team: 6 Total number of employees: 16 Changes to investment team: James Colon transferred to HydePark from Nuveen Investment Solutions as Vice President, Senior Quantitative Analyst. Stanislaus County Employees' Retirement Association

31 Nuveen HydePark Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association

32 Manager Overview 3 rd Quarter 2009 Riverbridge Partners Founded in 1987 Headquartered in Minneapolis, Minnesota Firm assets changed from $1.19 billion to $1.42 billion over the quarter Product or strategy assets changed from $738 million to $875 million over the quarter Focused on high quality, low debt growth companies that demonstrate the ability to internally finance and sustain earnings growth, regardless of the overall economic conditions, using fundamental lbottom-up research (conservative growth strategy) t Benchmark: Russell 2000 Growth Index Investment Team: 4 Total number of employees: 20 No changes in investment team In September 2009, Riverbridge was audited by the SEC. They have not yet received communication from them at this time. Stanislaus County Employees' Retirement Association

33 Riverbridge Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association

34 Manager Overview 3 rd Quarter 2009 Stephens Investment Management Group Founded in 2005 Headquartered in Houston, Texas Firm assets changed from $454 million to $524 million over the quarter Product or strategy assets changed from $423 million to $493 million over the quarter Focused on profitable pure growth strategy using fundamental bottom-up research. Combination of core and opportunistic growth companies. Benchmark: Russell 2000 Growth Index Investment Team: 5 Total number of employees: 15 No changes to investment team Changes to organization: Stephen s CFO, Bob Lanford, retired in September No plans for replacement. Stanislaus County Employees' Retirement Association

35 Stephens Attribution and Analysis 1,2 3 rd Quarter 2009 Sector Name Average Weight Return Contribution Average Benchmark Weight Benchmark Return Benchmark Contribution Allocation Select Total Total Technology Health Care Consumer Discretionary Consumer Staples Integrated Oils Other Energy Materials & Processing Producer Durables Auto & Transportation Financial Services Utilities Other Cash &Equivalents Thomson/Vestek analysis includes cash & cash equivalents 2 Legato returns (from our GIPS compliant performance system) differs from Thomson/Vestek s returns (from our attribution system) due to various factors. Among these are the way they treat large portfolio flows and corporate actions. Numbers may not add up due to rounding errors. Benchmark is Russell 2000 Growth index Stanislaus County Employees' Retirement Association

36 Appendix C Market Update Third Quarter 2009 Stanislaus County Employees' Retirement Association

Large Cap Value Dividend Select: Performance & Commentary

Large Cap Value Dividend Select: Performance & Commentary PERFORMANCE SUMMARY The strategy returned -10.59% before fees in the fourth quarter, outperforming the Russell 1000 Value Index s return of -11.72%.