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US Equity Value Fund Portfolio Review: US Equity Value Fund First Quarter 2013 Review and Outlook During the first quarter, the strategy lagged its benchmark, the One result of this positioning has been a portfolio with a higher beta Russell 1000 Value Index, extending a frustrating period of than the general market—a somewhat expected outcome given the underperformance. When you practice a consistent investment nature of cyclical versus defensive companies. But the other result— approach for a long period of time, you will inevitably encounter lagging performance—has been quite surprising to us, because periods in which that philosophy temporarily falls out of favor. After we’ve seen valuations compress in the portfolio, during a period in several quarters of valuation compression, we firmly believe that the which it has delivered substantially better earnings growth than the portfolio offers compelling prospects for capital appreciation going benchmark. forward. The arguable difference between our portfolio and a typical deep- Value investing is defined differently by different investors. value, defensive, low-volatility portfolio is relative profit margins. Traditional, “deep value” investors typically look for heavy price While profit margins across the entire market are up over the past discounts above all else, and factors such as future earnings few years, the cyclical companies have seen the most improvement. prospects and financial quality are far less important in their Clearly, the market is concerned that should a slowdown develop, decision-making. Somewhat in contrast, our approach seeks out high the margins of manufacturers and tech firms are more vulnerable financial quality, reliable business models (e.g., recurring revenue) than those of food or tobacco companies. and substantial free cash flows, in addition to discounted valuation. From a valuation standpoint, we see convincing indications that This approach has led us to focus the portfolio on economically valuations across the portfolio have bottomed. On some metrics, the sensitive companies in recent quarters, as that is where we’ve found portfolio trades at a deeper discount relative to the traditional value the best values, as well as the companies that we believe have the universe than it did during the depths of the crisis in 2009. We best forward-looking prospects. Conversely, defensive sectors— believe that the portfolio’s combination of promising growth specifically consumer staples, health care, and utilities—have not potential and discounted prices can lead to attractive returns over the seemed as attractive to us, in large part due to being bid up course of 2013. substantially by a yield-starved investing public. BROWN ADVISORY US EQUITY VALUE FUND QUARTERLY REPORT Portfolio Review: US Equity Value Fund First Quarter 2013 Sector Diversification vs. Russell 1000 Value • We shifted the portfolio toward consumer discretionary Large-Cap Russell 1000 during the quarter, moving from an underweight to an Value Value Index Difference Large-Cap Value overweight position. The change was driven primarily Sector (%) (%) (%) (%) by bottom-up stock selection, specifically by the Q1’13 Q1’13 Q1’13 Q4’12 Q1’12 identification of two companies with strong fundamentals and what we view as highly depressed Consumer Discretionary 9.22 8.16 1.06 4.63 5.96 valuations relative to fair value. Consumer Staples 0.00 7.40 -7.40 0.95 6.46 • To make room for new consumer holdings, we trimmed approximately 400 bps from our technology Energy 14.89 15.79 -0.90 14.09 14.97 exposure. We are still overweight the sector relative to the benchmark, simply because many tech companies Financials 25.42 27.67 -2.25 23.38 16.98 capture much of what we look for philosophically— Health Care innovation-driven firms with strong free cash flow and 7.91 11.76 -3.85 9.55 10.22 global business reach, all at low multiples. Industrials 13.93 9.09 4.84 15.98 12.96 Surprisingly, large-cap technology has been one of the consistently cheap sectors in the market for most of the Information Technology 19.74 6.69 13.04 23.66 23.36 last several years. • The portfolio’s sector positioning did not otherwise Materials 5.31 3.59 1.71 4.80 5.57 change significantly during the quarter. As of year’s Telecommunication 0.00 3.25 -3.25 0.00 0.00 end, we were overweight industrials and underweight Services telecommunications, consumer staples and utilities. In Utilities 0.00 6.59 -6.59 0.00 0.00 the sectors where we are underweight, such as health care, we believe that the market’s scramble for yield has largely bid stocks above attractive valuation levels. Source: Factset. The portfolio information provided is based on a representative Large-Cap Value account and is provided as supplemental information. Sector diversification includes cash. The benchmark is the Russell 1000 Value Index. Please see disclosure statements at the end of this presentation for additional information. BROWN ADVISORY US EQUITY VALUE FUND QUARTERLY REPORT Portfolio Review: US Equity Value Fund First Quarter 2013 Sector Diversification vs. Russell 1000 Value and S&P 500 Large-Cap Value Russell 1000 Value S&P 500 27.7 25.4 19.7 18.3 15.8 15.9 14.9 13.9 12.5 11.3 11.8 11.0 10.9 10.1 9.2 9.1 8.2 7.4 7.9 6.7 6.6 5.3 3.6 3.4 3.2 3.5 3.0 0.0 0.0 0.0 Energy Utilities Materials Financials Industrials Information Information Consumer Consumer Technology Health Care Health Discretionary Services Consumer Staples Consumer Telecommunication Telecommunication Source: Factset. The portfolio information provided is based on a representative Large-Cap Value account and is provided as supplemental information. Sector diversification includes cash. Please see disclosure statements at the end of this presentation for additional information. BROWN ADVISORY US EQUITY VALUE FUND QUARTERLY REPORT Portfolio Review: US Equity Value Fund First Quarter 2013 Quarterly Attribution Detail by Sector vs. Russell 1000 Value Large-Cap Value Russell 1000 Value Index Attribution Analysis Average Total Return Average Total Return Allocation Selection Interaction Total Effect Sector Weight (%) (%) Weight (%) (%) Effect (%) Effect (%) Effect (%) (%) Consumer Discretionary 7.48 23.81 8.13 12.51 0.01 0.82 -0.09 0.74 Consumer Staples 0.39 2.21 7.24 16.79 -0.28 -0.49 0.41 -0.36 Energy 15.64 12.16 16.02 9.78 -0.01 0.38 -0.07 0.30 Financials 24.72 12.03 27.80 12.10 -0.02 0.02 -0.05 -0.05 Health Care 7.96 14.13 11.61 14.60 -0.08 -0.07 -0.01 -0.16 Industrials 13.03 11.69 9.13 12.50 -0.05 -0.06 -0.00 -0.11 Information Technology 20.71 3.49 6.58 16.81 0.60 -0.83 -1.78 -2.00 Materials 4.78 5.27 3.76 2.96 -0.08 0.08 0.01 0.01 Telecommunication Services 0.00 0.00 3.29 7.50 0.14 0.00 0.00 0.14 Utilities 0.00 0.00 6.43 13.60 -0.07 0.00 0.00 -0.07 Total 100.00 10.08 100.00 12.30 -0.51 -0.17 -1.58 -2.23 Source: Factset. Total portfolio return figures provided above reflect the sum of the returns of the equity holdings in the representative account portfolio due to price movements and dividend payments or other sources of income, and include cash. Performance figures may vary from actual portfolio performance, as calculations are based on end-of-day security prices and do not incorporate the actual cost basis or sale price of individual securities. The portfolio information provided is based on a representative Large-Cap Value account and is provided as supplemental information. Sectors are based on the Global Industry Classification Standard (GICS) classification system. Please see disclosure statements at the end of this presentation for additional information. BROWN ADVISORY US EQUITY VALUE FUND QUARTERLY REPORT Portfolio Review: US Equity Value Fund First Quarter 2013 Quarterly Attribution Detail by Sector vs. S&P 500 Large-Cap Value S&P 500 Index Attribution Analysis Average Total Return Average Total Return Allocation Selection Interaction Total Effect Sector Weight (%) (%) Weight (%) (%) Effect (%) Effect (%) Effect (%) (%) Consumer Discretionary 7.48 23.81 11.19 12.26 -0.04 1.17 -0.44 0.69 Consumer Staples 0.39 2.21 10.75 14.58 -0.38 -0.58 0.52 -0.44 Energy 15.64 12.16 11.10 10.18 -0.04 0.21 0.04 0.22 Financials 24.72 12.03 15.93 11.44 0.06 0.10 0.02 0.18 Health Care 7.96 14.13 12.12 15.71 -0.19 -0.18 0.04 -0.34 Industrials 13.03 11.69 10.21 10.68 -0.01 0.11 0.02 0.12 Information Technology 20.71 3.49 18.73 4.74 -0.13 -0.20 0.02 -0.30 Materials 4.78 5.27 3.54 4.79 -0.06 0.01 0.01 -0.04 Telecommunication Services 0.00 0.00 3.00 9.44 0.03 0.00 0.00 0.03 Utilities 0.00 0.00 3.41 13.02 -0.07 0.00 0.00 -0.07 Total 100.00 10.08 100.00 10.61 -1.42 0.65 0.23 -0.53 Source: Factset. Total portfolio return figures provided above reflect the sum of the returns of the equity holdings in the representative account portfolio due to price movements and dividend payments or other sources of income, and include cash.
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