Q:  What is the history of the fund and what are the underpinnings of your long and short strategy? A : Our team within Neuberger Berman, the Kantor Group, manages over $2 billion for high-net-worth individuals and institutions, including over $1 billion in assets in the long-short mutual fund. We have a team of eight people in the Kantor Group that helps manage this fund. The fund was launched at the end of December 2011 and the institutional share class (NLSIX) returned 12.4% net of fees in 2012 compared with 16% for the S&P 500 index. In our worst month last year, May 2012, we were down 66 basis points. By contrast, the S&P 500 index was down 6.01% in May 2012. In the first half of 2013, the fund has returned 5.82% net of fees compared to 13.82% in the S&P 500 index. We are in an environment where clients are looking for solutions, especially against a very low-interest rate environment. They are willing to trade off some opportunity for gain for increased stability of returns. We run a fundamentally driven long-short strategy. Fundamental to us means meeting companies, analyzing income statements and balance sheets, understanding how companies are going to grow and more importantly, understanding the risks they are taking to grow their business. In our investment disposition, we are historically long-biased. We have generally run net long on a beta-adjusted basis between 30% and 60%. We have run the strategy with a beta of about 0.4 and with approximately half the standard deviation of the market. Where we own fixed income it is for the same reasons we would own any other security -- to seek a reasonable risk adjusted return. There is generally minimal issuer overlap between the underlying bonds and stocks that we own. Bottom line, we believe the asset management industry is at the very early stages of creating strategies that are designed to produce reasonable risk-adjusted returns that go beyond simply allocating between long-only fixed-income or equity strategies. Q:  What is your investment philosophy? A : At my previous firm as a management consultant, I learned to appreciate the principles of measuring economic value, which dictate that not all earnings are the same. Specifically, earnings that are more capital intensive are worth less than those that are less capital intensive. We believe in economic profit more so than in the price to earnings multiple as the arbiter of value. Capital structure is a choice and has implications. And we believe incentive compensation matters – to understand how you are going to behave you need to understand how people are compensated. As fundamental analysts, our role is to defend whether our understanding of the industry, of the company, and of management’s strategy, is reasonable. Is it fair to believe that the markets under-appreciate the duration of the assets, the company’s long-term competitive advantage, the longevity of the re-investment opportunity? Does our knowledge lead us to be confident in the investment thesis implied on the long side in terms of current market expectations? And ultimately, stock picking is really about understanding the company’s ability to generate future cash flow growth relative to what is already implied by the current price of the security. For instance, when we go long a security, we believe the market is under appreciating the company’s future growth prospects. Ultimately, every single publicly traded security has future earnings expectations that are built into the stock and we attempt to develop a differentiated view versus these expectations before it finds a place in our portfolio. I come from a high-net-worth asset management background. I have been at the firm for 13 years. The typical experience of high net worth money managers is all about growing and protecting capital. It is not a relative investing approach. It is a very absolute return-minded approach. Cash is always viewed as a security when we are running money for individuals, because when we go from cash to a stock or bond we are going from certainty to less certainty. We get paid for understanding the risk of managing something with characteristics that are very different than cash. Q:  How is absolute return based investing different? A : The mindset about growing and protecting capital, the absolute return mindset, has been helpful in shaping investment thinking that drives the strategy. A relative investor wakes up every morning and runs an analysis on sectors in the market, the largest companies in the market, and then places bets over or under against those weightings. We wake up every morning trying to find individual securities that we believe will meet our risk and reward criteria, regardless of whether they are large companies or not, or regardless of whether they are in an index or not, regardless of whether it creates dispersion. Q:  What investment framework drives your long decisions? A : On the long side of the book, we generally invest in what we call three broadly defined buckets: capital growth, total return, and opportunistic. The capital growth bucket includes companies that are generally what we describe as income statement-constrained. All the investing is taking place through the income statement, in things such as brand building, people, research and development, and marketing. This bucket is also defined as believable growth. Is there something about this company that allows management to grow revenue within the constraints of the challenged growth environment that we see today? As companies in this bucket grow, do they produce more cash flow? Do these companies invest their cash flows at rates of return that are greater than their cost of capital? A believable growth company for example is Visa Inc. We are still early in the migration from cash as a payment vehicle to plastic. In the developing world, well over 80% of all transactions take place in the form of cash, not plastic. Visa is an asset-light, global business and we believe revenues should grow at least 10% without the need to take on credit risk. Every time money is spent using Visa cards, they collect a small piece of the purchase that varies depending on the lending model. We believe that earnings that are generated without credit risk are much more valuable than earnings that are generated with credit risk. Dunkin Brands Group Inc., is another example of a believable growth company with its asset-light, franchisee model. Dunkin’s growth relies on utilizing other people’s capital (i.e., their franchisees) and over the coming years, they have the ability to dramatically expand their U.S. footprint west of the Mississippi river. We believe Dunkin franchisees can earn a four-year payback with a 25% cash return. Those are unlevered returns and as such a very attractive proposition for the capital market. Dunkin’s growth is a function of the number of stores that are opened on other people’s capital and the productivity of the existing store base, which depends upon enhancements they may make to the menu or technology infrastructure. We love those types of models, which provide valuable and relatively stable earnings streams. Bucket two would be what we call total return. This would include a fixed income allocation and equity securities that we believe can produce a stable and growing stream of income. For instance, we tend to invest a lot of capital in the utility sector. These are industries or businesses that we own that have had very stable returns on equity. The stability of the return on equity profile may come from the nature of the regulated business, where regulators have to encourage a minimum expected return to spur infrastructure investment. An example of a business we own in this bucket is Brookfield Infrastructure Partners, a global infrastructure company that owns transmissions assets, toll roads, mid-continent pipelines, railroads, and coal terminals. Over 80% of their cash flows are regulated or contracted on a long term basis. The investment currently pays a dividend yield of more than 4.5% and the company has a stated objective that the assets, without financial engineering, can support 3% to 7% annual distribution growth. The third and smallest bucket is opportunistic. We are looking for “hidden asset value” which may be the result of under-appreciated profits or prospective returns on invested capital. One such example is Delta Airlines. We have seen an airline industry change dramatically over the years and there’s now pricing power (driven by consolidation), favorable labor agreements (for both shareholders and employees), and management teams that are interested in prudently running their capital in a way that provides higher returns on invested capital. Ultimately, we believe that this backdrop should encourage better returns on capital given that today’s airline executives appear focused on improving the returns of the existing fleet and making disciplined capital allocation decisions. Q:  What is the foundation of your short decisions? A : In an uncertain environment, shorting is a good tool to seek increase returns but it can also be used in an effort to reduce overall exposure and therefore, portfolio risk. We can short individual securities or our market shorts may focus on specific sectors, market capitalizations or geographic regions. Generally, we believe that the thesis for a fundamental, individual equity short must be differentiated versus market expectations as shorts have unlimited loss potential. We also prefer that shorts have a catalyst where the market will come to realize our short thesis is correct (usually an earnings miss). Our differentiated view on shorts may be derived from numerous sources including industry expert information when team analysts attend conferences or proprietary modeling of company forecasts after meeting with company management teams. Q:  What flexibility you have on the leverage? A : We have the flexibility to utilize leverage. This would refer to whether our longs plus our shorts are greater than 100%. To date, we have generally not run the fund with leverage but we have the flexibility to run it up to 160% gross assets. What we have achieved so far has generally been done without leverage and we do not feel it is a requirement to achieve our investment objectives. Q:  What is your research process and how do you look for opportunities? A : There are six investment professionals on this team. Their responsibilities are broken down on a sector basis. I am responsible for the entire portfolio and they are responsible for the individual sectors and the individual companies in the sectors that make it into the portfolio. Today, less than 15% of the fund’s assets are in fixed income securities and we can invest between zero and 30% in bonds. We want folks to think about our strategy as an equity-biased strategy. We own fixed income when we believe we can make a reasonable risk adjusted return. The fixed income we own today is actually very different than the fixed income we owned coming out of the credit crisis in 2008 and 2009. There, we owned investment grade non-financial bonds. We like to say, “If you smoked it, drank it, watched it, used it, then we probably owned it,” because that was a much safer way to make, what we thought, was a reasonable “equity-like” return while being at the top of the capital structure. Consistent with our view that risk assets currently appear attractive, and risk assets for us are equities and high yield bonds, we think about safe assets as being treasuries and investment grade bonds. The fixed income we own today is all in high yield bonds. We typically do not own bonds that are CCC-rated or below at initial cost.  Another common characteristic related to our fixed income holdings is that because of liquidity, and because of how important it is to be able to run the strategy in a daily liquid form, we tend to not buy a bond issue of less than $300 million – regardless of the health of the underlying balance sheet of that issuer. It would be unlikely for us to own both the bond and the stock of the same company. We will not short single name fixed income securities. It is not part of what we are going to do in the strategy, although we do have the flexibility to short treasury futures, either for risk management purposes against our total return equity names or because we think we have a view on where rates are headed. We have reduced our fixed income long exposure, which is predominantly in high yield, from earlier in the year. A more constructive view would be dependent upon our ongoing credit analyses and whether the income levels are appropriate for the default risk that we perceive. It is not an interest rate bet. Q:  How do you build your portfolio? A : Our process results in a diversified portfolio of securities. The construction is largely an output of position sizing. A core long position tends to be about 1.0% to 2%, inclusive of both equity and fixed income securities, while we tend to size our shorts at less than 1%, partly due to risk management where we are cognizant of the fact that when you are wrong on a short, it gets to be a bigger position within the portfolio. Generally our portfolio has at least 100 securities, when you add it all together. This is not a long-short strategy where our 10 longs make up the majority of our long book and our 10 shorts make up the majority of our short book. When you put it all together, we arrive at a final portfolio that tends to be long-biased and equity-biased.  Q:  How do you define and manage risk? A : The difference between running a long only strategy and running a long-short strategy is not only do we have to get security selection right; we also have to get exposures right at the correct time. Specifically, risk management for us, because we are fundamental investors, definitely starts with knowing our companies. Then an overlay would be to know our environment. What drives our view of the environment are two very simple things: the direction of credit spreads and the amount of stock price volatility. When we observe that spreads are widening or there is increased equity market volatility, we’d be more likely to reduce risk, which typically involves bringing down gross and/or net exposure. The gross exposure is a key metric we manage from a risk management perspective, because those are the total dollars that we have facing the market. That is the total opportunity to lose money because the longs can go down and the shorts can go up, and that is what typically hurts long short strategies. It is what is called basis risk. We are trying to fight basis risk every day. How we can mitigate basis risk and how we can mitigate draw down is by having less total dollars in the market. That said, we know our companies and then layer in portfolio construction – having an understanding of where our long and short exposures are on a sector, market capitalization, style and asset class bases. But ultimately risk management is about the total dollars we have facing the market and being sensitive to the changing winds that we see in the marketplace.