In the News

Imperial Brands chief smoked out after 'losing investor confidence'

Investors in Imperial Tobacco, one of the world’s biggest cigarette makers, breathed a sigh of relief on Thursday after boss Alison Cooper stepped down.

Just days after delivering a shock profit warning, the Lambert & Butler maker said Ms Cooper would be leaving once a successor had been identified.

The Imperial chief executive’s departure comes as chairman Mark Williamson prepares to quit.

The boardroom shake-up comes after The Telegraph revealed in February that investors were plotting to smoke out [telegraph.co.uk] the FTSE 100 company’s top two executives.

One top-10 shareholder pointed out that the fact Imperial shares rose sharply in the minutes that followed Thursday morning’s announcement spoke volumes about sentiment among investors.

Credit Suisse analysts wrote: “This is a positive as she had lost investor confidence but will also create uncertainty around future strategy, investment and distribution priorities.”

Ms Cooper’s resignation, after nine years at the helm, comes just a day after three City chiefs stepped down [telegraph.co.uk]. Tesco chief Dave Lewis, Aberdeen Standard executive Martin Gilbert and Metro chairman Vernon Hill quit on Wednesday.

It also means the FTSE 100 will have just four female chief executives after Véronique Laury stepped down as boss of retailer Kingfisher last month. The number will rise to five when Alison Rose takes the reins at RBS.

The world’s biggest tobacco companies have overhauled their leadership in the last 18 months amid fears that the rise in popularity of vaping poses an existential threat to their dominant position. [telegraph.co.uk] Last year £100bn was wiped off the stock market value of the largest five firms.

British American Tobacco chief executive Nicandro Durante stepped down earlier this year after facing criticism from shareholders. Marty Barrington, the boss of Altria, the maker of Marlboro in the US, quit in 2018.

Meanwhile, other investors were more unequivocal.

Freddie Lait of Latitude Investment Management, which holds a stake worth around £4m in Imperial, said it was “time for a clean sheet and a new management team”.

“For too many years, Imperial management have obfuscated their financial reporting and continuously moved the goal posts by altering segment reporting and flattering their earnings through accounting decisions.”

He continued: “We hope the new CEO and chairman are in place very soon, as they are overdue.”

Mr Williamson said: “Alison has worked tirelessly and with great energy and passion during her 20 years with Imperial, nine of which have been as CEO, and the board would like to thank her for the tremendous contribution she has made.

“During her tenure as CEO the business has been significantly simplified and reshaped to strengthen its long-term growth potential, and more than £10bn in dividends has been returned to shareholders.

“I am pleased that Alison has committed to continue to lead the business until a successor is appointed, ensuring an orderly transition of responsibilities.”

The great divide: why absolute return should be split in two

There is a great divide in the absolute return sector between fundamental long-only funds and complex hedge fund-like strategies, and the latter could give the rest a bad name.

That is according to Freddie Lait, founder and CIO at UK fund boutique Latitude Investment Management, who told Citywire Selector that it would be in the best interest of investors if the sector was split.

‘The problem with the absolute return sector is I see there being a huge difference between the fundamental absolute return funds and the far more quantitative ones that invest in very small issues of bonds or over the counter derivatives.’

The absolute return fund manager said investors would benefit from increased clarity about what they are investing into. In order to do so, the sector first needs to mature in terms of its understanding.

Performance split

The key distinction in the absolute return sector between the fundamentals and the more quantitative funds is that when you split them up you can see that the performance has fallen into those two categories, he said.

It largely comes down to the investment philosophy as the more ‘straight-forward’ funds in the sector invest long-only in bonds, currencies, gold and stocks with a focus on capital preservation and return in equal measure.

‘They are very different products and some of the others are far more complex. They are chasing their own tails in terms of the hedging, there's a lot of embedded risks that are not necessarily visible.

'Funds like Jupiter, which takes very large short positions, they don't run a lot of risk on paper but being short the market is an extraordinary risk.’

Hidden risk

The use of derivatives, options and shorting in the more complex structures tends to be very expensive shorter term, he added, as investors can lower risk by using the instruments but they tend to spend premium to do so.

‘If we generate 2-3% from our more tactical cash and bonds positions, the compounding power of that compared to the more complex products in the market is enormous.’

Lait, who runs the Latitude Horizon fund, which is a long-only absolute-return fund, said he is not surprised to see fundamental strategies raising assets this year despite the sector losing money rapidly.

‘We're seeing some of the larger ones that are the more complex hedge fund-like sort of structures haemorrhaging assets. It does give the overall sector a slightly bad name but the individual businesses and boutiques who defend that sensible long-only methodology will continue to strive and thrive.’

At the next stage of the cycle, thinking about risk differently will become increasingly important, he said. Liquidity risk is one piece of that but complexity and a lack of transparency and accessibility also fall into it. 

Over one year to the end of June, the Latitude Horizon GBP Inc fund returned 3.3% in euro terms. This compares to the average manager in the Mixed Assets - Flexible EUR sector's return of -0.3% over the same timeframe. 

Freddie Lait discusses the bull and bear case for the UK market and the opportunity for patient investors.

The UK market is a fantastic contrarian investment for those investors able to take a longer-term approach to their portfolio.

The aggregate forward price-to-earnings multiple of 11x stands out in a world of fully valued stockmarkets, and the dividend yield, which is now in excess of 5%, offers ample compensation for the patient investor.

Within the index there are market leading businesses from around the world, and this truly global earnings stream, where 85% of profits come from outside the UK, offers portfolio diversification and opportunity.

Currently, the Brexit situation is in the doldrums and once some semblance of certainty returns there will be cause for value realisation.

As we have seen with many political events of the past decade, the market abhors uncertainty, and visibility, whatever the outcome, is likely to be sufficient grounding for some kind of market recovery.

Demand for UK companies has been high, with M&A from foreign private equity and corporate investors demonstrating attractiveness to private buyers even if shorter-term stock investors are more cautious.

The single most worrying outcome for stockmarkets would be a Corbyn-led Labour government. Their anti-capitalist ideology, combined with extreme plans for the economy and taxes would drive investment offshore, lead to lower investor appetite and make Brexit-induced uncertainty look pale in comparison.

A key rub with the long-term investment opportunity presented by the FTSE 100 is the effect of a strong move in sterling. Given the high proportion of overseas sales and profits, for every 10% move in the currency we would expect an underlying 7% move in the market, in the opposite direction.

Prior to the (first) Brexit vote, sterling was trading at $1.50 against the US dollar. Should the currency return to that level, the FTSE would fall 13% in response.

Somewhat counterintuitively, a 'strong' Brexit outcome could mean the market is held back, at least in the short term.

Freddie Lait is CIO and founder of Latitude Investment Management

Bull Points

  • The UK market is a fantastic contrarian investment opportunity

  • One of the cheapest stock markets globally

  • Diversified global earnings stream and high cashflows

Bear Points

  • Brexit uncertainty persists

  • A Corbyn government would drive investors out of the UK

  • Sterling strength causes a negative impact to the stock market due to overseas earnings

Sony CEO Gives Cautious Profit Outlook as Loeb Seeks an Opening

Sony said its operating profit will likely fall this year and pulled its financial forecasts for most divisions because of substantial uncertainty in their operations.

Operating profit will be 810 billion yen ($7.3 billion) in the year ending March 2020, down from last year’s 894 billion yen and below the 843 billion yen average of analyst estimates compiled by Bloomberg. For the three months ended in March, operating income came to 82.7 billion yen, surpassing the 69.1 billion yen average projection.

Sony Chief Executive Officer Kenichiro Yoshida is known for providing conservative guidance, a practice he honed helping to lead the Japanese icon through a turnaround over the past five years. Still, he now needs to balance that caution with confidence to guard against activist investors like Daniel Loeb, who is once again circling the company. Sony vowed deep cuts in its troubled mobile division to help pay for the rising costs of developing a successor to its PlayStation 4 game console.

“We just need to see some stability,” said Freddie Lait, chief investment officer at Latitude Investment Management in London, which owns Sony shares. “If they can just demonstrate that earnings aren’t going to fall off a cliff, and they’re going to stabilize roughly here, the re-rating for the next three years could be very positive for the stock.”

Shares of Sony have fallen 2.1 percent this year prior to the results, compared with a 8.3 percent rise in the benchmark Topix. Japan is heading into a prolonged holiday, with trading in Tokyo restarting only May 7.

In a surprising move, the company pulled medium-term profit targets for electronics and entertainment that it had set less than a year ago. Chief Financial Officer Hiroki Totoki later told journalists that a major acquisition in music, big growth in game software sales, and losses in mobile made it difficult to predict future profits with enough certainty.

“Taking all of this, we thought that perhaps it would be a bit misleading to discuss only the 2020 fiscal year,” said Totoki. “For us, it is more meaningful to focus on the cumulative total.”

The company’s phone business, called Xperia, recorded a 41.1 billion yen loss in the latest quarter. But Totoki told reporters after the results the unit will speed up cost-cutting by shuttering production in Beijing and withdrawing from markets including the Middle East and South America.

Sony last month announced it will merge the Xperia unit with its other electronics businesses -- cameras, TVs and audio. It forecast an operating profit of 121 billion yen for the new division this fiscal year, up 58 percent from the prior period due to cost cuts in mobile.

In games, its most important unit, Sony forecast that operating profits will fall by 10 percent to 280 billion yen this fiscal year, citing rising costs in research and development of its next-generation console. It expects to ship 16 million PS4s this period, down from 17.8 million last year.

“The results weren’t as bad as the market feared,” said Makoto Kikuchi, founder of Myojo Asset Management Co. “Specifically in games, the market expected a very low forecast, but it came out just a bit lower. It shows that they’ve made games into a division which can permanently generate high earnings.”

The division faces a big challenge to top last year’s performance, when blockbusters like God of War drove record earnings. This year’s lineup consists of lesser-known titles, and Sony has said it won’t have a big presence at Electronic Entertainment Expo in June, where it has historically announced major games. Last week, the company said the PS4’s successor won’t go on sale this year, giving competitors a chance to win consumers over with new hardware.

Operating profit in chips will be 145 billion yen in the coming year, slightly higher from the 143.9 billion yen in the prior period. Despite a broad decline in smartphone shipments, Sony has weathered the slowdown as handset makers cram more of the company’s camera chips into each device.

“In the near term, growth in games and chips doesn’t look great, but Yoshida is building a good foundation for the long term,” said Yoshiharu Izumi, a senior analyst at SBI Securities Co.

Sony held 1.47 trillion yen in cash on its balance sheet as of March, mostly unchanged from December. In February, Yoshida authorized the company’s biggest-ever share buyback. More stock repurchases will be key to defending against activist calls for more aggressive measures, including asset sales.

“What I’m looking for from Yoshida-san is more stability, not necessarily huge growth from here,” said Latitude’s Lait.

Unilever posts solid start to 2019 with strong emerging market sales

LONDON (Reuters) - Consumer goods group Unilever is on track to meet its performance goals this year after strong sales in emerging markets led to a better-than-expected start to 2019.

The maker of Dove soap and Ben & Jerry’s ice cream said on Thursday it still expects underlying sales growth in the lower half of a 3 to 5 percent range this year. It also stood by its 2020 targets, which include reaching an underlying operating margin of 20 percent.

First quarter underlying sales, excluding acquisitions, disposals and currency moves, rose 3.1 percent. Analysts on average were expecting a 2.8 percent rise, according to a company-supplied consensus.

Growth was balanced, with a 1.9 percent contribution from higher prices, which is less than analysts expected, and 1.2 percent from volume gains, which is more than expected.

Emerging markets, where Unilever generates 58 percent of its sales, grew 5 percent in the quarter, offsetting a mere 0.3 percent gain in developed markets, which were hurt by economic uncertainty and intense price competition in Europe, particularly in Germany and France.

Rival Nestle also reported better-than-expected first-quarter sales on Thursday, with 6.3 percent growth in emerging markets far outpacing other regions.

Both companies highlighted strength in Brazil, saying that overall in emerging markets, they were able to raise prices and still sell more products. In developed markets, price increases often lead to slower volumes.

Lorenzo Re, senior analyst at Moody’s, said results from both companies showed the benefits of scale and diversification.

“Large globally diversified fast-moving consumer goods companies will continue to outperform regional players in Western Europe, where a weakening economy is hampering growth,” he said.

Unilever shares were up 2.9 percent in London at 1124 GMT, while Nestle shares were up 1 percent in Zurich.

Freddie Lait of Latitude Investment Management, a Unilever shareholder, said he was “impressed but not surprised” at the results, noting that large players often have the marketing budgets to win in emerging markets as consumers start to shop more online.

“This has been a solid start to 2019...which puts us on track for the guidance that we’ve given for the full year,” Chief Executive Alan Jope said, remarking on his first quarter as head of the Anglo-Dutch group. “We will be focusing on accelerating growth as our No. 1 priority.”

That focus includes launching new products and acquiring brands in fast growing areas like healthier foods and prestige beauty products. Unilever noted that the 29 acquisitions it has completed since 2015 added 70 basis points to first-quarter growth, with a similar lift expected for the year.

Turnover fell 1.6 percent to 12.4 billion euros (£10.72 billion), due to the disposal of its spreads business.

Reporting by Martinne Geller; Additional reporting by Silke Koltrowitz in Zurich and Simon Jessop in London; Editing by Mark Potter, David Holmes and Kirsten Donovan

Should Nervous Investors Buy Gold?

David Brenchley6 December, 2018 | 2:48PM

Gold could rebound in 2019, according to Adrian Ash at BullionVault. But there's a fellow precious metal that could be the most contrarian investment around at the moment

On the surface, gold has had a dreadful year. Looking at the price of the precious metal in US dollar terms – the currency it is usually denominated in – it is down 5% year-to-date to trade at $1,236 currently.

However, the reason for that weakness has very much been strength in the US dollar and continued rising interest rates in the United States. When you look at the gold price in both sterling and euro terms, it is flat on the year.

Rising equity prices haven’t helped, either, of course. Managed money continues to be as short gold as it has ever been. If equities are strong and you’re trying to run money on a quarterly returns basis for clients, you don’t really need gold, says Adrian Ash, at Bullionvault.

But there’s a strong case to be made for allocating part of an investors’ portfolio to gold looking ahead into 2019.

While some expect the Federal Reserve to keep ticking rates higher, many now see two rate rises in 2019 before a pause. With US growth expected to slow through the course of the year, the currency could reverse course, too.

Gold as a Hedge

Freddie Lait, manager of the Latitude Horizon fund, agrees. His fund has gone from having 5% of the portfolio in gold in July to 10% today. For sterling investors, gold has had "an incredible negative correlation" with global equity markets for the past year or so, he notes.

"I'm not a gold bug, but from time to time it makes a huge amount of sense," he says. "Right now, it's probably the best hedge we can find."

And for UK investors, Ash says the risks are so heightened, investors should be looking for some protection. “The risks are pretty obvious and the danger is everyone agrees the risks are obvious and discounts it,” he says.

Aside from the obvious risk of a hard Brexit, Jeremy Corbyn, seemingly, waits in the wings for the Conservative Government to fall – whether that be before or after the current date of the next general election in 2022.

Currently, adds Ash, markets are neither pricing in a bad Brexit nor the potential for a Corbyn Government, whether that be before, during, or after said bad Brexit.

“If you think you can go to bed on 28th March having taken zero insurance, then great. But I think there’s a serious risk of that being very complacent, almost as complacent as the markets were going into June 23, 2016.

“Obviously there’s a risk to gold if it all goes tickety-boo; that was also the risk going into the referendum. Gold and sterling had been a great trade in the first six months of 2016 and there was definite downside if the referendum went with remain.”

He notes that BullionVault has seen a recent uptick in allocations to gold by family offices and high-net-worth investors looking for a hedge. “Larger investors are anxious.”

And, despite global money managers shunning gold, Ash says we’ve not seen large outflows from those who have allocations to it. Those investors with long positions are comfortable with it.

“This year has put to bed my fears that I’ve had over the years that retail investors might turn tail out of gold as well on a price rise,” he explains.

The fear was that a rise to $1,400 would see retail investors selling out. That’s because many would have bought around that price in 2011-13 and have seen negative returns since.

“You’ve got people who got in at that level and have been under water for those six or seven years since. You could say that if you’ve bought gold in 2011/2012 it’s become a forever investment because it’s done so badly.

“But people have seen it go up and down in opposition to other things, so it’s kind of been doing its job. This year it’s done its job; if anything it’s done very well.”

What About Silver?

Silver is currently trading at around three-year lows, having fallen 15% in 2018. This means the gold-silver ratio, at around 85 times, is the highest it has been in 25 years. It reached 100 times in the early 1990s, but that was a historical anomaly, says Ash.

But Ash does not think that necessarily means silver is cheap. “I’m agnostic on the gold-silver ratio. Just because it’s at 85, doesn’t mean it has to go lower. And it might go lower because gold falls faster than silver; it doesn’t mean silver’s going to go up.”

Unlike gold, silver is primarily an industrial metal and, at the moment, Ash thinks that an industrial story that would re-rate the silver price is lacking. Platinum has the same problem, “with bells on”. That’s because platinum’s biggest use is in diesel cars.

“Now, there’s lots of good reasons to think that the diesel story is way overdone and there’s very good reasons to think that the battery electric vehicle story is way overdone,” says Ash. Still, demand for diesel cars is collapsing right now.

That story has served to boost palladium, which earlier this week became the most valuable precious metal, rising to a higher price than gold for the first time. That’s because palladium is used in catalytic converters for petrol cars, which are likely to mop up demand from those deserting diesel.

With palladium now trading at a huge $350 premium to the platinum price, Ash reckons the latter could now be very much undervalued. That said, he also thought that 12 months and two years ago.

“It’s easy to say here’s a great story about platinum – it’s horribly undervalued and the long-term outlook is much better than people think – but it could be quite a long time yet.”

While 10 to 20 years is a long time to hold a position in a metal, “if you’re really looking for a story about a contrarian opportunity, platinum would be it”.

Which Stocks Did Managers Buy in October's Sell-Off?

By David Brenchley - Morningstar

20 November, 2018

Black Friday may be slated for the last working day of this week, but it seems to get longer and earlier each year, as retailers desperately battle for consumers’ business. But for some stock pickers, the time to pick up bargains came even earlier than November.

After an indifferent start to the year where the US was the only market to deliver meaningful gains, global stock markets were hit for six once the notoriously tricky to navigate October begun.

The Morningstar US Market returned 9.1% in US dollar terms in the first nine months of 2018, but has given up almost all of those gains in the quarter to 19 November, losing -8.14%.

While Morningstar Emerging Markets in USD terms have performed better in Q4, with a loss of 5%, than in the first three quarters (-10%), all other major markets have struggled recently. Morningstar UK is down 7% so far, compared with -2.06% January to the end of September, and Europe down 7.3%, compared with -1.6% in the first nine months of the year.

On Europe in general – but these comments apply across most regions, too – Chris Hiorns, manager of the EdenTree European Amity fund, says the sell-off was caused by a combination of weak economic data from Europe and China and escalating geopolitical concerns surrounding Trump’s trade wars, Italy’s budget stand-off with the EU and ongoing Brexit negotiations.

As a result, growth sectors sold off sharply. Within this universe, Hiorns thinks the IT sell-off, particularly in semi-conductors, was justified given they were trading on very high multiples.

“However, the sell-off in industrials and consumer discretionary sectors was too indiscriminate, pricing in a severe economic slowdown on many value companies which were already trading on low multiples.”

Below, we highlight some companies that professional investors believe fell to attractive valuations during the sell-off and have either initiated a new position in or topped up their exposure.

Starbucks (SBUX)

While many managers just topped up holdings, for others the correction was a chance to snap up shares in companies they had been watching for a long time. For Freddie Lait, for example, it gave him an opportunity to make Starbucks the first new position in his Latitude Horizon fund in two years.

After a big run up back in 2015, when it appreciated almost 50%, the coffee chain’s share price had gone sideways for the past two-and-a-half years. That was until Q4 numbers disappointed in June and the stock fell 15%.

By early October, it had slightly recovered to $58 – still a four-month high – before falling another 5%. That’s when Lait took the plunge and bought.

For a stock to become better value, the share price does not have to fall dramatically, explains Lait. In the case of Starbucks, “the operating performance was improving dramatically, and the stock was falling slightly. That’s as good as a stock falling a lot and the business staying the same”.

In fact, the manager says he prefers the former, “because it gives you momentum when you buy into it”. In Q4 to date, Starbucks is up 20% to trade at a record high $67.

Facebook (FB)

Facebook has been a divisive stock for fund managers, with many selling out in the past year but others continuing to be positive on the prospects of growth.

Simon Edelsten, manager of the Mid Wynd International Investment Trust (MWY), was in the former camp. He sold the stock in December 2017 at around $182 and watched it fall to as low as $152 by March.

After that, it climbed back to an all-time high of $217 before plunging 40% to $130 today. And Edelsten has taken advantage and added Facebook back to his portfolio.

“We think the company has further to go in making its site more customer friendly, but while Facebook matures, Instagram and WhatsApp continue to grow,” he explains.

Smurfit Kappa (SKG)

Hiorns has been busy topping up his exposure to companies servicing the automotive sector, but looking throughout the value chain rather than at the obvious – chip makers and car manufacturers.

“There is a current soft patch in the European economy, mostly driven by the short-term impact of new emissions standards on the automotive industry, which should give way to a recovery in economic growth, business and consumer confidence,” he explains.

One UK company he likes on this theme is FTSE 100 firm Smurfit Kappa, which is a paper packaging manufacturer. Since the start of September, shares are down a third to an 18-month low of £21.31. They now trade on a forward price/earnings multiple of 9.4 times and yield 3.6%.

“Smurfit Kappa is well placed to benefit from the rise in e-commerce driving parcel volumes,” says Hiorns.

Diversified Oil & Gas (DGOC)

Many of the larger names were predictably vulnerable in the sell-off due to rising US Treasury yields prompting investors to reassess their risk-free rate assumptions and demand more for riskier assets.

But, as Jon Hudson, co-manager of the Premier UK Growth fund, notes, “babies always get thrown out with the bathwater in a stock market correction”, meaning opportunities crop up in parts of the market they maybe shouldn’t.

Hudson’s fund bought into AIM-listed Diversified Oil & Gas after the stock fell 15% from 124.5p in early October to what turned out to be a bottom midway through the month at 105.5p. They have bounced since to trade today at 111p, but still offer a compelling forward yield of 9%.

The firm floated on the junior market in February 2017 with an offer price of 65p. DGOC is predominantly a conventional gas producer in America’s Appalachian basin with operations in Pennsylvania, Ohio and West Virginia.

Hudson says it’s grown rapidly by acquiring assets from shale operators keen to focus on fracking. “US gas prices are on the rise due to storage levels being at a 15-year low as we enter the key winter heating season,” he adds.

Michelin (ML)

French tyre manufacturer Michelin, meanwhile, has been under pressure all year. After shares hit an all-time high of €130 in early January, they had sunk a third to as low as €85 by late October.

At around this point, the stock was trading on a forward PE of 9.1 times and offering a dividend yield of over 4%.

Continuing his theme, Hiorns says the firm “provides a relatively defensive exposure to the automotive sector, with the majority of sales coming from replacement tyres”.

Schneider Electric (SU)

Schneider makes industrial machinery and produces power distribution and automation systems for a number of industries. One of those is the automotive sector, where it provides electric car charging points, starter motors and other products.

It’s another that hit an all-time high share price earlier this year – €78 in late May – but has been under pressure since. The share price slipped a quarter to €58 a month ago, providing an entry point at 14.3 times forward earnings with a 3.6% yield.

“Schneider Electric is well positioned to benefit from increased spending on the green grid as we move more towards renewable generation and electric vehicles,” adds Hiorns.

Is overconfidence a curse for the top performing managers?

By Joshua Thurston - Citywire

Although ‘past performance is not a guide to future returns’ is the familiar refrain trotted out, we continue to deify top-performing managers and many are willing to talk about the drop off in a fund’s track record being solely down to their investment style being out of favour.

However, what very few talk about, but perhaps should, is whether the emotional state of a manager following a period of great performance is linked to their downturn. 

‘It is one of the trade secrets that we never talk about, the emotional rollercoaster that is the job,’ said Alan Custis, the Citywire A-rated Lazard Asset Management managing director and portfolio manager.

The first question worth asking is whether a fund manager’s overconfidence really can have an impact on returns.

‘Success does breed a degree of confidence. Time and again with high profile managers, if your stock selection has not been working, you intuitively become more risk averse; it is very difficult to stop yourself going that way,’ Custis said.

‘If you have had a good period of performance, you are more inclined to take more risk in the portfolio and those are effectively the seeds of the next downturn in your performance.’

Accept your limitations

In their discussion paper ‘Overconfidence in Investment Decisions: An Experimental Approach’, Dennis Dittrich, Werner Guth and Boris Maciejovsky, from the Max Planck Institute for Research into Economic Systems Strategic Interaction Group, stated that overconfident managers are often found to overestimate the precision of their knowledge. They are more confident of their predictions in fields in which they have self-declared expertise.

Latitude Investment Management’s Freddie Lait certainly thinks overconfidence can adversely affect managers.

‘What I often say is: overconfidence is quicksand for reason in the financial industry,’ he said.

‘When you become that overconfident and you have had some success, you stop doing the things that you knew were rational when you were struggling or when things were a little bit harder or more balanced.’

This is not to say he sees confidence in itself as necessarily a bad thing, however.

‘Confidence is very good, but overconfidence can be very bad, so what we say is we are highly confident in the process, but that does not mean that you should be overconfident in each individual investment.’

Trust the process

According to Lait, the way to avoid falling into the trap of overconfidence is by sticking to your investment process no matter what.

‘Suppose you and I have a £10 bet on the role of a die: if you roll one, two, three or four you win and if I roll a five or six I win, you should take that bet. But, on a single dice roll, you cannot be confident, because there is a third of a chance you will lose all of your money.

‘However, over 100 rolls you can be exceptionally confident and you could almost guarantee that you were going to win. That is the way we think about process.’

Dittrich, Guth and Maciejovsky’s findings seem to support Lait’s view on the importance of process. They demonstrated that the overconfidence of investment managers also increases with the complexity of a task. Therefore, it follows suit that sticking to a singular process can help fund managers rein this in.

Lait said: ‘We have a process that has all of the building blocks that should give us a better chance of success or should give us four out of six on that dice roll. That is how you conquer overconfidence, so you are detached from each individual investment.’

The right team

Beyond relying on a process, Waverton fund manager Will Hanbury says that surrounding a manager with the right team can really help.

‘We do suffer from confirmation bias; we tend to look for arguments that support our views,’ Hanbury explained.

‘People have a tendency to love or hate things and when you are in investing, this can be very damaging, especially with people holding stocks that have done very well.’

Hanbury is backed up by behavioural finance research which, as Arman Eshraghi and Richard Taffler explain in their ‘Fund manager overconfidence and investment performance: evidence from mutual funds’ study, assumes investors are often subject to behavioural biases that can negatively affect their financial decisions.

Eshraghi and Taffler go so far as to suggest ‘the investment industry as a whole, and fund trustees in particular, can also benefit from introducing some type of psychological screening in the fund manager selection process’.

They point out that the hiring of fund managers is traditionally heavily dependent on the manager’s past performance record, when more detailed profiling of individual’s thought processes and behaviours in different scenarios would be more beneficial.

‘We argue that by adding certain psychological attributes to the list of critical factors in hiring fund managers, investment companies can raise their chances of recruiting more “successful” managers,’ the pair wrote.

‘Psychometric tests attempt to measure the abilities, attributes, personality traits and various skills of the candidates under consideration for particular vacancies.’

Challenging established views

Aside from this, one way Hanbury highlighted to mitigate excessive self-confidence in fund managers is by having a team of analysts who can genuinely challenge their established views.

Custis agrees, pointing out that having an analyst’s input is clearly a counterweight, noting a committee of one is not as good as a committee made up of a number of people when it comes to making a decision.

Although the danger of becoming overconfident is present, Custis does see the job itself as self-regulating to an extent.  

‘What you have is a job in which your periods of complacency are comparatively short, because as night follows day, you know what you have is going to stop working at some point.’

He said that even during a patch of good performance, managers can be certain that it will not last forever, as investing in the markets is like investing in a living organism and every-day things change.

‘So you are trying to constantly work out what it is that is going to change and how your portfolio will be impacted as a result of whatever changes keeps us/me awake at night. That’s the job,’ he added. 

Witan backs Latitude in quest for next star fund manager

Witan (WTAN), the global ‘multi-manager’ investment trust, has begun to back the next generation of fund managers with a new mandate to boutique Latitude Investment Management.

The investment represents the first in a new category under which Witan chief executive Andrew Bell and investment director James Hart can invest up to 2.5% of their £1.9 billion portfolio in up-and-coming fund managers.

Bell and Hart are allocating around 0.7% of Witan, or between £10 million and £15 million, to Latitude, which was founded by global stock picker Freddie Lait (pictured) in 2016. Lait who formerly managed the Odey Atlas fund, received backing from Odey Asset Management to launch the business and took the fund with him, which has since been renamed the Latitude Horizon fund.

The fund targets lower volatility and takes a high conviction approach. It currently allocates around 45% to equities, with the remainder in other asset classes. Latitude Horizon has returned 4.7% over the 12 months to the end of March, which compares to 1.7% by the average fund in the flexible sector.

The Witan mandate will be based on the global equity portion of the Latitude Horizon fund but won’t be an exact mirror, Hart said.

Hart added that the allocation does not reflect a desire to increase global equity exposure, but rather is a way to get exposure to a fund manager at an exciting stage in their career.

'One of the reasons we started thinking about this is because there are a number of managers – around London, the UK and the rest of the world – who are at a similar stage in their development but are quite far below the radar. It is not easy to find really talented people who have not hit the headlines,' Hart (pictured) explained.

The new position will sit in Witan’s ‘direct holdings’ allocation, which has been the best performing part of its £1.9 billion portfolio in the past two years. It is anticipated that the new allocation to rising stars will be spread across two to five managers.

‘This is no compulsion for us to use this, but it is an opportunity for us to take advantage of investing with managers who are newly established or not well known at this stage,’ Hart said.

The team is willing to invest in managers who may not have a long track record or have recently set up their own business where they are impressed with their process and intellectual rigour.

Witan’s existing global equity exposure comprises of mandates run by Lansdowne Partners, Pzena and Veritas. Last year, the team reduced the number of global managers in the portfolio from five to three , after selling out of MFS and Tweedy.

Over the past five years, Witan's share price has risen by 94.8%. This compares to a 125% increase by the average fund in the Association of Investment Companies' global sector. 

Witan currently trades at a 1.2% discount to net asset value, which compares to an average discount of 1.4% across the global sector.

Witan hands mandate to boutique investment manager

Witan Investment Trust has made an initial investment into a global equity strategy run by Latitude Investment Management.

The allocation, which was between £10m-£15m, follows the announcement in Witan's annual report of its plans to allocate up to 2.5% of its assets in smaller mandates to more recently-established third party firms.

The trust runs £2.1bn on behalf of over 25,000 investors using an active multi-manager approach, typically using around ten different investment managers.

The allocation to Latitude, which was spun out of Crispin Odey's Odey Asset Management in 2016, was an investment in the firm's absolute return-focused Global Long Only Equity strategy.

Witan investment trust appoints Crux AM and SW Mitchell to run new European mandate

Latitude's CIO and founder Freddie Lait said the allocation "builds on our marketing efforts to date, and our desire to have a diversified client base across both wealth managers and institutions".

He added: "The Global Long Only Equity strategy is a great opportunity to broaden our offering to clients and we have received very positive feedback on our fundamental investment process."

Tesco and Booker shareholders give marriage blessing

By James Davey, Alistair Smout

LONDON (Reuters) - Tesco’s 4 billion pound ($5.5 billion) takeover of Booker was overwhelmingly backed by shareholders of both companies on Wednesday, clearing the final hurdles to the creation of a new powerhouse in Britain’s 200 billion pounds-a-year food market.

A company logo is pictured outside a Tesco supermarket in Altrincham northern England, April 16, 2016. REUTERS/Phil Noble/File Photo

Investor approval, which followed the regulatory green light in December, means the cash and shares deal to combine Tesco (TSCO.L), Britain’s biggest retailer, with Booker (BOK.L), the country’s largest wholesaler, is set to complete on March 5.

The support is a personal victory for Tesco Chief Executive Dave Lewis, who stunned the market in January 2017 with an agreed deal with Booker that was originally valued at 3.7 billion pounds.

He won the argument despite dissent from some Tesco and Booker investors and from his own board, with critics on both sides unhappy over the price being paid and the potential for the tie-up to disrupt operations. The late Richard Cousins resigned in protest as senior independent director at Tesco in January last year.

The takeover is the boldest move yet by Lewis, who took over in 2014 shortly before an accounting scandal plunged Tesco into the worst crisis in its near 100-year history.

Booker says shareholders back Tesco takeover at scheme court meeting

At a general meeting of Tesco investors, 85 percent of votes cast approved the deal. At two Booker shareholder meetings - a scheme court meeting and a general meeting - 84 and 83 percent respectively of votes cast backed the takeover, easily passing the required 75 percent threshold.

“The successful approval of the Booker deal levels one of the main pillars of uncertainty surrounding the Tesco investment case,” said Freddie Lait, chief investment officer and founder of Latitude Investment Management, a Tesco investor.

Shares in Tesco closed up 1.8 percent, while Booker was up 1.6 percent.

“By coming together Tesco and Booker will be able to unlock growth in the food industry in a way that neither could do so easily alone,” Tesco Chairman John Allan said at the retailer’s meeting in central London, attended by just 65 shareholders, with most votes cast by proxy.

Already the dominant player with a 28 percent share of Britain’s retail grocery market, the takeover provides Tesco with greater access to the “away from home” part of the food sector - something that angered competitors who failed in their attempts to convince regulators to block the deal.

That market is worth 85 billion pounds and growing at over 3 percent a year.

Tesco also expects the deal to provide pretax synergies of 200 million pounds per annum after three years.

Booker serves 450,000 caterers and small businesses, and counts chains Carluccios, Wagamama and celebrity chef Rick Stein as clients. It also owns about 200 cash and carry warehouses and supplies 120,000 retailers, including the Budgens, Londis, Premier and Family Shopper chains, which are run as franchise operations.

‘JOINING FORCES’

The combined business will on Monday kick off a plan that Allan said was called “Joining Forces”.

An initial 90-day program would carefully bring Tesco and Booker together. “They are both performing very well at the moment, we don’t want to do anything that will actually take the wheels off either business,” he said.

Allan also reassured investors the deal was not the start of a buying spree. “It’s an important move which we will get the best out of over the next few years before we think of moving on to anything else,” he said.

Tesco’s move on Booker has, however, sparked more consolidation in the UK grocery market as supermarkets seek additional sources of growth and uses for excess capacity in their supply chains.

Last year the Co-operative Group (42TE.L) bought the Nisa convenience chain, while Morrisons (MRW.L) sealed a wholesale supply deal with the McColl’s (MCLSM.L) chain.

 

M&A Boom Fuels Spin-Offs

Corporations are spinning out parts of their businesses to boost performance as the equity bull market (despite recent volatility) drives the appetite for deals.

Groups including Dutch telecommunications group Altice, US conglomerates Honeywell  and General Electric, UK oil major BP and French luxury group Kering are considering setting up independent companies for some of their activities as a way to generate value for shareholders.

While spin-offs or spin-outs are not new, analysts have linked increased interest in them to a burst in mergers and acquisitions activity.

“The general boom in M&A drives spin-out activity for two reasons,” says Freddie Lait, managing partner at Latitude Investment Management. “First, companies who believe their stock is undervalued, often because they have a few distinct businesses within their company, can spin off a division and unlock some of the part’s value. The second is that, when enacting large-scale M&A, regulators often enforce competition rules which require tweaking of the corporate structure.”

According to Deloitte’s 2018 M&A trends survey, more than 60% of US executives said they expect the number and size of deals to increase. Seven in 10 said they plan to divest businesses in 2018 because of financing needs and changes in strategy.

“M&A activity globally is very high, which is common in the late stages of an equity bull market as both private equity and corporate owners look to cash in on rich valuations,” Lait explains. Despite recent signs of higher volatility and occasional pullbacks, most analysts don’t see an end to the bull run anytime soon.

Another appealing factor to spin-offs is that they tend to perform well. “Investing in spun-off businesses is frequently a strategy which outperforms the market,” says Lait.  “Provided the businesses are straightforward and you can understand the logic for why they have been spun out, [it is] a smart place to look for value ideas in an otherwise expensive market.” 

S&P Global Market Intelligence ‘Altice USA Shares jump as investors look forward to independent future’

Investors seem to be optimistic about Altice USA Inc.'s future as an independent entity. 

Shares in Altice USA ended the day up around 10% on Jan. 9. Altice NV said late Jan. 8 that it plans to sell its 67.2% interest in Altice USA to Altice NV shareholders, structurally separating the companies. Altice USA CEO Dexter Goei explained during a Jan. 8 conference call that the split, set to close sometime in the second quarter of this year, will "significantly simplify the way each group operates" in terms of responsibilities and decision-making processes, a change that Goei believes will "add significant value."

According to multiple analysts and industry observers, the primary benefit of the transaction is that it will shield Altice USA from the difficulties the parent company has been facing with its European operations. "The Altice NV story, particularly in France, was problematic," MoffettNathanson analyst and long-time cable analyst Craig Moffett said in a Jan. 9 research note emailed to clients. He noted that the European business has been aggressively cutting costs to better compete in the French wireless market, leading to misses on revenue growth and heightening concerns about Altice NV's heavy debt load, which ended the third quarter of 2017 with €49.56 billion in net debt.

According to Moffett, Altice NV's debt had come to cast a dark shadow on Altice USA due to "concerns that the U.S. might somehow be called upon to bail out a weakened European parent."

Pivotal Research Group CEO and Senior Media and Communications Analyst Jeffrey Wlodarczak agreed, saying one of the "biggest overhangs on the U.S. business" was "the potential for the struggles in the French business to bleed into the U.S. business." He added that the spinoff "eliminates that issue."

Kagan analyst Tony Lenoir said there were multiple reasons to believe the time is now right to separate the U.S. and international business, noting that Altice NV's debt load has been "weighing heavily on the group's share price in the last six months." In terms of the planned spinoff, Lenoir explained, "I think Altice's top brass decided it was time to insulate Altice USA from the difficulties the conglomerate, Altice NV, is facing across its international footprint, particularly in Europe." Kagan is a research group within S&P Global Market Intelligence's technology, media and telecom offering.

But Freddie Lait — founder and chief investment officer at Latitude Investment Management, a boutique firm focused on global stocks that follows a long-only investment strategy — noted that the move not only stands to benefit Altice USA but also will help Altice NV.

"This spinoff will certainly go a long way to steady people's nerves and to allow [Altice founder Patrick] Drahi to continue to expand in the areas where he wants to in a more balanced way. The debt levels have been a real concern to me and other investors, and to see an attempt to reduce this burden is a clear positive," Lait said in an interview.

In connection with the split, Altice USA will distribute a special dividend in cash of $1.5 billion, of which Altice NV will receive €900 million. Altice Europe will use €625 million, or 69%, of its proceeds from the Altice USA special dividend to repay debt, while retaining €275 million on its balance sheet. "Altice Europe will remain highly disciplined and will not pursue any meaningful stand-alone M&A opportunities and will use excess cash flow to reduce its indebtedness position," Dennis Okhuijsen, who will serve as CEO of Altice Europe after the split, said during the Jan. 8 conference call.

One question for investors following the U.S. cable business is whether the company will pursue further M&A in the near future once the spinoff is complete. Asked about the company's plans during the conference call, Goei said that while the company is "long-term ambitious" about consolidation, "There's clearly no near-term focus here on M&A."

In the immediate future, Goei said Altice USA will remain focused on building out its fiber-to-the-home network. The cable company has announced plans to build a fiber-to-the-home network over a five-year deployment schedule that began in 2017. Altice expects to reach all of the cable footprint it acquired from Cablevision Systems Corp. and most of the footprint it acquired from Suddenlink Communications during that time frame. In addition, Altice USA is moving forward on its plan to launch a wireless offering through its mobile virtual network operator agreement with Sprint Corp. With the MVNO set to launch later this year, Goei said, "We have a lot of other stuff going on internally, [and] we don't want to take our eye off the ball."

But Goei also did not rule anything out. "To the extent that medium-term things become open to us, of course we'll be looking at it," the CEO said.

A quick guide to diversifying your investments

By Freddie Lait at Latitude Investment Management | Thu, 19th October 2017 - 12:21


Diversifying your investments is easier said than done, but do it you must. In order to generate sustainable long term returns investors must do more than simply ride trends or invest in the latest exciting themes.

Choosing a variety of investments will ensure a more stable and predictable source of future returns, especially when focussing on stocks which are fairly valued, have high quality business models and strong industry backdrops.

Beyond that, investors need to consider further diversification through their asset allocation. This deserves an enormous amount of thought, far more than it often receives. Various academic studies point to the fact that more than 80% of portfolio returns come from asset allocation. Below I offer a simple way to frame the thought process and some tips for specific non-equity strategies tailored to your specific portfolio.

Behaviourally we are all loss-averse, albeit to different degrees. At Latitude, we are consciously quite risk averse and aim to construct portfolios which, under normal circumstances, shouldn't suffer worse than a 10% drawdown. And by normal, we don't mean "except for the bad bits".

We invest with the permanent expectation that there is always the potential for unforeseen events in the near future which could cause stock markets to fall 30% or more. Indeed, over the last century stocks have lost more than 30% in value roughly once every decade, and we need to be prepared for that.

Without the power of diversification, this fact would imply a target allocation of c.30% in stocks and the remainder in cash, a very unsatisfying position. A portfolio with this allocation (assuming no alpha from successful stock picking) would have generated negligible real returns in the long term, assuming average returns from equities of 8-9% versus a long-term inflation rate of 3%. We need to do better and, fortunately, we can, thanks to diversification.

William Sharpe famously proved that adding a risky asset to an investment portfolio reduces your total risk exposure provided the risks of that asset and the original portfolio are sufficiently different. It is well documented that such differentiated or uncorrelated assets (such as government bonds for example) are currently overpriced and, as such, often increase risk despite, on the surface, appearing to reduce it.

This is true for most traditional Strategic Asset Allocation models, and the much-admired balanced funds of stocks and government bonds may have had their day. However, since the financial crisis we have continued to find assets that significantly reduce the risk of our equity portfolio and incrementally add to the returns we generate. The key is to think about such assets in relation to your own portfolio, and use them tactically.

If, for example, you are worried about the effect that political uncertainty will have on your companies, owning 5-10% of gold has been shown to frequently mitigate losses during uncertainty induced sell offs.

If your portfolio of highly valued consumer staples stocks has performed well, but you are not yet willing to sell the positions, perhaps including some Index Linked Gilts would makes sense. That would offset any losses you may suffer should those stocks de-rate in a highly inflationary environment

If you are worried about a broader economic slowdown or recession, then the simplest diversifying asset will likely be conventional government bonds as rates may well be cut, driving yields lower once again and the price of these bonds higher.

We believe that diversification within your stock portfolio is the most critical place to start, but that value can also be added (both in terms of risk reduction and return enhancement) through the tactical use of non-equity investments, if tailored specifically to your portfolio.

If we return to our earlier inadequate allocation of 30% stocks and 70% cash, the above principles would instead make us comfortable investing around 50-60% of our assets in stocks, provided we have the remainder invested in diversifying non-equity assets similar to those above.

The result is a portfolio with higher expected returns, despite taking similar or even lower levels of risk. A true understanding of this alchemy is what sets successful long-term investors apart from the crowd.

Freddie Lait is founder and CIO of Latitude Investment Management and Investment Manager of The Latitude Horizon Fund.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Easy tips for creating a successful investment portfolio

Where do you start if you want to create a truly long-term portfolio? If you don't have the patience to hold a stock or fund for three to five years please turn away now. Those of you still here, you have the upper hand.

Patience is the golden rule of investing. If you can master longer-term thinking then you gain a number of advantages and avoid a number of pitfalls. Time horizon is the crux of the difference between long-term fundamental investors and financial speculators. It relies on determination of future value, not just future price, and on analysis of business models and process, not sentiment or short-term distractions.

So, why is it important?

Everyone (and that includes you and me) is hard wired to make bad decisions. These common mistakes are called behavioural biases and in no other field do they present themselves more frequently than investing.

It is not essential that investors study all of these biases but, in the same way that a few simple principles help sportsmen improve their swing, it is essential that you know what you might be doing wrong, and how to correct it.

So, what are the common mistakes and how does long-termism help?

The first point to make is that everyone believes they are better than average. Once a common pitfall is explained, the majority of investors believe awareness leads to sufficient prevention. It does not.

Take for example a fact of which I am certain - most investors are no better than average at predicting the future, and most admit as much. A logical conclusion is that most investors should never predict the future. It's futile. Yet almost everyone, to a greater or lesser degree continues to attempt the impossible. This is, quite plainly, referred to as "overconfidence bias".

Making investment decisions which play out over many years without making predictions about the future may sound like a contradiction, but it is far from it. Wise investors accept that they can't see the future and restrict themselves to doing things that are within their power. Principally this includes:

  • Analysis of business and industries (or funds and fund managers)
  • Avoiding emotional biases
  • Behaving countercyclically

Paradoxically, thinking long term means predicting less about the future and focusing on where we are. This way we gain insights about what, in a highly unpredictable world, really matters.

The first implication of long-term investments is that we should buy better businesses, which we believe will survive and thrive into the future. Analysis should focus on whether a company operates in an industry in which I would like to run a business.

Excessively precise estimations of the future ignore the huge role that randomness plays. Critically the fact that the future is highly random means what matters most is having the right initial conditions to succeed. As a result, analysis should focus on process, and people.

A second implication of long-term thinking is that if we are agreed that few of us can predict the future with any accuracy then the greatest risk to investors is not what lies ahead, it's what lies within.

Portfolios often become thematic or style-biased in the hope that this high conviction differentiation will lead to long-term out performance. The result is essentially a concentration of risk; a dangerous build-up of latent downside potential should those high conviction ideas turn sour.

This is true also for portfolios which only invest in one "type" of company such as consumer staples. This not only leaves them susceptible to sharp draw-downs, but it also seriously impacts future expected returns as your opportunity set is dramatically reduced.

At Latitude, for example, our process is explicitly designed to construct a portfolio which is style-agnostic and not exposed too heavily to any one theme or macro outcome. We focus on companies' business models, what it takes to succeed in the long-term, and the current and likely future outlook for the industry in which they operate.

The result? A portfolio that is better balanced to deal with any random and uncertain future, and better positioned to avoid falling foul of over trading or excessive reliance on forecasts.

We have all heard the phrase to "think like a business owner" when choosing stocks, and this sage advice applies just as much to overall portfolio construction. Constructing an investment portfolio is like building a business, it takes time, patience and disciplined application of a sound process.

Consider your portfolio as a conglomerate business - like Warren Buffett's Berkshire Hathaway (BRK.A). It's helpful to have multiple sources of return, and we suggest a few key areas of focus below:

  • some high cash flow mature businesses (dividend focus, staples etc)
  • some high growth disruptive businesses (technology, possibly biotech etc)
  • some cyclical businesses (ensure you purchase countercyclically, perhaps oil and gas and mining; we have US banks)
  • some defensive businesses (because you always need some portion to do well through a recession, and you will not successfully time the recession)

Moreover, it's ill-advised solely to focus on stocks. Well-timed investments in bonds, index-linked bonds, gold and currencies can hugely improve the risk and return profile of your portfolio, often allowing you more flexibility to hold stock positions for longer than otherwise may have been the case.

Finally, don't be afraid to hold cash when opportunities do not present themselves, allowing yourself to act countercyclically when there is panic in the market and stocks are trading at discounted prices.

So, the ideal portfolio is one which balances its sources of return across stocks with different business models, uses funds and stocks to achieve investment aims.

In conclusion, investors often need to take a deep breath and step away from the bustle of the market in order to make sensible decisions about their future.

We have narrowed down some simple tips that any investor needs in their pursuit of investment success, whether you invest yourself or prefer to choose other fund managers to do it for you. All of them stem from the key principle of taking a long-term view, so if you keep one thing in mind, let it be that and the others should follow.

Stop focusing on forecasting the future or timing the market and focus on achieving a well-balanced long-term portfolio. Having a set of principles which help avoid common behavioural pitfalls helps you achieve this goal.

Simply focusing on these points will dramatically improve your chances of success. If you decided to choose other funds to invest your savings for you, then use these principles as a yardstick against which all good managers investing on your behalf should conform.

Never focus on outcomes alone, because long-term performance, without a consistent and sound process, is genuinely not a guide to future returns.

Freddie Lait is founder and CIO of Latitude Investment Management and Investment Manager of The Latitude Horizon Fund.


This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

FE Trustnet - Busting the five big myths around absolute return frameworks

Former Odey fund manager Freddie Lait, who heads up the Latitude Horizon fund, breaks the misconceptions many investors have about how risk-adjusted return funds should operate.

By Lauren Mason, Senior reporter, FE Trustnet

Bottom-up stock selection, double-digit cash weightings and the avoidance of any short positions or derivatives are not strategies commonly associated with funds that have absolute return frameworks. But, for Latitude Investment Management’s Freddie Lait, these ideas are key components of his Irish-domiciled DMS Latitude Horizon fund.

The manager, who ran money at Odey Asset Management for several years before launching his own boutique business, focuses on portfolio diversification as opposed to leveraging or shorting in a bid to achieve the highest possible risk-adjusted returns for investors.

This is in stark contrast to many well-known absolute return mandates – such as the behemoth Standard Life GARS fund – which tend to use a combination of traditional assets, advanced derivative techniques, pair trading and short positions to minimise volatility for their clients.

Performance of sector vs index over 5yrs

Source: FE Analytics

In the below article, the manager busts some of the assumptions many investors have about funds with absolute return frameworks and how they should minimise risk for investors.

Funds with absolute return frameworks shouldn’t have concentrated portfolios

Many absolute return, total return and diversified growth mandates run hundreds of positions across numerous asset classes at any one time to ensure their clients are covered on all grounds. 

Lait’s fund adopts a far more concentrated approach, however, with its equity allocation (which currently stands at 43 per cent of the portfolio), consisting of around 20 stocks. In fact, the fund’s top 10 equity holdings account for more than 28 per cent of the overall portfolio.

“We only own 20 stocks so it’s a very high conviction portfolio, but they are very diverse. We don’t follow thematic investing, which has become a bit of a buzzword,” the manager (pictured) said.

“A majority of people that I’ve found who are trying to defend active management defend it by taking bolder bets within active management, so they may take a large bet on one particular outcome or theme such as reflation.

“They tend to work as much as they don’t – the industry is full of people who are right once in a row. You can get those big calls right with your stocks, but then all you need to do is get one or two wrong and you have permanently impaired your shareholder’s capital in quite a meaningful way.”

Alongside equities, the fund has allocated capital to gold, emerging market debt, inflation-linked bonds, emerging market currency and cash.

Concentrated absolute return-framework funds aren’t diversified enough

While DMS Latitude Horizon has only 20 equities accounting for more than a quarter of the overall portfolio, Lait said it is still diversified enough to achieve strong risk-adjusted returns.

For instance, he will never hold a style bias within the portfolio in a bid to minimise drawdowns when they fall in and out of fashion.

“It’s about diversifying using across as many axes as you can think of,” the manager said. “We hold some things which are doing really well and some things which are not, and we don’t mind that.

“It is always going to be the case that stocks, even when the underlying business is doing fantastically, will have a couple of years where they can underperform quite substantially or lose a lot of money in the share price.

“We think about it more by business model as opposed to sector or region, because if you buy Unilever for example it’s not a UK or Dutch stock, so region is difficult.”

In terms of diversifying by sector, Lait said it is also possible to find a highly-defensive stock within a cyclical industry, which means it is therefore more important to focus on a company’s fundamentals first and foremost.

“We look at cyclicals and defensives, we look at turnarounds as well where businesses have been misunderstood or are undergoing corporate change because we can take that longer-term view,” he reasoned.

Examples of the fund’s largest equity holdings include Unilever, Alphabet, Nokia and Tesco.

Performance of UK stocks over 5yrs

  Source: FE Analytics

Absolute return frameworks should always be fully invested

Many investors believe absolute and total return funds shouldn’t need to hold cash, as their chosen strategies should protect them from any downside. However, DMS Latitude Horizon currently has a hefty 22 per cent cash weighting.

While the track record on the named fund only dates back to November last year, its high cash level isn’t simply because its capital hasn’t been fully deployed yet (the mandate was carried over from Odey, when it was named CF Odey Atlas).

“That is a true reflection of where I stand today. That’s a sign of there being less than we want to buy,” Lait said. “If I could, I would probably want to put 10 per cent of that into equities but we can’t find anything at the moment and I am patient and will wait.

“To invest countercyclically is one of the key things for a long-term investor as well. You have to wait for those prices to come and that can take years. We will run with levels of cash at times, although this is probably as high as it will get to at any point.”

The manager described cash as a “great asset” because it allows him to utilise any market opportunities when they do present themselves. He also pointed out that it is better to hold cash than buy into assets he doesn’t truly believe will benefit investors over the long term.

“Patience is very important and our current cash level is a sign of that. Investors would need to be patient with that but I think it’s a great asset. For funds which can’t leverage, using cash as a tactical asset class is very relevant,” he added.

Absolute return frameworks need to use derivatives and long/shorts to minimise risk

Holding short positions allows managers to diversify their portfolios and make positive returns during falling markets. The use of other common absolute return strategies, such as pair trading, can also offer a portfolio market neutrality.

However, Lait has chosen to run a long-only mandate and argued there are several advantages to this.

“Firstly, additional fees and costs such as roll costs and option premium costs go into some of these more complex derivative strategies,” he explained.

“I have structured funds using them in the past so I really do understand them quite well. There’s a lot more money in those types of trades for the house than for the client.

“I think the overall fee for a more complex fund is going to be higher, so even if I’m just a similar level of ability to that manager, I think my return will be higher by virtue of not taking so much out.”

Lait added that a long-only strategy allows him to focus more on the individual components of the portfolio and trade less frequently.

“We can take that long-term time horizon and have that focus and patience to invest for the long term,” he continued. “We can say the only driver of price is value in the long term, whereas other funds could be focused on what is going to drive prices over the next quarter or so, whether it’s earnings revisions, sentiment or momentum.

“The only thing we’re going to be spending our time focusing on every month is value. If we see prices substantially below value we will invest, otherwise we won’t.”

Funds with absolute return frameworks shouldn’t hold too much in equities

Equities are traditionally renowned for being one of the highest-risk asset classes and, as such, many investors can be sceptical about funds with absolute return frameworks that have large equity weightings in their portfolios.

“As far as I’m aware, there’s never been a 20-year period where you’ve lost money on equities,” Lait said. “People say that the fact there’s no other alternative is not a fundamental reason to hold equities, but it’s actually a pretty good fundamental reason to think about allocating for the long term.

“You do not want to own bonds for a long period of time most probably and, if you do, that implies that bond yields are going down further not higher, so almost certainly back to zero.

Performance of index over 5yrs

  Source: FE Analytics

“In a scenario where you do want to own bonds, you should want to own equities more because, even if they’re trading expensively today on – for instance - 16x earnings, that’s a 6.6 per cent earnings yield and it’s growing, it’s inflation-protected and, if you’re buying global companies, you are not at the mercy of one government regime or any targeted regional risks.

“You’re just in a much more sensible asset class which, on a relative basis, is looking increasingly attractive.”

While the fund has existed for more than six years, Lait significantly restructured the portfolio in November last year. As such, our data from FE Analytics only shows performance data stretching over the last few months.

 

 

City A.M - Will Tesco need to sell off stores to win Booker deal approval?

Pressure is building on Tesco and Booker after it was suggested that the former might be forced to sell off hundreds of small stores as they face an “uphill battle” to win competition approval.

Concerns around whether the deal can win Competition and Markets Authority (CMA) backing has emerged after two of Tesco’s biggest shareholders, Schroders and Artisan Partners, last week spoke out against its £3.7bn takeover of Booker.

Matt Evans, a competition partner at law firm Jones Day, said that in order to convince the CMA to allow the deal past a phase one investigation Tesco might have to sell a number of stores, probably Tesco Express outlets.

One challenge facing the firms will be convincing the CMA that Booker does not control its “symbol stores”, which are run by independent shopkeepers under the company’s brands, including Londis and Budgens, Evans told City A.M.

He added: “My hunch is that divestments will be needed, but Tesco has a shot at avoiding it come the end of a phase two review.”

“If the CMA clears the deal outright, assuming that it agrees with the Tesco-Booker stance, I think there would be a degree of uproar,” Shore Capital retail analyst Clive Black told City A.M.

“Given how the CMA has got into the very narrow details of the retail industry in recent years, it would be almost unthinkable that they could wave this through [without concessions].”

He added: “I don’t think it’s fanciful to suggest that the combined entities may have to dispose of quite a lot of space. And that would then cause a rethink of the whole merits of the deal.”

Senior industry sources told the Telegraph they thought the deal will give the combined group too much influence over the UK’s food supply. The Sunday Times reported over the weekend that Lansdowne Partners, Axa and Jupiter have strongly reduced their stakes in Booker since the Tesco deal was agreed at the end of January.

After it emerged that Schroders and Artisan were unhappy with the deal last week, Freddie Lait, the founder and chief investment officer of Latitude Investment Management, which holds a stake in Tesco, told City A.M.: “The timing of the merger is difficult for current Tesco shareholders to digest as it is a clear distraction for management, and will result in inevitable integration costs and other frictional issues.

Therefore, it is likely that the underlying turnaround story which was making solid progress will be masked or delayed to some extent.

However, there is certainly strategic merit in the deal that positions Tesco in front of a new customer base which is growing faster and appears to be far more resilient than their underlying big box retail business.

At this mature stage in the supermarket sector’s life cycle, consolidation and vertical integration are essential, and will add benefits in the longer term through further cost cutting, increased scale and greater diversity of customers.

Tesco and Booker declined to comment.

Ex-Odey manager Lait challenges 'complex' AR sector

By Laura Dew, Investment Week

Odey Atlas fund been renamed

Former Odey AM manager Freddie Lait has restructured the absolute return fund he brought with him to start-up venture Latitude Investment Management, as he believes the long/short structure is no longer suitable for the vehicle. 

Originally known as Odey Atlas, the fund has now been renamed Latitude Horizon and is a long-only diversified growth product, targeting an absolute return with low volatility.

Lait (pictured) previously ran the fund in this structure for three years at Odey before it became a long/short vehicle in 2014. 

Now running his own firm - Latitude Investment Management - he has chosen to switch it back to being long-only as he feels this is a better option for investors.

Lait said: "This is a better strategy as it has lower turnover, no macro calls, lower fees and strong fundamental analysis. You can achieve better returns without the need for being long/short."

Latitude was set up earlier this year and Lait managed to complete the process in around seven months, despite the drawn-out regulatory process involved.

"I was previously running the fund at Odey but it was not a strategy they wanted to champion. But this is a fast-growing sector which is clearly in demand and it was a great opportunity to launch my own company and be a credible contender," he said.

"It has been fun but very challenging. I first spoke about it in April and have been very lucky by being well supported. The regulation was hard but it is not insurmountable. Finding clients has been difficult but we are gaining traction."

Lait benefitted from being able to bring across his fund from Odey and the firm also backed him as a minority investor in Latitude.

Following the Financial Conduct Authority's Asset Management Market Study and its criticism of absolute return funds, Lait highlights his fund does not charge a performance fee.

Going forward, Lait believes his fund is scalable, targeting investors who reject the complexity of rival absolute return funds and want a product they can understand.

"We are singing the mood music of the current market environment. We have ambitions to grow and build out the team, and we expect to make hires over the next few weeks."

Morningstar - What Returns Should Investors Expect from Markets?

As market risks rise, investors must adjust their profit expectations - gone are the days of 8% returns. But there are still growth opportunities out there if you know where to look.

Interview by Emma Wall, Moringstar


Emma Wall: Hello, and welcome to the Morningstar series, "Why Should I Invest With You?" I'm Emma Wall and I'm joined today by Freddie Lait, of Latitude Investment Management. Hi, Freddie.

Freddie Lait: Hello.

Wall: So, I thought we could talk today about returns expectations and reality. We are facing incredibly challenging times at the moment, not least because of geopolitical risks, but also because market valuations are very high. And I think there's a bit of a disconnect between what investors should expect to get and what they would like to get.

Lait: Yes, I think, you are right. I think since cash rates have come down from sort of 5% to nearly zero or less than that in some places in the world, investors haven't really recalibrated their expectations. And so, a lot of businesses are still targeting returns that may have been achievable with a sort of 3%, 4%, 5% carry underlying it with your risk premium on top, whereas now actually I think people will need to reset down their return expectations. Sadly, I think, at the same sort of time when rates went down to zero, most markets seemed to have lost their investment compass. And so, you've seen increased volatility in FX markets and most markets around the world now including bond markets. So, I think, you are into a lower return higher risk world and it's a very difficult one to navigate from here.

Wall: And you are now running a long-only portfolio. You used to be a hedge fund manager. Multi-asset and hedge funds tend to work towards the sort of target of cash plus a certain amount. But as you say, I think, people are still thinking about, cash 4%, plus 2%, equals 6%. But that's just not the case anymore?

Lait: I think that's right and you've seen a lot of more leveraged funds, a lot of hedge funds striving to take more risk, thinking that the risk-return curve continues to be linear and I think that's been the danger. I think the right thing to do is to plan your portfolios accordingly to take a little bit less risk than you're used to now, because risks are broadly higher, try and think about real-time correlations within your portfolio rather than the long-standing 20-year relationships because correlations are breaking down a lot at the moment. And seeking to eke out that kind of equity risk premium, sort of, 3%, 4%, 5% above inflation or cash which are both near zero at the moment and aiming a little bit lower.

Wall: And it's not all doom and gloom before people get too depressed watching this video. There are opportunities out there. You just have to be a bit more clever about where you find them?

Lait: I think so. I think one way to decrease volatility in your portfolio which is very commonsensical is to invest in the sectors that everyone isn't talking about. And it doesn't necessarily mean being hugely contrarian or taking a deep value call. I think you need to take a long-term call on all of your equity investments in particular. But I think one example is the commodity space where everyone seems to be piling into, sort of the Trump infrastructural bill, things like this. Actually, if you look at what's been driving the commodity markets is mostly Chinese financial demand as opposed to real production demand.

If you work through what Trump's policies are going to mean in terms of the demand side for copper or iron ore, it's a couple of percent a year incremental demand and I look at that industry and say, well, the supply side is still terrible. People are still brining new mines on. There's excess capital employed going in. Margins are falling. To me, for the next five years, commodity producers will run for cash and prices will stay very low. So, that's not a sector where I think one should be going towards and it's incredibly volatile. So, you cut out a lot of volatility by not investing in spaces like that.

Wall: And where are you looking then? Where do you find the opportunities?

Lait: So, I think, a great place to be investing has been the U.S. financials, the U.S. large-cap banks. We've had a large number of those in our portfolio at Latitude and they continue to seem to be very good value to me. The returns are increasing. The competition has been decreasing. They are all earning their – sort of their return on capital is equal to their cost of capital at the moment broadly across the space at a zero interest rate environment.

So, in the worst possible world of heavy regulation and low underlying carry for them. They are much better businesses, they are much leveraged and I think in any kind of rate cycle I think they will take advantage of the Fintech in the market and I think they are going to grow very, very rapidly and should re-rate 1.5 to 2 times book value depending on who you are looking at with some growth. So, that's a great space.

And I think ultimately in the U.S. the consumer is still the place to be investing. That's the cyclical sector of choice for me, not the commodity and the primary producers. But if we get a little bit of wage inflation, the market is quite tight in terms of the output gap. So, I think, you will get some wage inflation and those consumers will spend more on everyday goods. So, consumer discretionary at the lower end is probably a very attractive place to be.

Wall: Freddie, thank you very much.

Lait: Excellent. Thank you very much.

Wall: This is Emma Wall for Morningstar. Thank you for watching.

Odey spin-off Latitude to launch absolute return strategy

By Julia Faurschou, FT Advisor

Odey spin-off Latitude Investment Management is to launch its first fund next month offering a long-only diversified growth strategy.

The Latitude Horizon fund will target absolute returns with low volatility and fees, according to the firm. It will be managed by Latitude founder Freddie Lait (pictured) who left Odey after six years to start the firm.

The fund, which will be spun out of Odey in November, will have management fee of 1 per cent with no performance fees.

Latitude said the portfolio will contain stocks with high quality business and will aim to reduce correlation and risk by investing in non-equity investments.

Mr Lait said: “We believe there is a significant opportunity to provide investors with an experience that combines strong performance with low volatility, low management fees and transparent reporting and charging structures.

"Latitude’s investment strategy follows an absolute return framework - the fastest growing sector in the active management industry - with the belief that diversified portfolio construction, combined with strong risk control, generates more desirable risk adjusted returns than employing leverage or shorting strategies."

Mark Carter, previously at Vinci Zafferano, has joined as Latitude’s chief operating officer and Oppenheimer’s Emma Barrat will be responsible for sales and marketing.