21 January 2019
By John Husselbee, co-fund manager HC Verbatim Portfolio Growth Funds
If anyone ever asks where a well-known quote comes from, answering Shakespeare or the Bible will be right a decent amount of the time.
The quote ‘a leopard never changes its spots’ can be found in the latter, attributed to the Hebrew prophet Jeremiah on failing to persuade an evil shepherdess to change her ways.
Our subject here is fund managers rather than evil shepherdesses, and we believe that in this particular field, obstinacy can be a major virtue: we are seeking investment leopards as it were.
One of the key tenets behind our multi-asset proposition is that when analysing and selecting fund managers, consistency of performance over every time period is all but impossible; consistency of process however is an absolute necessity.
Diversification is a key part of our approach and that applies to manager style as much as it does to asset class or geography: just as we want to combine assets that perform in different conditions, we look to populate our portfolios with a range of managers on the same basis. At the core, this comes down to the usual value versus growth/quality question but there can be considerable variations when you consider market cap and geography.
So how do we go about finding these fund management leopards? We blend art and science in our process, with the quantitative side focusing on areas such as return-based style analysis to understand how funds are likely to behave in certain market conditions.
Time is another consideration and we feel it is important to ignore short-term numbers when investing in active managers for the long term. To bear this out, we analysed top-quartile funds in the IA’s UK All Companies sector over ten years for example to see how they performed against the FTSE All-Share over rolling one, three, five and seven-year periods within that decade.
All the funds beat the index over seven-year periods and the vast majority over five-year, but as the timeframe gets shorter, performance is less consistent. In one-year rolling periods over the decade, 30% of returns from the strongest funds over ten years lag the All-Share.
All this work typically gives us a shortlist of funds and managers and we have devised the SPURS system – namely Stamina, Process, Understanding, Resoluteness and Stimulus – to highlight what we look for on the qualitative side.
Ultimately, we favour patient, long-term investors from a similar mould to ourselves and prize those who can point to endurance and experience. We prefer our managers to have run money against a variety of different backgrounds – anyone starting in equities over the last decade for example has seen nothing but bull markets – and that automatically skews us towards those with the odd grey hair or two.
Keeping faith in a particular style can also involve an element of career risk – we saw many value managers dismissed as dinosaurs amid the tech bubble for example – so again, leopards are often to be found among veteran investors whose style is ingrained and will not change however the market behaves.
Within our portfolios, a good example of a couple of leopards on the UK equity side are Nick Train, who runs Lindsell Train UK Equity, and Fidelity Special Situations manager Alex Wright.
Train is a classic quality growth manager who rarely adds new stocks to his portfolio – Manchester United was a recent purchase – while Wright is from the Fidelity contrarian value school, following in the footsteps of long-term Special Situations manager Anthony Bolton.
When analysing Train, we find a manager whose success has clearly been dependent on maintaining a buy and hold discipline, looking to find great brands and then letting them compound over time. His near £6bn UK Equity Fund has just 20 holdings and while such a strategy can be vulnerable to shifts in market sentiment, we are confident Train will never veer from his tried and tested approach.
Similar discipline is clear in Wright’s approach, with the manager looking to find stocks unloved by the rest of the market and therefore trading at discounted valuations. This can mean periods where the fund can lag but over time, if done well, such a philosophy can improve the balance of risk and reward by limiting downside and maximising potential upside.
Again, with contrarianism baked into Wright’s philosophy, we are confident the fund will maintain its style bias whatever the market conditions.
Both funds fulfil very clear roles within our portfolios and any fluctuation away from the stated style would be a much clearer sell signal for us than short-term performance-related issues.
We added value exposure across our range earlier this year for example, taking advantage of attractive valuations in line with a historically wide disparity between growth and value. While that call has yet to pay off for our portfolios in performance terms, we would certainly not want the funds we added to change tack and start chasing after growth.
If diversification is to work properly, all the underlying components need to maintain their style integrity; otherwise we will most likely find an alternative that can.
The value of investments and any income from them can go down as well as up and is not guaranteed. Your clients could get back less than they originally invested. Past performance is not a guide to future performance. The portfolios' investments are subject to normal fluctuations and other risks inherent when investing in securities. Verbatim Asset Management has taken due care and attention in preparing this document, which is solely for the use of professional advisers. Verbatim cannot be held responsible for any inaccuracies arising out of information detailed within and will not accept liability for any loss arising out of or in connection with its use. This article is for information only and should not be deemed as advice.