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Fund buy lists: how accountable are these four research teams?
on Sep 25, 2013 at 12:08
Five experts explain how selection proccesses are responding to the increased importance of fund research to private client investment firms.
One of the most profound consequences of the trend towards centralised investment processes at private client investment firms has been the growing importance of fund research functions.
As the move to recommended fund and stock lists increases, underlying selection is bound to come under greater scrutiny, begging the question: how are selection processes evolving to cater for this increased take-up?
Sam Liddle (pictured), a partner at consultancy Albemarle Street Partners, expects external consultants will increasingly be hired by investment firms in the future to ‘sense check’ existing buy lists.
‘We are finding lot of people are looking for validation of fund buy lists, which will become more important this year,’ he said.
It is a trend his firm has identified and is benefiting from, with increased interest in Albemarle’s Alpha Quest tool, which uses analysis of past annualised alpha and its volatility to assess the future probability of generating alpha. Funds with a probability of 60% and above of delivering alpha over the next 12 months are then subject to qualitative analysis before they make it onto Albemarle’s buy list.
‘Advisory and discretionary firms that have a qualitative basis on fund research are looking for quantitative validation of what they are doing. Even those comfortable with asset allocation and risk management are looking for third party sign off for their fund buy list,’ Liddle said.
Andrew Wilson (pictured), head of investment at Towry, says greater accountability for fund research teams can only be positive in helping clients to understand what is driving performance.
‘There will be a greater need to evidence your fund selection skills. You never see it in the media, press or websites. There is a lack of people evidencing value from fund selection. If you can’t, you should be passive, or is your added value from asset allocation?’ he said.
‘You should be able show that and why your macro strategy is better than Goldman Sachs’, for example.’
While centralisation and greater consistency across portfolios is no bad thing, he says a firm’s buy list must genuinely support this and not be too broad in its scope.
The research team at Towry sets up performance expectations for underlying funds on a monthly and quarterly basis and has to explain to the firm’s portfolio construction team why any chosen funds are underperforming. Each underlying fund is assessed against the passive alternatives in each sector and the sector average.
Alan Sippetts (pictured), an investment director at Heartwood Investment Management, would not rule out using external consultants to help with decision-making but has concerns over losing complete control of costs and the firm’s process.
‘Focus and speed to execute are important. If you are relying on a third party and you have got a new idea for a boutique company somewhere that is more difficult to get to than London, you are relying on the company to do this research,’ he said.
‘Is the company really going to do all that work just for me? I think they will wait for other clients, by which time the opportunity may have moved on.’
Buying in research
The team currently buys in specialist research from firms based in Asia and the US to assist with strategic and tactical asset allocation, and uses the Factset tool for performance, portfolio and securities analysis.
The research team is accountable to the broader 20-strong investment team, alongside a colleague who is responsible for portfolio risk analysis, which Sippetts said means ‘there are no sacred cows’ as all selections come under scrutiny.
The team monitors underlying exposure carefully for its 192-strong recommended list of investments, which includes open-ended funds, securities and exchange traded funds. Each week it produces a comprehensive monitoring document examining the performance of each investment on the list and how it compares with its sector, which is accompanied by a monthly review.
The firm also keeps a keen eye on changes to incentives or ownership at the corporate level for funds it invests in, even if the funds are outperforming.
Consultants not the ‘outsourcing panacea’
Matthew Butcher (pictured), head of research at Brewin Dolphin, is less open to employing third party consultants who do not have a fiduciary responsibility to the firm’s clients.
‘We believe there is no substitute for in-house due diligence and research provision,’ he said.
Instead, the seven-strong team work closely together on fund selection and meet formally every week to challenge and validate selection decisions, while maintaining a dialogue with individual managers to ensure selections are relevant.
As the broader industry centralises and fund research teams grow in importance, Butcher expects wealth management companies to beef up internal resources and look to external consultants. However, he does have concerns about the latter.
‘External consultants are not an outsourcing panacea. They may be helpful for cross-referencing purposes and they will have some role to play in the wider industry, but an investment process, by definition, is not something that investment firms should seek to outsource. Otherwise, wealth management clients are merely paying for an expensive custodial relationship,’ he said.
Butcher’s sentiments are echoed by Richard Larner (pictured), head of offshore research at Brooks Macdonald. ‘The broader industry may well expand their use of external consultants and ratings agencies, particularly so for firms that do not have the resources or scope to dedicate to in-depth due diligence,’ he said.
‘However, here at Brooks Macdonald, we are constantly reviewing internal procedures to ensure the investment decisions are made in a robust, considered and detailed manner and have the resources to adapt and evolve. We believe retaining research internally enables us to determine the depth of coverage that best suits our needs.’