Top Analyst Says AMG, Old Mutual and Legg Mason are Undervalued

Earnings season for besieged asset managers has begun, and the picture may not be pretty, as active money managers continue to stanch the bloodbath of assets flowing into passive managers. But one widely-followed industry analyst says there may be bargains among asset management stocks, if you know where to look.

“Investors are penalizing firms they perceive to be complex,” says Robert Lee, asset management analyst at boutique investment bank Keefe, Bruyette & Woods. “But that’s where we believe the value is.”

Among this group, Lee gives Affiliated Mangers Group, Old Mutual Asset Management and Legg Mason top marks for value. Lee thinks the low valuations of each of these stocks is unwarranted and that investors may be underestimating either the prospects for organic growth in 2017 or how fast earnings may grow, given a spate of acquisitions. Among other acquisitions last year, AMG acquired minority equity interests in five alternative investment firms, including Winton Capital Group and CapeView Capital. Legg Mason and Old Mutual also made acquisitions of alternative investment firms in 2016.

Lee says investors think the business models of these three firms are too complex. AMG, Old Mutual and Legg Mason all own stakes in multiple underlying investment managers, using what’s called an affiliate model. While the three firms differ in their approach, each provides support, including distribution, to its affiliates and receives a share of revenues or profits. Lee says these types of models can add a layer of complexity that investors wouldn’t find at a more straightforward manager like T. Rowe Price.

But the KBW analyst stressed that while complexity is a big contributing factor to AMG, OMAM and LM being undervalued, it is not the only one. All three firms are active managers, a group that continues to feel pressure from the popularity of cheaper index funds.

“AMG, OMAM and Legg still have to demonstrate that they can grow their business,” says Lee. He adds that alternative managers such as KKR and Oaktree Group also suffer from the complexity story.

Overall, Lee says the stocks of asset managers have rebounded a bit after the election, but he expects that many managers will still report weak flows. He says the picture for flows may improve in the first quarter of 2017 if active equity performance also picks up, which is likely given the volatility of the markets. Active managers often do better in markets that fluctuate, giving them better chances of picking outperforming stocks.