Equity Panel (December 2008) - World of choice

David Sheasby, investment director, global equities, Martin Currie Investment Management
Sheasby is a director within Martin Currie’s successful global equities team in Edinburgh. The team manages £2.1bn in global and global ex-US portfolios, which represents the fastest growing area of Martin Currie’s business. Before joining Martin Currie in 2004, Sheasby spent 18 years with Aegon Asset Management, during which he headed their European, emerging markets and global equities teams.

Stephen Holt, head of UK institutional sales, Principal Global Investors
Holt qualified as an actuary while working at Hymans Robertson in Glasgow, and has held senior investment sales positions at Barclays Global Investors, Threadneedle and Santander. He joined Principal Global Investors in 2006 to spearhead the $200bn (£100bn) US asset manager’s entry into the UK institutional marketplace.

Alistair Wilson, head of institutional business, Neptune Investment Management
Wilson joined Neptune in 2005 from Legal & General Investment Management where, from 2001, he was a business development manager in the corporate pensions department. During that time he was responsible for promoting LGIM’s funds to corporate pension schemes through a variety of investment consultants. Prior to this Wilson was a client account manager at LGIM.


With an increasing choice of global equity strategies offered by today’s fund managers, how do trustees realistically go about selecting the right one for them?

Sheasby: Global equity mandates are being awarded to managers with the resources and skills to take advantage of such a broad remit. It is an enduring myth that large asset managers with extensive networks of international offices are best placed to run global equity portfolios. Very large teams often have difficulty communicating, and often make investment decisions based on a weak consensus view.
While it is important an investment team is deeply resourced, it also needs experienced decision makers who can communicate effectively and ensure the best ideas get into clients’ portfolios. And with fund manager turnover at record levels, having a stable business structure is a real advantage.
At Martin Currie the way we are organised means we are able to evaluate competing stock ideas on a global basis, and our short lines of communication ensure we can implement decisions quickly, and with conviction. The result is a distinctive and focused global equity portfolio that adds real value for our clients.

Holt: Typically, selecting an appropriate manager is a two stage approach. Firstly, deciding on the trustees’ objectives – a global equity benchmark and a comfortable degree of risk/return – and secondly selecting a manager with a strategy consistent with these objectives: a manager with a robust investment process and sustainable competitive advantages that engender the confidence of the trustees they can deliver.
Most global equity managers will be comfortable managing against the MSCI World Index, but the degree of exposure to the US equity market within this market capitalisation weighted benchmark may seem excessive to some.
Selecting a bespoke benchmark will substantially reduce the universe of available managers. The risk/return spectrum covers strategies ranging from passive to high alpha to highly concentrated unconstrained or long/short approaches. Moving further along this spectrum requires the trustees to have greater tolerance of performance that deviates significantly from the benchmark.
Stage two usually involves the advice of an investment consultancy on a shortlist of recommended managers followed by a “beauty parade”.
We would argue a short presentation from a manager is a somewhat arbitrary basis for a selection process and would instead advocate in-depth meetings with the managers to better understand their propositions.

Wilson: The good news is that you are not restricted to selecting only the one fund manager. As with any other asset class there are a variety of approaches that can be blended together. This is made easier by the move away from separating funds on a regional basis, where different managers were often used to global equities, where different styles may be exploited.
For smaller schemes, where it can be difficult to implement this, it is important to select a manager who has a flexible style without a fixation on either growth, value or any other restrictive approach. The manager should be able to position their portfolio against the prevailing economic cycle by taking into consideration the current and future global economic themes. At the same time affording themselves the best opportunity to select those sectors and stocks that are expected to perform well in the future.


What are the pros and cons of quantitative and qualitative/fundamental driven approaches?
Sheasby: At Martin Currie all our strategies are skill based and are designed to exploit our fundamental belief that markets are inefficient, and offer opportunities for skilled managers to outperform. But that does not mean passive investment strategies do not have a role to play. They can offer pension funds the opportunity to capture the equity risk premium at the lowest possible cost. However, investors should recognise them for what they are: rules-based equity strategies with no qualitative overlay or manager discretion.
There are several drawbacks to passive investing. Firstly, the strategy is fully exposed to falling markets and, unlike active management, has no flexibility to move into more defensive stocks to protect capital. And secondly, because indices are market capitalisation weighted, passive investors have an unhealthy concentration of risk in the largest companies.
Active managers can exploit these deficiencies on behalf of their clients. Their greater investment freedom allows them to search the entire marketplace for under-researched investment ideas and manage concentration risk in a more prudent manner.

Holt: Principal Global Investors adopts an integrated quantitative and qualitative approach to equity investing so we are well placed to comment on the relative pros and cons.
The first stage of our investment process uses proprietary quantitative tools to rank more than 10,000 stocks twice weekly according to the characteristics that drive stock prices. Tackling this breadth of analysis using a traditional qualitative approach would require hundreds of analysts, and even then would not achieve the systematic results and the early recognition of fundamental change a quantitative approach can achieve. Accordingly, we view quantitative approaches as a tool, not a philosophy, and our quantitative models focus on factors that would be equally important to a qualitative fundamental manager.
However, quantitative models are not infallible. We therefore reject a purely mechanistic approach and focus our team of analysts on the stocks highlighted by our models as most likely to outperform. The analysts provide the depth to our research, and ultimately it is the human qualitative input that determines the stocks we will own. Integrating quantitative and qualitative approaches in our view provides the best of both worlds and eliminates the weaknesses inherent in a single approach.

Wilson: One only has to look at the last few months to see the disadvantages of a purely quantitative approach. For a manager to rely solely on historical quantitative analysis to form the basis of their selection criteria, is a sure-fire way of realising significant losses.
A qualitative approach with an element of quantitative analysis provides the best opportunity to identify the predominant themes in the market and for the skilled fund manager to select undervalued stocks. We know the market regularly misinterprets the global trends affecting a company’s sector and how it may or may not benefit. The market is also likely to undervalue its own assumptions regarding a stock by not considering it in a global context, giving the fundamental approach a significant advantage.
The decisive factor here is to select a manager who is able to take advantage of global trends from their extensive research of the global economy. An understanding of the themes driving each global region, combined with extensive research on a global sector basis, ought to allow for those stocks with significant upside to be selected.


What are the benefits of style-based investing? Is this something trustees should consider for global portfolios?

Sheasby: It is important trustees understand the investing styles of their managers, whether they are appointing a single manager for a particular strategy or, as larger schemes often do, blending different managers.
The styles investors most often consider are “growth” and “value”, and the differences in performance between these two approaches can be quite striking. For much of the 1990s, growth outperformed value, while the reverse was true from 2000 until relatively recently. At Martin Currie our global equity portfolios have a core approach that is sometimes called growth at the right price or “GARP”. Our global alpha strategy has outperformed during periods when both value and growth have been dominant, so we believe our “all weather” approach offers pension schemes a good long-term solution.

Holt: The practice of defining a manager’s “style” arose from the desire to differentiate between approaches and recognition that in aggregate certain styles tend to outperform others at certain points in the market cycle. However, the traditional growth-core-value style categories can be an oversimplification, and attempting to “market time” style selections is fraught with difficulty.
While there are arguments for style diversification where trustees have multiple managers in the same asset class, we would caution against selecting managers with pronounced styles in a single manager structure unless the trustees have a high degree of confidence in the consistency of future outperformance in all conditions. For global portfolios we would emphasise skill rather than style as the primary selection criteria.

Wilson: The aim of investing on a global basis is to provide the manager with the best opportunity set of assets to add value on an ongoing basis. While a manager must have a defined philosophy and process to accomplish this, to be restricted to, for example, a traditional growth or value style will limit their universe. Indeed, taking this approach will ensure a manager underperforms during those periods when their style is out of favour.
Our belief is that, within a global context, a manager needs to be flexible, taking advantage of the widest pool of opportunities available to any investor, with the best managers adapting to changing economic environments.
The most important question for trustees to consider is whether a manager has the ability to add value going forward and in all market conditions. This still rests on two significant factors, people and process.


The application of style-based approaches to global investing is less developed as it is in regional investing. Do you expect this to change?

Sheasby: Around one-quarter of Martin Currie’s funds are managed for clients in North America, where style investing in global equity portfolios is very well established. Pension plans in the US tend to appoint a blend of growth, value and GARP managers, particularly the largest schemes.
In the UK awareness of style factors is definitely growing, partly as a result of some managers exhibiting “style drift”, whereby their style changes, for whatever reason. At Martin Currie we always share our style analysis with clients and consultants, because it is important they understand any style biases within our portfolios, and these continue to be consistent with the basis on which we were entrusted with clients’ assets.

Holt: No. Certain regional markets exhibit more pronounced style characteristics than others (for example the UK is regarded as a value-biased market compared to the US or Asia, where there is a greater preponderance of high growth companies). The global equity market is highly diversified and in our view isn’t notably style-driven. As a bottom-up stockpicker, style is not a driver of our investment approach, and we feel over-emphasis of a particular style would limit our capacity to outperform in the long term.

Wilson: We do not see where the demand will come from. Style-based approaches limit the potential opportunity set of assets available. Indeed any global mandate based upon traditional regional investing will do the same.
The most efficient way to invest globally is by allowing the manager the flexibility to adapt to changing economic environments, enabling them to take a high- conviction approach within a concentrated, unconstrained mandate.