PA_Guide to boutiques_0718
How the boutique sector is \punching above its weight
Nicola Brittain introduces the guide \and finds out that boutique investing \is very much open for business
By definition, a boutique is
‘a business serving a sophisticated or specialised clientele’ and, arguably, a services industry without
a thriving sector of this sort will
be pretty stagnant.
Though smaller asset managers face many challenges, not least regulation and consolidation (see The Way Ahead), demand for their services is set to rise.
Investors hunting for genuine active share since the regulator blew the whistle on closet trackers should turn
Similarly, a desire for diversification in a market that has seen increased
bond/ equity correlation will favour niche specialists (see Small Fortune).
In the back section of the guide our five boutique sponsors, Comgest,
Gravis, Livingbridge, Miton and Time, walk you through their investment theses, making the case for niche specialists speak for itself.
Nicola Brittain, investment writer, Portfolio Adviser
‘A services industry without a thriving boutique sector will be stale and homogenous’
Although smaller asset management firms often run under the radar, delegates at <i>Portfolio Adviser’</i>s \recent boutiques event were clear on the benefits of buying from this specialised sector
Boutiques are not just smaller versions of their larger asset management peers, they have many unique characteristics. These include access to specialist sectors, greater agility and stronger relationships with their customers and the companies they hold.
Traditionally more attractive in bull than bear markets, their popularity is a good gauge of where we are in the cycle.
We asked delegates who attended the Portfolio Adviser Boutiques event, held at the Covent Garden Hotel on 28 June, a few key questions in a bid to determine what gives boutiques their USP.
‘Boutiques are more attractive in bull than bear markets, and their popularity is a good gauge of where we are in the cycle’
Which of the following best defines a boutique manager for you?
It is clear from these results (see chart, left) that the specialisation of boutiques is their defining characteristic. Although not all boutique firms do this, several that presented at the event did, including Gravis, with its VT UK Infrastructure Income Fund, Livingbridge, a specialist investor in microcap stocks, and Time, with its commercial freehold fund.
How much AUM do you think a manager should have to qualify as a boutique?
Delegates were split on what constitutes a boutique in terms of AUM, with under £500m, £500m-£1bn and £1-£5bn all polling equally at 29%, and just 13% of respondents going for under £500m (see chart, right).
This compares with large asset management firms that typically manage more than £50bn, according to the Investment Association’s September 2017 annual survey. Although ‘small’ is a defining characteristic of a boutique, they are equally well characterised by their niche services and agility.
Are you more likely to appoint a boutique manager for small-cap opportunities or alternatives expertise?
The results (see below) reveal that attendees were divided on their reasons for investing in boutiques. They demonstrated a clear split between alternatives expertise and the access boutiques have to smaller firms.
On the issue of alternatives, Square Mile quantitative research analyst Mateusz Kedzierski said the right boutique fund was the perfect diversifier. “The Livingbridge micro-cap fund presented at the event, for example, will respond very differently to market movements than larger-cap funds.”
He also argued that the fund was strong because it was such an expert in its own niche sector, again fitting with the audience response. In getting closer to the firms they hold, boutiques can better understand which are likely to outperform.
How do you think your clients’ exposure to boutiques will change over the coming 12 months?
It was clear that boutiques serve an important purpose for the delegates and, on balance, the majority sought to maintain or increase their boutique holding (see chart, right).
Fund manager and CEO of Saracen,
Graham Campbell, said “boutiques have had a hard time in recent years with wealth managers often only dealing with asset managers with funds over £10bn. However, increasing correlation of traditional bonds and equities bodes well for the future of boutiques as diversifiers”.
In short, the industry is well aware of the benefits boutiques afford to investors seeking diversification and specialist knowledge. However, the challenge of getting one’s voice heard in such a crowded marketplace shows no sign of abating.
‘The industry is well aware of the benefits boutiques afford to wealth managers’
The way ahead
Boutiques face challenges from many quarters \but investors looking for alignment and high active \share may soon start to rethink their choices
Boutiques have a great deal to shout about: they tend to be agile, performance focused and well aligned with customer goals. Similarly, these companies are often unlisted, making a long-term focus more practical since they don’t have shareholders assessing performance on a quarterly basis.
Some of the best-known asset management companies in the market, Woodford and Fundsmith, for example, are boutiques, demonstrating that this model can be extremely successful. But conditions are difficult for smaller firms, according to many fund managers, with some arguing that it’s harder than ever before to set up.
Graham Campbell, CEO of boutique
firm Saracen Fund Managers, is of this opinion. He says: “Fewer entrants are very
bad for financial services generally.
New companies add fresh ideas and
make the industry more efficient.”
So what are the issues currently faced by boutiques and how might they be overcome?
‘Dealing with Mifid II requires
a lot of manpower. Companies need to buy research and a startup will need to factor
in additional capacity’
Graham Campbell, CEO, Saracen Fund Managers
Laurence Boyle, CIO of MAIA asset management, who worked as a fund manager at Williams de Broë before setting up MAIA in 2016, says getting discretionary approval from the Financial Conduct Authority (FCA) is time consuming and has become “a big challenge”.
Jamie Carter, CEO of Oldfield Partners and chairman of financial thinktank the New City Initiative (NCI), agrees that increased regulation is a problem for boutiques.
“Since the global financial crisis, scrutiny of the decision-making process is more harsh. Wealth managers seem to think they are at greater risk by hiring a boutique than they would Blackrock, for example,” he says.
He singles out Mifid II as being particularly problematic. “Boutiques with an international focus must comply, but navigating it requires deep pockets.”
Saracen’s Campbell also feels Mifid II unfairly favours the big players. “Dealing with this regulation requires a lot of manpower. Companies need to buy research and a startup will need to factor in additional capacity.”
Consolidation of pools of capital is another recent trend causing problems for boutiques, according to Carter.
He says: “Local authorities are merging to cut costs and, as a result, pension schemes have been consolidated to create larger mandates. But boutiques have a tight capacity limit and often can’t manage them.”
Another big issue for boutiques is access to wealth managers, as Freddie Lait, CEO of Latitude, explains: “Companies such as St James’s Place or Hargreaves Lansdown are buying up increasing levels of funds, say £100m at a time.
“However, they don’t want to hold more than around 10% or 20% of assets for fear of illiquidity. Small boutiques can’t manage that.”
And no article assessing the challenges faced by British companies would be complete without reference to Brexit uncertainty.
Says Carter: “Lower confidence means people are more likely to go for bigger funds. They imagine they are playing it safe.”
Keep the faith
The NCI was set up following the financial crisis to help restore faith in boutique financial services. It counts 40 small asset management firms among its members. Analysis of these firms can help find the sweet spot for boutiques in terms of size.
NCI’s Carter explains that among its members, while smaller boutiques with AUM of less than £2bn were struggling to grow, funds with AUM of between £3bn and £4bn were increasing nicely.
However, growing exponentially isn’t the end game for all boutiques. Campbell says: “Dis-economies of scale come much earlier than people think.
“Once staff start to have less ownership
of the business, they will be less aligned
‘Wealth managers seem
to think they are at greatest risk by hiring a boutique
than they would Blackrock, for example’
Jamie Carter, CEO, Oldfield Partners
“A less than flat ownership structure is inevitable with growth, and there are issues with this, too.”
Many boutique firms are very small and this leads to limited access, often the result of not investing in distribution teams. Lait says: “Plenty of small boutiques don’t employ sales people. The work requires two or three people and it is arrogant for portfolio managers to think they can do this as well as their day job.”
Despite this rather negative assessment of current market conditions, some commentators argue that recent scrutiny of large firms selling closet trackers is actually good news for boutiques.
In March, the FCA forced a handful of asset managers to compensate investors to the tune of £34m for selling closet trackers as if they were active funds. NCI’s Carter believes this bodes well for boutiques in future.
He says: “Investors are more aware of this problem than ever and are seeking genuinely active firms. A high active share is one of the many benefits boutiques can offer.”
Comgest has long seized the case for\ investing in Asia Pacific ex Japan – \and sees evidence of a continuing trend
Asia is the fastest-growing region in the world and its influence on the global economy has consequently risen materially*. Today, it is home to one-third of the global population and accounts for more than a fifth of global GDP. Equity market participants have benefited, too, with regional earnings per share outpacing that of the MSCI ACWI by a factor of two since 2000.
However, as appealing as these long-term dimensions appear, investors need to be aware that they come with equivalent higher risks. The region is not homogenous in levels of development, transparency and growth,
while stocks sport significantly higher volatility than elsewhere.
As such, it is an ideal place to deploy a bottom-up quality growth investment approach, as Comgest has done since 1991. Simply put, our philosophy is that among the many things influencing share prices, the growth in earnings per share (EPS) is the most important over the long term.
Our focus is on a small number of companies that we believe have sustainable competitive advantages, consistent visible future growth, high returns, low financial leverage and superior ESG profiles in concentrated, high-conviction portfolios.
Consequently, over the past 10 years the annual Comgest Growth Asia Pac ex Japan portfolio EPS growth has been more than three times that of the MSCI index**. Moreover, we are disciplined on the price we pay and all this has allowed us to make strong risk-adjusted returns historically.
Emil Wolter: analyst/portfolio manager
‘Our focus is on a few companies with sustainable competitive advantages, consistent visible future growth and high returns’
Today, many of our investment candidates are exposed to growing consumption, rising infra-structure investment or booming innovation – all secular themes that we believe provide superior earnings per share growth over time.
Despite the many looming challenges to investors – trade wars, monetary policy normalisation, geopolitical tension and a mature economic cycle – we forecast them to deliver good results exactly because their franchises allow them to do well despite the environment, rather than because of it.
Two basic structural themes are converging to make Asia among the most exciting long-term investment destinations globally today.
For a long time, the region has invested heavily in education and research and development (especially the north-east). This is manifesting itself in a big increase in better quality human capital and a sharp rise in innovative businesses for us to invest in.
After years of rising real income, Asia has now managed to lift millions of inhabitants out of poverty and create a substantial middle class. Brookings Institute research estimates this group to have grown from just a few hundred million in 2000 (in a region with a 4.4 billion population) to 1.38 billion in 2015. This growth is expected to continue and the middle-class group to reach 2.7 billion by 2025.
‘Asia is home to one-third of the global population and accounts for more than a fifth of global GDP’
Purchasing power surge
In purchasing power parity terms, the spending power was $12trn in 2015, and this will rise to 26.5trn by 2025. These people, having just reached a higher living standard, need all types of goods and services, ranging from cars, holidays, entertainment and insurance. In our view, their demand will be sustained for a long time.
Following ongoing growth in earnings but a general fall-back in share prices during the first half of 2018, our portfolio today is trading at its lowest next 12-month P/E since 2011, despite a solid mid-teens EPS five-year compound annual growth rate. Its premium to the index is also the lowest in nine years despite what we believe is a superior quality and growth profile.
Source: *OECD **FactSet
Important information: All details as at 30 June 2018 unless otherwise stated. General data sources: Comgest analysis, FactSet (market & portfolio data, financial ratios), company reports. For professional investors only. Comgest Growth Asia Pac ex Japan (USD) (ISIN: IE00B16C1G93) a Ucits compliant sub-fund of Comgest Growth plc, an open-ended umbrella-type investment company with variable capital and segregated liability between sub-funds incorporated in Ireland. Comgest Growth plc is authorised by the Central Bank of Ireland. Past performance is not a reliable guide to future performance. Performance data is net of fees and based on the assumption that dividends are reinvested on the date of payment. The value of all investments and the income derived therefrom can decrease as well as increase. The material presented in this article is for information purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security, nor as advice in relation to any potential investment. Forward-looking statements may not be realised. The information and any opinions have been obtained from or are based on information from sources believed to be reliable, but accuracy cannot be guaranteed. All opinions and estimates are current opinions only and are subject to change. Past performance is not a reliable guide to future performance. Investors should not subscribe into this fund without having first read the prospectus and the Key Investor Information Document (‘Kiid’) available at our offices and at www.comgest.com
Winds of change
A government report has recommended further assistance for the UK renewable energy market, which could spell good news for infrastructure investors with exposure \to the sector
Investors in renewable energy received a boost in early July when a UK government commission recommended further financial and regulatory support for renewable energy companies.
The National Infrastructure Commission’s (NIC) first ever National Infrastructure Assessment report suggested the government should set clear dates, budgets and targets to assist the growing renewables sector.
The VT Gravis UK Infrastructure Income Fund has long recognised the potential in renewables and the investment opportunities that exist in ensuring energy generated from renewables can be stored until needed.
As the NIC’s July report recognises, energy from renewables has traditionally been intermittent but advances in technology are transforming the sector.
Market-leading companies operating in the area are a potential source of long-term, visible cashflows for investors, according to William Argent, fund adviser to the VT Gravis UK Infrastructure Income Fund and the VT Gravis Clean Energy Income Fund.
He explains: “We have been looking at the management of energy supply, particularly storage systems. It is critical to managing the increase in renewables supply to the grid because it is intermittent. There is a need to manage solar and wind energy availability – and to smooth it – rather than just have access to solar in the daytime. Energy storage systems allow for the managing of that transition to more intermittent sources of energy.”
The commission’s report acknowledges that renewables require “more flexibility to balance variations of weather” but says the ability to do this is becoming cheaper.
In the report, the commission recommends that the government sets out a clear pipeline with dates and budgets for future auctions to support renewables. It also states that the government should take steps to push renewables to “the front of the queue” for further government support.
In a statement accompanying the report, Sir John Armitt, chairman of the Treasury’s non-ministerial department, says the UK’s primary energy sources must “change radically” if the country is to meet its “legally binding” climate change targets in the act.
He says: “Ministers can seize this chance by investing in renewables and other low-carbon technologies, so they become the main players in our energy system – something considered a pipedream as little as a decade ago.
“But they need to act now to realise the full potential of what can be achieved.”
Argent explains that there are a variety of ways for investors to gain access to the renewable energy revolution and notes that the market is changing at pace.
He says: “There are different strategies that energy storage system management groups can look at. Some are shorter-term contracts and some longer term.
“These are physical assets that will become critical components of the energy mix and some solar operators have their own energy storage assets, integrating into the new assets that are being built.”
Diversification and dependability
Under the Climate Change Act, the UK government has committed to reducing emissions by 80% of 1990 levels by 2050.
According to the NIC, around 30% of the UK’s electricity currently comes from renewable sources such as wind and solar power. This has grown by 12% over the past five years.
VT Gravis UK Infrastructure Income Fund has seen the benefits of the growth in the renewables sector and expects to deliver its net yield objective of 5% comfortably in 2018.
As at 29 June 2018, 24.3% of the fund was exposed to solar infrastructure projects, 15.7% was invested in wind and a further 4.7% in electricity and water-related investments.
Argent says: “Renewables are very attractive, and cashflows include a high level of subsidies, which are indexed to inflation. We are providing investors with a diversified and dependable income.”
As a further commitment to the renewables sector, the VT Gravis Clean Energy Income Fund, an Oeic structure, was launched in December 2017. The new fund offers exposure to the provision, storage, supply and consumption of clean energy.
For more information on the funds please click here www.graviscapital.com or email firstname.lastname@example.org.
It’s all to \play for
Ken Wotton, manager \of the LF Livingbridge \UK Micro Cap and \UK Multi Cap Income \funds, says the rise \in volatility in the
plays to the strength
of boutique investments
Small- and micro-cap investing has long been perceived as higher risk, predominantly due to market inefficiencies from lack of available research.
However, at Livingbridge, a key competitive advantage is their ability to leverage insight from an in-house team of over 50 invest-
ment and research professionals focused on smaller companies – helping them to identify companies flying under the radar.
Ken Wotton, manager of the
LF Livingbridge UK Micro Cap Fund, says: “Through our
private equity arm we have often tracked, met or invested in organisations long before they list.
“I believe this enables me to evaluate track record and quality at IPO in a more informed way than those seeing the firm for the first time. Our process, leveraging this broader expertise as part of a rigorous fundamentals-based approach, also helps to mitigate risk and potentially deliver strong risk adjusted returns.”
‘Leveraging broader expertise as part of
a rigorous fundamentals-based approach helps to mitigate risk and potentially deliver strong risk-adjusted returns
Ken Wotton, fund manager, LF Livingbridge UK Micro Cap Fund
A high-conviction portfolio
Due to a genuinely smaller company focus and
a fundamentals-based stock selection process, the LF Livingbridge UK Micro
Cap Fund aims to deliver a high-conviction concentrated portfolio and typically holds 40-50 UK-listed stocks predominantly from the NSCI and Aim index.
Of the approximately 1,270
firms in the index, around 75% are below £250m market cap – rich territory for Ken and co-manager Brendan Gulston.
They assess this universe of under-researched stocks for profitable, cash-generative businesses with the potential to more than double profits within three to five years.
A disciplined process
The team’s focus is on consumer, technology, media and telecoms, business services, and healthcare and education sectors, which together account for around 75% of UK GDP.
A rigorous process is crucial when navigating the risks and opportunities of smaller companies. Ken and Brendan screen out high-risk sectors like mining, oil & gas and many financial areas, as well as highly leveraged, loss-making and illiquid companies, and try to further mitigate risk by avoiding cyclical names in favour of defensive growth stocks.
The team looks for companies exposed to sectoral growth trends, favouring niche businesses focused on specific market segments. This trend-based approach helps to create a portfolio with the potential to grow regardless of the state of the UK economy.
Says Wotton: “If UK growth stalls, I expect our holdings to be resilient. Not only can small caps be more agile than their larger peers, allowing them to better react to opportunities, but our focus on management and their ability to exploit market trends means we are less concerned with macroeconomic headwinds.
“If Brexit hits market sentiment, it could actually help our style because we focus on resilient growth stocks that are less prone to sentiment-driven wobbles than highly speculative areas of the market. It is all to play for.”
‘If Brexit hits market sentiment, it could actually help our style because we focus on resilient growth stocks that are less prone to sentiment-driven wobbles than highly speculative areas of the market. We think it is all to play for’
The team also manages the LF Livingbridge UK Multi Cap Income Fund, which aims to deliver attractive total returns by investing in between 40 and 50 profitable, cash-generative UK-listed firms that can grow profits, cashflows and dividends over the long term.
The smaller company focus of the fund, which allocates more than 70% to small and mid-cap stocks, stands out from competitors as equity based income-orientated funds are often disproportionately weighted towards a relatively small number of large-cap blue chip stocks.
‘Our approach provides dividend growth, dividend cover and more sources of income. It also has low correlation to its sector, meaning an investor can own our fund alongside a larger product and get something different from both’
With just 10 names in the FTSE 100 generating over half of all dividend payments, Livingbridge believes the majority of income funds demonstrate high levels of correlation due to their bias to mega-cap high-yielding names.
Their approach helps generate low correlation with competitors, offering diversification of
income into smaller less
well-known companies that
have the scope to produce meaningful dividend growth over the life of the investment.
Wotton says: “There is a lot of overlap among UK equity income managers’ key holdings. We believe our approach provides dividend growth, dividend cover and more sources of income.
“It also has low correlation to its sector, meaning an investor can own our fund alongside a larger product and get something different from both.”
Turn to the next page to watch our LF Livingbridge UK Micro Cap Fund: Summer Outlook video for Ken’s insight on performance drivers of the last quarter, and the outlook for Q3.
For professional investors only.
Capital is at risk.
Miton Group has a long-term outlook focused on companies that will double or triple their earnings with an overweight position on European healthcare companies
We are a pure bottom-up stockpicking fund. We expect our performance to be driven by stock-level alpha rather than by trading the economic cycle through adjusting our portfolio beta or cash exposure.
Accepting Ben Graham’s aphorism that “in the short run, the market is a voting machine but in the long run, it is a weighing machine”, and recognising that we do not have an edge in forecasting short-term swings in market sentiment, we focus on long-term prospects for companies in our investment universe.
Whereas Graham is the poster child of value investing, we would be classically defined as growth investors. As long-term investors, if we buy something that is 10-20% cheaper than its intrinsic value, and this valuation anomaly closes over a number of years, then we will have likely underperformed the market.
Instead, we hold a portfolio of world leading companies quoted in Europe that we expect to double or triple their earnings over our forecast horizon. True undervaluation is due to the myopic stockmarket underestimating a company’s long-term potential rather than some short-term multiple disparity. We analyse companies over a five-year forecast period, which we believe is beyond the focus of many investors.
A long investment horizon requires a strong focus on sustainability of a company’s franchise so we require high returns on capital defended by strong barriers to entry.
Starting with an investment universe covering the whole market cap spectrum and sticking dogmatically to the financial characteristics we require tends to produce a substantial mid-cap bias, which we do not see replicated by the larger mainstream European equity funds because of their size.
‘We look for businesses with
high and ideally accelerating
We also look for businesses with high and ideally accelerating sales growth. This can be from unit growth, pricing power or positive mix shift – ideally all three. These businesses might well be benefiting from a structural tailwind, such as ageing demographics in the developed world. Superior revenue growth drives operational leverage leading to expanding operating margins and increasing return on capital.
Process in action
We have a strong overweight position in healthcare, where a globally ageing population is driving demand. However, we look away from traditional large-cap pharmaceuticals, where pricing power and regulation are headwinds to growth, focusing instead on medical technology companies where the outlook is stronger.
Europe is the home to a large number of world-leading medical technology
companies. We believe this is the result of
a fertile confluence of capital (Europe being wealthy) and knowledge (Europe has many great universities).
An example of the sort of company we
invest in is Sartorius Stedim Biotech (SSB).
It produces a range of laboratory and pharmaceutical manufacturing equipment
but we are particularly interested in the disposable kits for biological drug manufacture that it produces.
Its kits are a very small part of the total drug manufacturing cost, crucial for production, not substitutable by its customers and operates in a high growth area. This leads to very high returns on capital, strong barriers to entry and long-term growth prospects.
Although the shares are on an elevated short-term rating, we see decades-long outperformance ahead for the company that we feel the market still underestimates. We have held a position in SSB since fund launch two years ago and expect to continue to hold it for the medium to long term.
Another holding in the sector is Carl Zeiss, maker of intraocular lenses, brain surgery microscopes and developer of the next generation of laser eye surgery equipment.
These are areas where technological leadership and brand are far more important than the ability to shave off a few
percentage points of price, ensuring high barriers, sustainable returns and good
Although Europe has recently seen its strongest growth in a decade, the economy is starting to cool at the margin. Meanwhile, its largest trading partners are beset with uncertainty driven by president Trump’s schizophrenic policymaking on the US side and the questionable solvency of the banking system on the Chinese side.
So while it might not be easy for investors
to be positive on the European economy,
with the right investment approach to the region, that becomes irrelevant. There are
still substantial investment opportunities for our investors.
Risks: The value of investments will fluctuate which will cause Fund prices to fall as well as rise and investors may not get back the original amount invested. Currency exchange rate fluctuations may, when not hedged, cause the value of your investments to increase or decrease. This fund may experience high volatility due to the composition of the portfolio or the portfolio management techniques used. Forecasts are not a reliable indicator of future returns.
High and rising
Time Investments spotlights commercial \property to offer investors long income \returns that previously were only available \to institutional investors
In the current turbulent economic landscape it can be hard finding suitable investments for clients in need of a secure income. This is where Time can help through its flagship income fund, Time:Commercial Freehold, which has consistently delivered a stable income of at least 4%, with a degree of inflation protection.
Fund manager Nigel Ashfield, who runs
the Time:Commercial Freehold Fund, is Citywire AA rated, putting him in the top
five per cent of the 16,000 fund managers Citywire tracks globally.
Nigel, who is also the fund manager for Time:Freehold, has over 18 years’ experience in fund management and finance. As well as being lead fund manager on Time’s long income suite, he is responsible for more than £360m of tax-efficient investments.
Time is an award-winning investment manager specialising in long income property funds and has an excellent track record of investing in defensive real assets.
The group has been active in this space for more than 25 years and it currently manages over £1bn of long income property funds.
Through Time:Commercial Freehold it is able to offer investors long income returns that were previously only available to institutional investors.