The Interview – Richard Hodgetts, Collins Stewart Fund Management: “Nearly all the higher-quality absolute return products have come from managers running existing hedge funds”
Manager Richard Hodgetts says the newly-launched Collins Stewart Alternative Strategies Fund, a Ucits III fund of absolute return funds that draws on the firm’s extensive experience as a manager of funds of hedge funds, is set to capitalise on increasing interest in absolute return strategies as investor confidence returns.
GFM: What is the background to your company and fund?
RH: Collins Stewart Fund Management is a multi-investment boutique focused on delivering investors high quality investment returns in selected asset classes. The group managed more than GBP300m at the end of June across the equity, fixed interest, multi-asset and fund of hedge funds asset classes.
The fund management business is part of the Collins Stewart Wealth Management division, a portfolio manager and stockbroker with a focus on delivering independent wealth management advice and services.
Collins Stewart, which traces its origins back to May 1991 when it started as a partnership with Singer & Friedlander Securities, is an independent financial advisory group with four operational divisions, advisory, corporate broking, securities and wealth management, all serviced by our unique proprietary research tool, Quest. The group currently employs over 700 staff in nine jurisdictions in Europe, North America and Asia, and established a private client business through the acquisition of Greig Middleton's Channel Islands and Isle of Man businesses in 1996.
Collins Stewart’s expertise in alternative investing is a legacy of its offshore wealth management heritage as early adopters of hedge funds in client portfolios, and fund of hedge funds capabilities have existed since 2002. The Collins Stewart Alternative Strategies Fund was launched on October 27 as a fund of absolute return funds leveraging off the specialist experience of the alternatives team.
GFM: Who are your key service providers?
RH: The Collins Stewart Alternative Strategies Fund is a sub-fund of the Collins Stewart Investment Funds fund family. Domiciled in Dublin, it has Ucits III status and is administered by Northern Trust, which also acts as custodian. The auditor is KPMG and the law firm is A&L Goodbody.
GFM: What is the profile of your targeted client base?
RH: As a multi-manager fund with Ucits status, the primary target audience is IFAs and other third party fund distributors looking to invest their clients’ assets in the absolute return sector. As with hedge funds, advisers acknowledge that the optimum vehicle in which to invest is via a fund of funds (hence nearly 60 per cent of global hedge fund assets under management are invested via a fund of fund vehicle) due to the complexity of the sector and the resulting need to turn to specialist fund-pickers.
GFM: What is your investment process?
RH: We believe the investment process for building and maintaining a superior fund of hedge funds should be dynamic and not simply a set of rigid steps. Our approach, while split across the traditional lines of quantitative and qualitative research, has a certain flexibility, dependent on the impetus behind each selection.
Our process seeks to look very closely to ensure that the returns and the strategy match up, identify what could go wrong with a fund or company, make ourselves clear as to the impact that the fund could have on our portfolio, ensure the fund is doing something not only different from our current managers, but beneficial, and ensure we have faith that the fund will continue to perform as it has done in the past. We always have face-to-face interviews with managers, scrutinise the financials of the fund manager company, and compare the marketing story with the operational reality.
Key to our process is our operational due diligence. While many investors in the new Ucits III products approach these investments as if they were standard long-only products, we understand that they need to be treated with the same respect as single manager hedge funds. To that extent, each investment must pass the operational due diligence process.
We assume the possibility of fraud and mismanagement and it is for the individual firms to prove themselves fit for investment. They need to provide us with proof at every stage of the process, demonstrating their controls and procedures. This is an objective assessment and the individual responsible has right of veto when deciding whether we invest with the manager or not.
The decision-making process is driven by the investment team, although the lead manager has the ultimate say. Each member is mindful at all times of protecting the portfolio from undue risks and we have a clear understanding of what purpose each and every manager has, or would have, within the portfolio. The team, whilst aware of historic correlations and potential portfolio impact of funds, is pragmatic and decisive in its manager selection and portfolio construction.
A key factor of our investment process is that, while rigid in terms of the underlying fund selection, the overriding process is not a structured one; we are never constrained by our own process. The benefit of this was highlighted in 2008, when the ability to switch focus to bottom-up fund picking from an asset allocation-driven process was critical to protecting the asset base and posting top decile annual performance numbers versus the peer group.
GFM: How do you generate ideas for your funds?
RH: This is a very new area to the industry. Nearly all of the higher-quality products have come from managers running existing hedge funds. Our longstanding relationships and contacts in the hedge fund industry have stood us in good stead as it is through this channel that we have sought out the managers we would like to invest with.
In nearly all cases, we are either currently invested with the fund manager through an existing hedge fund, or they are well known to us and this level of familiarity in the products and strategies has worked well. These products are too new to even consider running quantitative analysis or peer group searches.
GFM: What is your approach to managing risk?
RH: Our approach to portfolio risk management is primarily based upon a thorough understanding of the risks inherent in each of the strategies and our underlying managers’ approach to it. Both factors are also considered in relation to the nature and climate of the market at any one time, and the likely interaction of these variables going forward.
We require our managers to demonstrate strong risk management controls and disciplines and to consider factors such as value at risk and fa tail events.
The allocation of risk exposures between managers is a dynamic process that is decided upon by the team running the product and is related to our targeted return and risk profile for the fund. We are naturally conservative portfolio managers. All members of the team have input to this discipline of risk allocation. We also view risk management as an integral part of the portfolio construction process.
An integral part of our risk management process is an internal oversight function that exists, which is designed to provide an internal forum whereby the managers can have an unbiased sounding board, and conversely where the chief investment officer can challenge the managers on investment decisions and ensure the fund continues to be managed according to its stated mandate. We also believe this oversight function provides an additional level of comfort for investors.
While the committee does not have the authority to force the investment management team to buy or sell any holding, it will report to the trustees of the fund its findings over the period. This function will be carried out by chief investment officer Nigel Cuming and Mark Piper, head of the fund selection committee, as well as a quantitative individual.
We supplement our risk management with the production of real time, proprietary risk reports. We understand that to monitor risk actively we have to do so on a real-time basis. As such we are able to draw upon a comprehensive proprietary report, with automatic updates as prices come through on our underlying holdings. This is used as a reporting tool for the board and oversight function and as an ongoing tool for the fund management team.
GFM: How has your performance been this year?
RH: Performance this year for the Absolute Return Plus fund, our existing fund of hedge funds has been good if one considers what has driven much of this year's performance in the hedge fund industry. The greatest losers of last year have become the greatest winners of this year, whether that be credit strategies, emerging market-focused or convertible arbitrage funds. Even though these have had extremely good performance this year, few have made back last year’s losses.
GFM: What opportunities are you looking at right now?
RH: We are looking for opportunities that are not simply beta lays. While we have some exposure to managers running long/short equity strategies, our emphasis is directed more toward managers running fixed income, macro, currency and CTA strategies. As our opportunity set increases, we will continue to focus on non-long/short equity strategies.
GFM: What events do you expect to see in your sector in the year ahead?
RH: The most obvious event on the horizon is the additional regulation coming out of Europe in the form of the Directive on Alternative Investment Fund Managers, but we do not expect any impact since the portfolio is within a Ucits III regulated structure.
GFM: Are investors’ expectations shifting between capital preservation and growth? If so, how do you deal with this?
RH: At Collins Stewart we have always had capital preservation at the forefront of our minds when managing investors’ money, evidenced by our early adoption of hedge funds in the mid-1990s. We believe there will be a shift in emphasis toward absolute returns as opposed to relative returns, which is why we have launched the Collins Stewart Alternative Strategies Fund now.
GFM: What differentiates you from other managers in your sector?
RH: We believe we have launched the first fund of absolute return funds, giving us a clear edge over the competition, thanks to our existing expertise in the sector and the understanding that many of the funds in the absolute return sector are hedge fund-like funds.
We are naturally wary managers and are as much focused on the operational risk, on an ongoing basis, as we are to monitoring how our managers are performing. An overwhelming majority of fund blow-ups have been for operational reasons rather than performance-related, even with the extraordinary deleveraging events subsequent to the credit crisis that began in August 2007. It is for this reason that we engage our underlying funds in a separate operational due diligence, something many of our competitors don’t do.
Our competitive edge is our uncompromising dedication to picking and monitoring a diverse group of excellent single-manager hedge funds, run by highly talented and creative individuals, within the support of sound, and importantly safe, companies.
Much of our fundamental approach is driven by our comfort in the manager or management company, a qualitative assessment that runs alongside our analysis of the financials of the management company. We take a safety-first approach here as we believe managers can only be consistently successful within financial sound management companies.
GFM: How do you view the environment for fundraising?
RH: The funds industry has continued to improve in the second half of this year as investor confidence returns. Although the majority of fund flows are heading toward the core asset classes, especially corporate bonds, we believe there is a keen level of interest in absolute return funds, as shown by the launch of a number of funds so far this year.
GFM: Are you planning any mergers or acquisitions?
RH: Collins Stewart Wealth Management has stated that its goal is to double assets under management and administration by 2012 from GBP5bn at the end of June, and that acquisitions will play a major role in achieving this target.
GFM: Do you have any plans for other product launches in the near future?
RH: As we see demand from our clients we will continue to appraise the market for opportunities that will help grow our business whilst satisfying investor demand.
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