20th June 2024
Disclaimer first – this is not an active versus passive debate. It is uncontroversial to say that the average active manager underperforms their respective benchmarks. That is especially true in highly efficient and liquid asset classes or during regimes where large-caps outperform small and mid-caps (most active managers are overweight smaller companies). The US equity market is a good example of both those factors. Unfortunately, there are also far too many funds out there that pose as being active but in reality are little more than high cost index huggers. In this context we certainly appreciate the role passive funds play in offering low cost, broad market exposure. However, it is our strong belief that a pure 100% passive strategy is unable to efficiently access a significant part of financial markets due to illiquidity, inefficiencies or where valuation dispersion is widest, and we think those areas are best served by active funds. After all, if the average fund underperforms, there will be plenty of funds that outperform (and underperform). Therefore one of our jobs is to find those funds and managers that can add value within their specialist sectors.
Our process is more qualitative than quantitative. We meet with hundreds of fund managers covering every asset class each year. This is the best source of ideas and a great way of maintaining knowledge. That is not to say we ignore the quantitative as we do look at past performance, correlations, Sharpe ratios etc selectively, but instead of the industry norm of screening past performance over say 3 or 5 years, and then buying the best one, we prefer to look at distinct periods of both good and bad times. We also like to look for funds doing something different so we will screen for funds that have 4th quartile performance over short timeframes that also have top quartile returns over longer periods. A while ago, our meetings with managers were notable in that many were talking about a ‘once in a generation opportunity’ across a number of asset classes, citing the wide dispersion of valuations, i.e. the gap between the most expensive and the cheapest was at historic wides. We used this insight to increase exposure to a number of such funds and asset classes and that has paid off over recent months. Here is a selection of some of the names and numbers behind the strong fund/stock selection over the past 6 months (to end May 2024). It is not just the impressive levels of outperformance in the following examples, it is also apparent across a variety of sectors, meaning our good fund/stock selection has not been at the expense of diversification.
In UK Equities, our high conviction positions of Artemis UK Select (+24.3%), Polar Cap UK Value Opps (+19.6%) and Man GLG Income (+17.6%) have all beaten the average fund in the IA All Cos sector of +14.0% and the UK equity market +13.6% (MSCI UK All Cap). UK Smaller Companies have been on a good run too with our preferred Aberforth UK Small Companies fund up 22% compared to the average fund up 18.6% and the Numis Smaller Companies Index (ex ICs) +18.5% (Aberforth is up a staggering 32% since the low in October). In Asian/Emerging Market equities, CIM Dividend Income is up 22.2% and Pacific North of South EM Income Opps is +13.6% compared to the MSCI EM index +7.0%. In Sterling Corporate Bonds, Man GLG Sterling Corporate Bond is up 12.8% compared to the average fund in the sector up just 3.6% and the ICE BoA Sterling Corporate and Collateralised Index up 3.9%. In Emerging Market Debt, the Morgan Stanley EM Debt Opportunities fund is up 11.0% compared to a -0.1% return from the JPM GBI EM Global Diversified Index.
The subject reminds me of a time when a delegate at a presentation chastised a fund manager for giving examples of their excellent stock picking by saying “A green grocer always puts the nicest strawberries at the top of the punnet”, but good fund picking has been one of the major drivers of our historic returns so we are not being too selective. In fact, without these active funds, our performance would have struggled given the material asset allocation headwind posed by our long-standing low allocation to US equities. It is also noteworthy because of the breadth of sectors and because some are less well-known funds while others are household names (we are not ashamed of buying the obvious if they generate the best returns). Of course, not all our active funds outperform over every time period, but these aforementioned funds have excellent longer term records of adding alpha above their respective benchmarks, not just the past 6 months. Artemis UK Select has more than doubled the returns of the UK equity market over 5 years, CIM Dividend Income has outperformed the MSCI Asia Pacific ex Japan Index over almost every rolling 3 year period over the past 10 years, and Man GLG Sterling Corporate Bond and Morgan Stanley EMD Opportunities are top quartile and are beating their respective benchmarks over the long term.
This year, the highly concentrated nature of the US equity market is making it hard for the average active fund manager to outperform. The largest 6 companies, representing more than a third of the index, have driven almost all the returns for the market this year so it takes a brave manager to materially deviate from their benchmark weights. However, we own someone prepared to do just that. Richard De Lisle, the manager of De Lisle America, currently has none of those mega caps but has still managed to keep pace with the S&P 500 Index over the past 6 months (+15.4% vs +15.5%) and has outperformed over the past 12 months (+27% vs +21.4%). We want our active managers to have conviction and take active risks as that is what we are paying higher fees for. You can’t outperform the index if you have the same portfolio as the index!
(all data sourced from FE Analytics, Total Return GBP to 31/05/2024).
Daniel Lockyer – Senior Fund Manager
For professional advisers only. This article is issued by Hawksmoor Fund Managers which is a trading name of Hawksmoor Investment Management (“Hawksmoor”). Hawksmoor is authorised and regulated by the Financial Conduct Authority. Hawksmoor’s registered office is 2nd Floor Stratus House, Emperor Way, Exeter Business Park, Exeter, Devon EX1 3QS. Company Number: 6307442. This document does not constitute an offer or invitation to any person, nor should its content be interpreted as investment or tax advice for which you should consult your financial adviser and/or accountant. The information and opinions it contains have been compiled or arrived at from sources believed to be reliable at the time and are given in good faith, but no representation is made as to their accuracy, completeness or correctness. Any opinion expressed in this document, whether in general or both on the performance of individual securities and in a wider economic context, represents the views of Hawksmoor at the time of preparation and may be subject to change. Past performance is not a guide to future performance. The value of an investment and any income from it can fall as well as rise as a result of market and currency fluctuations. You may not get back the amount you originally invested. FPC24166.
