Anyone who has ever taken a walk in the woods has had the opportunity to see how the death of the old provides the source of new life. Around fallen trees a mini ecosystem will open up in competition for scarce water and sunlight.
While the pace of change is imperceptible to the human eye, the fight for survival is ferocious: the survival rate of the average acorn is in the region of 0.0003%. Seeing an opportunity is one thing, successfully snatching it quite another, and anything providing a competitive edge is exploited ruthlessly.
The success rate of the average investment boutique is a little more promising than that, but in many ways parallel: a thriving community of hopeful start-ups has developed on ground previously deeply shadowed by a small number of all-dominant giants.
All too few of them appear to have created much that could decisively set them apart from the pack, however. ‘We think there is plenty of room for all of us to grow,’ says Gary Stockdale, co-founder and head of investment at Vertem Asset Management. ‘But you need to do something to help you stand out.’
Together with fellow founder John Dance, Stockdale has focused on doing just that, targeting financial advisers with high conviction, 25-position portfolios of both collectives and direct equity, selected according to each client’s risk criteria and bespoke specifications.
The claim to be genuinely different is not in itself a source of difference of course, but the pair make a convincing case to back it up, although they have yet to generate a reasonable-term performance record.
The intellectual legwork is impressive, from designing a proprietary model to value oil and gas exploration businesses in partnership with Senhouse Capital, to more recent work constructing negative-duration bond investment models, to the company’s venture capital trust valuation and buyback service. All this for a flat fee of 1%, scalable down to portfolios of just £40,000.
‘We wanted this to work more as a joint venture [with advisers],’ says Stockdale. ‘And we wanted it to be quite flexible and creative.
‘We always said that if we had a brochure, it would be a blank sheet of paper: tell us what service you would like and we will attempt to create it. We are happy to be seen as people’s in-house investment team. A lot of advisers have known their clients for years on end and will have a much better sense of their sensitivities and interests than you get from a risk questionnaire.’
The company has signed up around £90 million in adviser assets with around 75 underlying clients – although actually getting this under wraps has been frustratingly slow. Of that total, around a fifth is from just two clients, including an adviser who intends to switch his £50 million client base across if they do a good job on his Sipp.
Dance notes they are only just reaching the point where they (possibly naively) had hoped to be at the end of 2010.
‘It hasn’t happened as quickly as we hoped. We have been very successful at pitching to underlying clients but there is a lot of work required behind the scenes by the financial planners, especially when portfolios have never been consolidated.’
Based in the heart of Newcastle’s Georgian centre, the two met while working at Brewin Dolphin’s local office. Dance previously worked as a broker dealer and market maker in London, while Stockdale previously headed portfolio construction at Barclays Wealth’s Newcastle office.
The experience of working at Brewin Dolphin, and in Stockdale’s case Barclays before that, were key to helping the two decide how they wanted to work. ‘There was a feeling that some of the internal culture that has put clients off the biggest banks has drifted down to the larger wealth managers,’ says Stockdale, who describes a Citywire scoop on managers being steered toward expensive commission-heavy retail rather than institutional share classes as emblematic of his experiences.
He adds that the ‘diseconomies of scale’ meant it would simply not have been possible to attempt something similar in a national office, even had it wanted to.
‘We cover a lot of ground: the FTSE 350, plus another 100 or so below that. Previously I was discouraged from looking at non-buylist companies – in my own time – for one of the office’s biggest clients. He was paying something like £15,000 a year in charges, and I just thought for that, he deserves a proper service.
‘The [high conviction] avoids what I would describe as di-worse-ification. At other houses they run fund-of-funds and if you do a look through there are often something like 4,000 positions – if you are overdiversified, where is the value coming from?’
Stockdale admits that the current mixed model of bespoke portfolios might have to be re-examined once the company is running above £200 million, with the possibility of pure collective management for smaller clients.
With just three staff and an intern from Newcastle Business School – all admin being handled by Raymond James – there remains plenty of room for organic expansion, he adds. ‘We may have to revisit the service proposition but we are very conscious of what we don’t want to become.’
If their vision of where they want the company to go is at least partially defined by this negative, an infectious enthusiasm and sense of intellectual curiosity suggests their newfound investment freedom is a whole-hearted positive.
The house view is equivocal on Western equity, largely negative on fixed interest and warming to emerging markets. Although Dance does not expect any major upsets of the rest of 2011 for risk assets, he qualifies this with his expectation that the summer is liable to be fairly ‘stale’, with greater risk to the downside by year end, as excess liquidity is sterilised.
Western, and particularly UK, equities are broadly supported by fundamentals although value has been obscured by cyclical enthusiasm with solidly yielding defensives continuing to trade at a discount to go-go growth exploration and technology stocks; hence the company’s recent interest in oil & gas cash flow modelling.
‘There is a general disconnect in the markets now,’ says Stockdale.
‘Companies that are generating a lot of cash are priced a long way below those that have a hope of generating cash in future. Although that said, we have not totally given up on growth, we have found stocks that still have a compelling story,’ Dance adds.
‘We have started to move euro exposure a bit up, obviously it has been all doom and gloom but in retrospect is starting to look a little bit like a missed opportunity. In emerging markets, inflationary pressures are now fully priced in – we are using passive and active emerging market funds rather than direct access.
‘We haven’t targeted any country specific funds although we do have a reasonable weighting to China via the products we are using.
‘For all the doom merchants, even if [China] is dealing with about 5.2% inflation, that problem is global... but other [countries] aren’t showing double digit growth,’ he adds pointing out that the relative value feels obvious.
Stockdale adds: ‘The way that the Chinese government has learned from the mistakes of the rest of the world and from the 20th century has been incredible.’
He notes that one of the characteristics of the past 20 years is it has successfully managed a greater structural transition and bigger problems than short-run inflation.
Fixed income has been dialled back to around 7% of the average portfolio, and an opportunistic short position installed against selected metals, principally silver, which came spectacularly right last week after a worrying upward climb.
It is direct equity which really makes their eyes light up, however. Dance is a particular advocate of Greggs – his balance sheet conviction bolstered by the lines that stretch out of the door of every branch of the baker every morning since it launched a £1 tea and bacon butty deal.
‘It has no debt and can easily fund its own investment with the cash flow it generates, you might call it a classic growth at reasonable value stock, and it has uninterrupted record of inflation beating dividend growth,’ he says.
‘It has identified a lot of new opportunities [such as] colleges and transport hubs, and has the cash to really add a lot of space, less reliant on just like-for-like sales growth.’
Stockdale, who lectures part time at the University of Northumbria finance department, mentions academic publisher Reed Elsevier.
‘It has the market sewn up in technical publishing – as universities boost their earning power it has an obvious chance to follow.’
And both are also enthusiastic about the select portfolio of tech growth they have identified at reasonable value, such as chip maker CML Micro Circuits, a niche player of flash memory components.
‘Their technology allows leading global network equipment providers to send out flash drives which plug in and update infrastructure hardware and firmware as opposed to the cost of sending out teams of engineers to do the same job,’ says Dance.
Telecoms supplier Daisy Group, which has had ‘oodles of cash flow’ obscured by balance sheet issues, is another source of enthusiasm.
‘It’s a clear cash flow arbitrage,’ notes Dance. ‘It is AIM listed and worth £250 million but that is really going to catch up [once earnings are clearly stated].’