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Multi-manager interview: Fixed income still off the menu

F&C duo Robert Burdett and Gary Potter like to blend art and science in ‘live and ever-changing markets’ to achieve the top returns, they tell James Smith

 

smith

Of many successful partnerships in the multi-manager space, that of Robert Burdett and Gary Potter is among the most enduring.
Broaching 18 years, the pair began at Rothschilds and built franchises at Credit Suisse and Thames River before F&C bought the latter in 2010.
Burdett and Potter plus team run nine funds overall, with their five-strong Thames River range coming under the F&C name and rebranded Navigator from this year.
At the same time, the group also renamed three portfolios to clarify its objectives: Cautious Managed became Moderate, Balanced Managed became Progressive and Equity Managed became Select.
The duo’s Distribution and Boutiques products, plus F&C’s four Lifestyle vehicles, round out the proposition.

potter

Potter (pictured) says he dislikes talking about a “process” on the funds as that signifies an end product, whereas they are dealing with live and ever-changing markets.
He says: “Our approach is long term and while we are always analysing markets and macro, we are not the type of investors to take punts on moves in the gold price, for example.
“With around 75 per cent of our performance coming from manager selection and the remaining 25 per cent from asset allocation, we are looking to find the rare investors who have genuinely added alpha over the long term. To give an example, Richard Buxton returned 220 per cent-plus over 11 years on his Schroders UK Alpha fund, more than double the market and average UK portfolio.”
This often means focusing on more experienced manag­ers but Potter says the team also likes to identify up and coming managers. In the same way, while happy to own funds from industry giants such as BlackRock and Schroders, they also back boutiques such as IVI, Edinburgh Partners and Ardevora.
“It is possible to find great experience at smaller names, such as small-cap value special­ists David Taylor and David Horner at Chelverton,” adds Potter. “In general, we want to be involved with funds and managers building track records rather than living on them, which means we tend to be structurally underweight in larger vehicles.”
A further key element of the approach is diversification, with 25 to 35 holdings per portfolio. Potter uses a football analogy of blending defensive positions with more attacking names: “If you look at our income exposure, for example, we have funds such as Artemis High Income, Veritas Global Income and Chelverton UK Equity Income but we also like to have RWC Enhanced Income as a defensive play.”
He adds: “RWC has struggled over the past 12 months but we hold it as an insurance policy to give protection if things go wrong on the macro front.”
Alongside other multi-managers, Burdett and Potter also keep a close eye on manager remuneration and whether their peers invest in their own portfolios.
But the pair stress that fund selection remains an art rather than a science. “We use plenty of analytical inputs but science would not have led us to Ardevora with less than £50m under management or Chelverton when they had less than £5m, particularly as the latter were fourth quartile at the time,” says Potter.
Looking at performance on the range, 2012 and the first months of 2013 show a marked improvement on a tough 2011 where Potter says the macro-driven environment was not conducive to the team’s favoured stockpickers.
This is clear from the fact a FTSE All-Share tracker was top quartile in 2011 but 87th percentile last year, showing how macro factors have abated as a driver of returns.
Other drags included an underweight in bonds – which Potter says was premature as opposed to wrong – and the team underestimating how long the European Central Bank would take to make its “anything to protect the euro” announcement last summer.
As for current positioning, they remain underweight fixed income, with Potter struggling to find any value in gilts.
“With any investment, the key determinant of returns is how much you pay in the first place and for me, 10-year gilts at 1.7 per cent yields make no sense unless you are expecting Armageddon, locking in negative performance with inflation at around 3 per cent.
“We prefer corporate debt although that also looks expensive and have been taking profits in high yield, despite the fact it remains most attractive on a relative basis,” he adds.
Burdett and Potter prefer strategic bond funds in this asset class – with holdings from groups including TwentyFour, Cazenove and Henderson – and also own more esoteric products such as Neuberger Berman Global Floating Rate Income.
On the equity side, they are overweight the US and Japan and neutral on the UK, favouring more dynamic mid- and small-cap managers for the latter such as Old Mutual’s Luke Kerr.
Elsewhere, the team is underweight Europe, where Potter acknowledges there are many good companies but highlights a continent still mired in structural issues, preferring to focus on the US.
Favoured US managers include Findlay Park and Conventum Lyrical while the modest Japanese overweight – initiated late last year and topped up in March – is with managers such as Coupland Cardiff and Nomura.
On the latter, Potter is encouraged by recent performance driven by the new government’s inflation targeting and a weaker yen but says these are still early days and more of the Japanese economy needs to recover for it to be sustainable.
Unlike many peers, the funds are underweight emerg­ing markets, where the team feels the relative opportunity argument against developed countries is largely played out.
“Over the past 10 years, emerging market equities are up around 420 per cent against 130 per cent from the S&P and, with China seeing wage inflation and jobs moving back to American soil, some of the EM tailwinds are running out,” says Potter.

burdett

On the alternatives side, Burdett (pictured) and Potter have avoided fad areas such as absolute returns, again preferring more esoteric products, where low-risk assets provide a stable return.
Holdings include Darwin Leisure Property, the MedicX Fund, Blue Capital Global Reinsurance and 3i Infrastructure.

F&C MM Navigator Distribution fund – Top 10 holdings
F&C MM Navigator Distribution fund – Top 10 holdings      
       
       
Rank Name   %
1 CAZENOVE STRATEGIC BOND   5.27
2 JOHCM UK EQUITY INCOME   5.14
3 ARTEMIS HIGH INCOME   5.04
4 PIMCO DIVERSIFIED INCOME   4.93
5 VERITAS GLOBAL EQUITY INCOME   4.3
6 RWC ENHANCED INCOME   4.18
7 LAZARD GLOBAL EQUITY INCOME   3.92
8 NB HIGH YIELD BOND   3.91
9 KAMES HIGH YIELD GLOBAL BOND   3.75
10 INVESCO STERLING BOND   3.72
    Total 44.16

Potter and Burdett’s view

On gilts: We see little value in gilts or most Western sovereign bonds at current yields. In the UK, 3% inflation means you are currently locking in a 1.3% negative real return when buying 10-year gilts and you have to believe we are facing Armageddon to do that.

On inflation: While we are not expecting inflation to take off, there are reasons why a level around 3% is in the system, with rising prices the path of least resistance to inflate away our debt mountain.

On the great rotation: We still see too many potential bumps in the road – problems in Korea, German elections – for a substantial rotation into equities but there are signs investors are beginning to redirect capital towards risk assets. We are not expecting bond markets to collapse as there are too many vested interests in keeping interest rates low but there are plenty of supports for ongoing equity performance, and growing reallocation into the asset class, over the next few years.

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