With growth comes change, and change can be good. We’ve enjoyed the benefits of greater scale and better control of risks that growth has enabled, while resisting the pressures to sacrifice quality for lower costs.
Changes to the funds
Putting the band together
As our portfolios grew and we were preparing to invest directly, it was time to increase the headcount. I got Will McIntosh-Whyte on board because he was an eminently qualified investor with a completely different view on the world. Well, not completely different – we’re both cynics at heart – but he is a good 20 years younger than me and of a Millennial vintage. That was important for me. I wanted someone with a different eye for the world who was confident and experienced enough to tell me if he thinks I’m wrong. Although, at the end of the day, I believe there should be one person who has to make the final decision and own the consequences. For the time being, that’s still me. Will has been a great head to have around. Without him, the funds, their offshore variants and many of the interesting niche investments we’ve made wouldn’t have been possible.
It’s not just the two of us doing the due diligence on investments either. Rathbones’ research team has grown substantially since we launched our first two funds 10 years ago. We can take the counsel of internal experts on equities, both here and abroad, fixed income geniuses and on-point fund analysts. This gives us an enormous breadth of information, ideas and options across all types of assets.
Recently, we’ve added Craig Brown to the team as well. As our fund range has ballooned, so has the FCA’s rule book. The combined effect is that the amount of behind-the-scenes work – following regulatory requirements, keeping investors informed all around Europe and hearing their feedback – means we needed someone else to help share the load and ensure we can do our jobs properly. Our aim is to offer funds that do what they say they will, and to ensure that our investors completely understand what they are investing in. We continue to invest to ensure we have the team to do just that.
At what cost?
There’s been a race to the bottom on fees and charges of all kinds. What started as a well-intentioned push by the regulator to kick-start competition and shake up the industry has morphed into a crusade for low costs at any… well, cost.
Focusing on getting services for as little as possible with no regard for the quality of service or product leads to one terrible place, in our opinion: a compromised result for the customer.
We have got our costs down to a highly competitive place for the right reasons. We, as an asset manager, began paying research costs on behalf of the funds. We invest directly in underlying investments, which strips out many double-tiered costs. Where we do use funds – for those specialised areas where we levy the expertise of others – we are like Cockneys on market day. As our funds have grown in size, that’s created economies of scale that have allowed us to further shave the charges that our investors pay. That inverse relationship between portfolio size and cost hasn’t come to an end yet either.
If costs continue to be slashed across our industry and value not appreciated then expect corners to be cut and resources to dry up. Returns will be patchy, portfolios will become more volatile and less robust. And eventually an investment industry scandal will arrive which will destroy the public’s regard for investment management even further. That would leave our industry and investors in a worse position.
Risk requires precision
The feedback we get is that having a clear philosophy and investment approach that can be easily explained to private investors and advisers’ clients is indispensable.
As our internal research team got larger, it meant we could swap our multi-manager-style funds, which invest through other funds, for buying underlying stocks and bonds directly. This was a big deal for me.
Direct investment is a much more accurate way to build portfolios. It gives us better control of exactly which risks we take, as well as the returns we chase and the correlations between them. It’s also a cheaper method, which is a great thing to be able to pass on to our investors, too. When we made the change three and a half years ago, some people worried about ‘style drift’. This is one of the key sell signals for fund analysts. It’s where a fund manager’s strategy and performance is altered, either by constraints on the portfolio (say, it gets too big to buy small-cap stocks) or because of backroom adjustments or a lack of discipline (like perhaps straying into new investments that they don’t fully understand). We were never concerned by moving to direct investments. In a past life, working for Barings, I dealt directly in stocks and bonds rather than funds. As did Will, who used to be an investment manager in Rathbones’ charities team.
In fact, direct investing has gone pretty much the way we expected: it’s allowed us to be more precise with our style than ever before. And instead of losing investors, we’ve gained many more. We think the ability to spell out exactly what we are doing with our portfolios and why is pivotal for a fund range like ours. There are so many different ways to run a multi-asset strategy that it’s enough to make your head spin. But the feedback we get is that having a clear philosophy and investment approach that can be easily explained to private investors and advisers’ clients is indispensable. This will only become more vital as the regulator’s demand for investment managers to show the value they add and better explain themselves to clients comes into force.
Our larger portfolio size (we now run more than £1 billion) has also given us a purchasing power that has unlocked more interesting and unique ways to make investments. We have enlisted investment banks to create specific investments that suit our needs, managed currency risks in more nuanced ways and even bought protective options when we felt the time was right. All of this allows us to dial up specific risks, dial them down, or simply avoid them entirely – whatever the situation calls for.
We have been able to buy put contracts as markets crept ever higher. These derivatives simply give us the option to sell our US stocks at a set level to an investment bank. This means that we get some protection when markets fall in return for a small upfront payment. In essence, an insurance policy on our US equity portfolio. These contracts have already paid off more than once.
We have bought Australian government bonds to get low-risk cash flows that offer higher yields than their UK counterparts. So far, so simple. However, we then swapped the Aussie dollars for sterling so the income is fixed in sterling terms. That strips away the largest risk of buying foreign debt: when a country’s interest rates fall, the currency tends to follow suit. If you own a foreign bond where the interest rate falls, there’s a good chance that the rise in your bond’s price from falling yields will be gobbled up by losses from converting the money back into pounds at a worse exchange rate. We think this trade is a good way to make money if worldwide growth falters, because natural-resources-heavy Australia is highly sensitive to global growth, particularly Chinese expansion. If growth slows, it will reduce the demand for coal and copper, which would hurt the economy Down Under. When economic growth slows, inflation tends to decelerate and central banks cut interest rates. That boosts the value of bonds and sends the currency lower, which brings us full circle to our Aussie government bonds.
More recently, we bought a bespoke structured product (essentially an investment contract linked to a bond and derivatives) to help us hedge a pivotal risk for our portfolio. Historically, the FTSE 100 Index has been inversely correlated with sterling, i.e. when sterling rises the FTSE falls and vice versa. That’s because most of the index’s earnings come from overseas, so fluctuations in the pound alter its value more than most equity indices. We believe a soft Brexit would encourage foreign investors – who are avoiding the UK like the plague – to swarm back to British stocks. We suspect foreigners will disregard a soaring pound and buy the FTSE 100 anyway (the most liquid UK equity index), leading the inverse FTSE/sterling correlation to break down, for a short while at least. This structured product would pay us handsomely if it does so. In this way, we can participate in any FTSE rally without having to buy companies that we consider dubious long-term prospects.
We are very particular about our investments because we long ago came to terms with a universal truth: the future is impossible to predict. Rather than try to make large roulette-style bets on black, we try to position our portfolios so they should produce returns regardless of what happens. Picture a lattice of different investments and possible futures that weave together to make a bunch of losses and gains as some things come to pass and others don’t.
We fill our portfolio with the bonds and shares of solid, quality companies with honest earnings – those that are backed by real cash rather than accounting tricks – and without more debt than they can handle. We want to own businesses that focus on making returns for shareholders through making customers happy. We prefer companies which are growing on their own merits, rather than simply coasting on the ups and downs of wider economic growth. We then add further diversification using the best tools to combat the biggest risks in our portfolios. It’s simple, really, it just takes patience, experience and a steady hand. We hope we live up to your expectations.
To the next 10 years …
It hasn’t always been easy going, but Rathbones’ multi-asset strategies have come a long way since they were first launched a decade ago, and David Coombs, our Head of Multi-Asset Investments, takes the opportunity of this 10-year anniversary to reflect on that journey in his report 'Cracking on'.