Seeing beyond the brand name unlocks untapped expertise

When surveying the top 10 holdings in discretionary fund manager (DFM) offerings there are many names that appear again and again. Part of the reason behind this is that these funds might have reached a particular size, have an impressive long-term track record, or are a well-known brand and therefore more likely to be included in such a universe.

When selecting funds it is important to look beyond the brand names. Talented, specialist managers can be found around the globe, often at companies whose names are not recognisable.

Smaller managers are committed to grow assets and are very conscious that performance will drive inflows – especially as, unlike big brands, they cannot rely on name recognition alone. With a broad fund selection remit and the right due diligence in place, investors can ensure they are accessing outstanding investment expertise across a range of strategies.

When selecting a fund manager, it is important to look at the consistency of alpha generation across different points in the market cycle. There may be periods when style consistency is important to analyse.

Whether managers have the flexibility to rotate between styles or prefer to stick to their known sectors or styles should also form the basis of any assessment. Additionally, experience should give an indication of the longer term alpha potential and this is a good initial manager filter.

Consistency of (out)performance is important in most things – be it in the investment world or beyond – and investors feel naturally more comfortable with consistent returns over inconsistent ones. However, something that cannot be guaranteed to be repeated forever, by definition will not, so investment performance consistency is something of a holy grail among fund selectors.

Theoretically, the investment approach consistency is an easier criteria to analyse and a manager’s rational explanations of inconsistent performance are key both on the up and down side. Being able to demonstrate steps that are being taken to ameliorate any negative issues should form part of managers’ overall analysis.

Although performance is one metric on which to evaluate a fund’s progress, it should not be the only tool utilised by fund of fund managers. It also may not always be the most instructive for asset allocation decisions to help deliver long-term outperformance. By adopting a blanket exclusion of many of the less well-known or boutique investment managers – which to some may seem like the easier option – a huge opportunity set is lost.

Looking outside the big brands allows investors to find innovative fund managers who can provide attractive returns in today’s challenging environment.

A number of strong, lesser-known managers operate in niche asset classes overlooked by many investors. The areas they operate in can include misunderstood investments such as mortgage-backed securities, where the market is now more robustly regulated, or enterprising strategies such as investing in subordinated debt, which can provide reliable returns if the underlying company is of investment-grade quality.

Many boutique managers have the research capability to comprehensively assess under-researched areas of the market, such as private equity where pricing is inefficient and companies trade at large discounts to net asset value. There are a number of such opportunities for dedicated, experienced fund managers to exploit.

Looking beyond the brand names can provide access to expertise in diverse asset classes that will provide meaningful returns in a range of investment environments.

Charles Hepworth is an investment director and a member of GAM’s managed portfolios investment team

Key criteria for DFMs

From a report called Never Mind the Quality, Feel the Width on outsourcing investment solutions by CWC Research and The Lang Cat, which surveyed 45 industry professionals.

• Performance

• Methodology

• Charges

The report shows that these are the three most common criteria for selecting a DFM, although perceived client need, or preference, cropped up frequently in discussions. Charges dominated the arguments against DFM use, according to the research.