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James Mehling

Mainstay Institutional Multi-Asset Fund

Quantitative investors have fewer concerns about mood swings than those who make their own judgement calls, according to James Mehling, manager of the MainStay Institutional Multi-Asset Fund.

"The computer model protects asset allocation decisions from the vagaries of an individual manager's input," he says. "If a manager has a lousy weekend, he or she may be down on the stock market Monday morning. If we're down on the stock market, that feeling is based purely on the numbers."

Despite being an avowed "quant"-an investor who favors number-driven strategies over fundamental stock analysis-- Mehling admits he's been tempted to stray from the numbers and "go with his gut" from time to time. "Sometimes, it's extraordinarily difficult to grit your teeth and implement what the computer model tells you to instead of acting on your personal feelings," he says. "But usually, the computer is right."

The fund's track record seems to confirm that assessment. As of September 30, Mainstay Institutional Multi-Asset Fund ranked among the top six percent of asset allocation funds for five-year performance, according to Morningstar. Its three-year average annual return put it among the top two percent of funds in its category.

Mainstay's asset allocation strategies rely on computer models designed to pinpoint the relative attractiveness of stocks, bonds, and money market securities. Mehling uses historical econometric and market data to forecast the expected rate of return for various asset classes.

He then puts less money into asset classes he expects will underperform, and more into those he thinks will do well. The mix is re-set once a month to adjust to changing market conditions. He uses applicable market indices, rather than individual securities, to implement his allocation strategies.

The fund has made some major shifts in 1998. At the beginning of the year, it held about 60 percent of its assets in US stocks, 20 percent in foreign stocks, 10 percent in bonds, and 10 percent in cash. By July, just before the stock market tumbled, it had significantly decreased its allocation to stocks.

Recently, Mehling held 32 percent of the portfolio in US stocks, 16 percent in international stocks, 26 percent in US bonds and 26 percent in money market securities. Those allocations represent a dramatic shift away from US stocks since the beginning of the year, and a move toward money market securities and bonds.

While the relatively small allocation toward US stocks points to a lack of enthusiasm about that asset class, the fact that money market securities and bonds are divided roughly equally is also telling. With money market and bond yields so similar, says Mehling, investors have little incentive to assume the volatility and risks associated with the bond market.

"What the computer model is saying," says Mehling, "is that neither the stock or bond markets look particularly attractive right now."

Mehling's approach to quantitative investing and things numerical seem natural, given his background as an aviation engineer. After graduating from college with a bachelor's degree in science, he worked first as a pilot, and later sold airplanes.

"In aviation, you want to be accurate to the ninth decimal point to make sure that the airplanes take off and land in one piece," he says. "In quantitative management that much detail can make things unnecessarily complex because the market doesn't have that degree of precision. That's why real-world experience is needed to understand how much technology can be implemented, and how much is just interesting."

Mehling began getting his real-world experience twenty-two years ago, after a Merrill Lynch executive to whom he'd sold an airplane offered him a job as a retail broker. While that position required less travel, providing him with the opportunity to spend more time with his family, he discovered that he "wasn't cut out for dealing with clients at the retail level."

He transferred to the firm's bond trading department, where he could put his math background to better use. In 1980, he became one of the first people to use a computer to craft arbitrage strategies, using an early clunker he purchased from a local Radio Shack.

Tired of the chaotic atmosphere on the bond trading floor, he decided to become an investment manager at around age 40. With his technical background, quantitative management seemed the best fit. "I've never had a clue about how to pick an individual stock," he says. "What I known how to do is to put together a portfolio of securities based on quantitative factors."

Personal

Name: James Mehling

Born: Madison, WI, June 25, 1949

Education: Bachelor's degree, Western Michigan University

Professional experience: Retail broker, bond trader, Merrill Lynch; senior vice-president, County NatWest Government Securities; derivatives specialist, New York Life Insurance Co. ; president and chief investment officer of Monitor Capital Management, sub-advisor to the MainStay Institutional Multi-Asset Fund.

Interests: Building, maintaining, and flying small airplanes.

The Fund

Name: MainStay Institutional Multi-Asset

Assets: $481 million

Top five holdings: Microsoft, General Electric, Exxon, Merck, Coca-Cola

Purchase information: Available only through financial advisors or participating 401(k) plans.

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