This article was first published in the first-quarter 2014 edition of Personal Finance magazine.
The Momentum Best Blend Specialist Equity Fund, a multi-managed unit trust offering exposure to the skills of three top boutique managers, has been a good risk-adjusted performer over periods of up to five years. In the third quarter of 2013, it was the top fund in the broader equity sector (general and specialist funds) as measured by the PlexCrown Fund Ratings.
Like most investment professionals, Tavonga Chivizhe understands the language of investing. He knows about price-to-earnings ratios, price-to-book values and the dividend yields of listed companies. But these measures are not his biggest concern. As the manager of a multi-manager fund, Chivizhe is primarily interested in identifying suitable managers to manage portions of his fund.
Multi-managers combine unit trust funds into one fund to reduce manager risk. They can either design a fund using equity, bond, offshore and cash specialists, or, for example, combine the skills of specialists in the different equity sectors (“equity theme” specialists), depending on the mandate of the fund.
Multi-managers have used a number of different metaphors to explain the objectives of multi-management. Some compare different underlying funds to members of an orchestra, each playing his or her own instrument and together creating beautiful music. Some multi-managers compare their funds to team games, in which each member brings a particular skill to the team, but they work together to trounce the opposition.
The role of the fund manager in a multi-manager fund is to select the players who are most likely to out-perform competitors in rain, wind and sunshine, (different investing environments) without injury (risk) and at competitive cost (fees).
In the particular sub-category in which the Momentum Best Blend Specialist Equity Fund is listed, there are 158 other funds that play by the same set of rules. The most important rules, from an investor’s point of view, is that all South African equity general category funds are obliged to invest a minimum of 70 percent of their assets in South Africa and a maximum of 25 percent offshore. Further, they are required to invest a minimum of 80 percent of the value of the portfolio in equities.
Within this mandate, equity general funds can apply any investment philosophy they choose. Some funds in this sub-category are index funds, some are exchange traded funds, some are funds of funds, and others, such as Chivizhe’s, are multi-manager funds.
When they were first launched in South Africa in the late 1990s, most multi-manager funds had high fee structures and turned in somewhat mediocre performances. They were the underachievers of the investment industry. Multi-manager funds have a range of objectives; most strive to offer investors competitive returns at lower risk.
The Momentum Best Blend Specialist Equity Fund is unusual in that it does not specifically cite “lower risk” as part of its investment philosophy, yet its risk-adjusted return has been acknowledged by the PlexCrown Fund Ratings. And best of all, lower risk has not come at the expense of performance.
Personal Finance: What were the founding objectives and core principles of your fund?
Tavonga Chivizhe: Our starting point was to exploit a structural change that was becoming apparent just before our fund was launched in 2007. At that time, several leading pioneer portfolio managers were leaving well-established asset management houses to set up their own asset management companies.
Several of these managers had two things in common: they boasted some of the longest and strongest track records in the industry, and they planned to employ junior analysts to assist them in managing money. This meant that leading boutique asset management businesses would become ideal training grounds for young asset managers. We definitely wanted to be closely aligned to this emerging pool of superior investing talent.
We knew that boutique businesses (both local and offshore) had several proven competitive advantages relative to larger asset management companies, and we wanted a vehicle to showcase the skills of South African boutique managers.
What are the proven advantages of boutique fund managers?
History tells us that long-term performances are strongly correlated with small-cap stocks where the value premium is most substantial. Other advantages include an organisational structure where the investment team are owners of the business, which aligns the interests of the investment team with investors. In addition, the small investment teams that are typical of boutique asset management businesses ensure that the decision-making and implementation processes with respect to stock selection are quick.
So where do you start the manager identification process?
To explain our process of selecting fund managers, we use two terms: “skill” and “breadth”, to which we attribute specific meanings. We use “skill” to refer to three key components of fund management: the choice of an investment philosophy, the quality of people responsible for originating and implementing that investing philosophy and the organisational structure of the business, which should provide the platform for members of the team to express their investing talent as freely as possible.
What do you mean by “breadth”?
We use “breadth” to refer to the scope of an asset manager’s skill. We believe there are three components to breadth: the product range (which should be focused), the value of the assets under management (which should remain under R50 billion) and geographical reach (which should be wide).
In our view, the South African market has had exceptional performance over the past decade. Our starting valuations today are relatively less attractive than other geographical regions, such as Africa, Europe and China. We are therefore interested in local managers who are using their skill to exploit other geographical opportunities.
So, overall, we would see “breadth” as encompassing these three key factors. We look for fund managers with a focused product range and a smaller size of assets, and those who are innovative with regards to exploiting opportunities in other geographic regions. Key for us is that the manager demonstrates both skill and breadth.
What is the point of using geographical breadth as a selection requirement for your fund if the fund has a mandate to invest in local shares only?
We are strong believers that investment is a field where the successful players are the ones who continually evaluate opportunities from many different perspectives. Local equity managers who research foreign companies benefit immensely from being exposed to different business models in different regions, because the comparison highlights the strengths and weaknesses of South African companies.
How many investment managers fall within your investment universe?
Our chief investment universe is those boutique asset managers who have assets under management of less than R50 billion. There are well in excess of 60 asset management companies in this group. The number continues to grow as professionals leave the larger players to set up their own asset management shops. Some of the new entrants are also coming from non-traditional asset management areas, such as private equity and investment banking.
Is it an accident that the three managers that currently manage part of your fund all have hedge fund capacity or expertise?
No, not at all. This was one of the structural features of our boutique managers that we wished to exploit. We like the fact that, by virtue of being hedge fund specialists, our managers are focused on absolute returns. By this we mean that they all view the performance of their funds relative to the asset class with the lowest return, which is usually cash.
On the other hand, many traditional asset managers evaluate themselves relative to returns delivered by an index. So for some traditional managers, it is possible to view a negative return favourably provided it is less negative than the return delivered by the index. With a hedge fund, at the minimum, the return must be positive and above cash. This has resulted in most hedge fund managers being more skilled at evaluating investment risk, which gives them the edge when it comes to adding value during down market periods.
Please describe the three asset management companies that are currently contracted by the fund? What do you rate them for? Why do you like them?
We have devised what we refer to as our “manager score card”, which we use to evaluate candidate managers that could potentially manage a part of our fund. Our three selected managers – Aylett Fund Managers, Blue Alpha Investment Management and Mazi Visio Capital Management – have convincingly met each of our specified criteria.
The asset management company must have:
* Entrepreneurial flair;
* An ownership structure that encourages a low staff turnover;
* Investment as the primary focus of its commercial or business activities;
* Portfolios that reflect the manager’s best ideas held with high conviction – in other words, the manager is not scared to take a big bet on a share;
* A very focused product range; and
* A deep level of accountability.
The investment professionals must:
* Be experienced and have a proven track record.
* Have skills that are measurable in performance.
* Be bottom-up stock-pickers. In other words, they must pick individual shares based on an analysis of the company’s potential rather than on any economic factor or other trend that is expected to result in the company doing well.
* Have proven mid- and small-cap expertise.
* Have a value bias and an absolute return focus.
* Have the skills to minimise risk.
Although your fund is permitted to invest a portion of the value of the portfolio offshore and can hold cash up to 25 percent of the portfolio, your fund has a narrower mandate. How do you position the fund in terms of cash and offshore holdings?
In 2007, the fund was designed as either a stand-alone local equity solution, or a local-equity building block within a wider investment solution. We therefore invest exclusively in local companies; the fund does not have offshore exposure.
Second, while we aim for equity exposure of 95 percent at all times, we acknowledge that the underlying fund managers that we have selected are “high-conviction” managers, and low cash holdings deprive managers of the capacity to act swiftly if they want to buy. The managers like to keep a bit of cash on hand both for capital protection and to invest when they spot an opportunity. Therefore, over the years, we have allowed our underlying managers to have cash holdings to a maximum value of 15 percent of the portfolio.
Which unit trust funds would you regard as your chief competitors?
As mentioned before, this fund was designed to showcase the talent of South Africa’s leading boutique managers. So, by default, our key competitors are the eight medium-sized management companies (assets valued between R50 billion and R100 billion), as well as the eight large management companies (assets valued over R100 billion).
Do you think your fund is scalable? Would it be able to maintain current performance levels if the assets under management doubled from about R1.5 billion? Or trebled?
Most definitely. If we had R10 billion, for example, each of our fund managers would be allocated R3.3 billion, which would not constrain their current investment process or philosophy.
How would you manage a situation where one of your fund managers might be under-exposed to resources for example, and another overexposed, effectively neutralising the fund’s performance capacity?
We do not micro-manage on that level. That has happened before, and such tensions are part of the success of the fund.
Under what conditions would you consider breaking an agreement with a manager?
We would be concerned if the manager failed to display high levels of justified conviction during times of under-performance. We also closely monitor both the loss of key personnel and the managers’ approach to growing their team. We have found that the appointment of new team members, especially big-name team members, has to be managed very carefully to ensure that there is synergy and that the focus of the company is not lost.
We would question the fund managers if their asset base were growing too fast; if there were signs that the company was changing from an investment house to an “asset-gathering” company.
We would also be alarmed if one of our managers launched products that required investment strategies that were not in line with the company’s key competence.
Tell us about your academic background and investment experience.
I went to school in Zimbabwe, then went to the University of Cape Town and completed my BBus Science Honours (Actuarial Science) in 2005. After university, I continued my actuarial studies with the Institute of Actuaries in the United Kingdom and passed my UK actuarial fellowship exam in December 2011.
I joined Metropolitan Asset Managers (which later merged with Momentum Asset Management to form MMI) in 2006. Joining Metropolitan at that time meant that I was in on the ground floor of the new multi-manager business which had been established with seed capital of R100 million. Our team grew this asset base to R6 billion by the time of the merger with Momentum in 2010. After the merger, we were combined with Momentum’s retail multi-manager and re-branded as Momentum Investments Consulting. Three years later, we have assets under management of R22 billion, which makes us one of the largest retail multi-managers in South Africa.
* Statistics quoted in this article are sourced from Profile Media as at September 2013.