Since Investment Adviser wrote about the subject of ‘hidden gem’ funds last month and called for readers’ input, the response has been significant. Far from keeping their unknown investment ideas to themselves, a huge number of readers have been keen to share their best selections with us, and indeed a wider audience.
Accordingly, we too are keen to do more on the subject. So as well as continuing to cover the smaller standout performers from across the fund universe, next month we’ll reveal the members of the inaugural Investment Adviser Hidden Gem Club.
The framework will be similar to that used to pick our annual 100 Club selection: a quantitative screen, followed by a judging session to highlight the very best. I hope we’re able to highlight a few stellar performers that are less well known to the intermediary community.
It’s clear the subject that remains at the forefront of the industry agenda. When I wrote on the topic in February, I noted one recent report – published by The Lang Cat consultancy and CWC Research – had emphasised the relative paucity of unique holdings in discretionary and multi-asset portfolios.
Since then, as if to emphasise the point, another publication – by Fundscape and the gbi2 consultancy – has reported similar findings. It found that “sales momentum” is often a factor behind funds’ inclusion on buy lists. Here’s another way of emphasising the vicious circle faced by smaller portfolios. By definition, these vehicles don’t have any kind of sales momentum and often struggle to gain acceptance as a result.
But as gbi2 founder Graham Bentley notes, this doesn’t mean these products aren’t worthy of consideration. “We were surprised by the number of funds that were clearly strong candidates for inclusion, but were overlooked by some independent researchers,” he says.
I’ve mentioned some potential solutions before: founder share classes offering discounted access to portfolios in the early stages of their existence are one. But as the above reports suggest, a lot of the issues are not temporary features of the market, but structural ones.
Working out a way to encourage platforms to list lesser-known products, or pondering how to ensure the larger fund buyers can safely access sub-£100m portfolios, can’t be done in isolation. This is the point where issues of affordability, liquidity and adaptability converge.
Buying a smaller fund can feel riskier, irrespective of its actual attributes. They don’t have the accolades of their larger peers. They sometimes don’t even have the longer-term track records. However, one important quality stands out in their favour and that’s their potential to add alpha to portfolios.
On a basic level, the fact that so many fund buyers are crowding round the same products means those willing to look elsewhere can differentiate their investment offering – and their returns – more easily.
On top of that, there’s a growing amount of academic research which suggests that funds in the opening stages of their lives are better equipped to outperform those that have been around for longer. Most, though not all, hidden gem funds would fall into this former category.