Cenk Utkan, Strateji Securities: “Most Turkish equity funds are index followers, some are market timers, but only a few are active in stock-picking”

Cenk Utkan (pictured), marketing director of Turkish specialist equity manager Strateji Securities, expects more individual and institutional investment to flow to the sector in the future to capitalise on the country’s vigorous economic growth, especially as falling interest rates reduce the appeal of the fixed-income funds.

GFM: What is the history and background of your company, principals and funds?
 
CU: Established in May 1995, Strateji Securities Asset Management is today Turkey’s leading investment management firm, specialising in equities of medium-sized enterprises operating domestically, and has been recognised for the importance it gives to the work ethic, pioneering approach and innovation of its highly-skilled and experienced money managers. We are first and foremost value investors as opposed to traders, with a long-term investing horizon.
 
The key executive members, chairman Osman Turkay, general manager Ufuk Sinan Dinçer and fund manager Bülent Topbaş, have all been with the company for more than 13 years. The investment approach is long-term and value-oriented. Strateji’s domestic long-only fund has consistently been rated as the top-performing fund in Turkey with cumulative net returns of 2,010 per cent in US dollar terms since March 1997, with annualised dollar returns of 22.4 per cent.
 
Strateji also runs Turkey's first regulated hedge fund, launched in 2006. The fund has a long-only stock book generating significant alpha via stock-picking whilst shorting the ISE 30, and has a market-neutral position with a maximum net long or short position of 20 per cent. The fund has generated 265.6 per cent since launch in May 2006, with annualised returns of 24.5 per cent on a US dollar basis.
 
Strateji’s equity assets under management are approximately USD100m, making it the fifth largest equity asset manager in Turkey and the largest independent non-bank owned equity manager.
 
I am marketing director of Strateji and also managing partner of Connexion Capital, a London-based hedge fund advisory firm specialising in emerging market and commodities. Previously I was a director within the portfolio strategies group at Heritage Capital, the London-based investment banking unit of Banque Heritage.
 
From 2000 to 2007, I was a partner and sales director at Fortune Asset Management, a multi-manager and hedge fund incubator that was acquired by Close Brothers in 2006. At Fortune, I raised capital for single-manager and multi-manager hedge funds and fund-linked notes in Europe, the Middle East, Canada and South Africa.
 
GFM: What is the structure of your funds?
 
CU: We operate onshore funds regulated by the Capital Markets Board of Turkey. Our funds provide daily liquidity and our NAV is submitted to the regulator at the end of each business day. The regulator also checks our position limits on a daily basis. We cannot invest in than 10 per cent in a single stock and 30 per cent in single issuer’s shares. The management company is also incorporated in Turkey. Strateji also has a fully fledged investment banking license and is a member of the Istanbul Stock Exchange.
 
GFM: Who are your main service providers?
 
CU: We use Price Waterhouse Turkey for our annual audit. The custodian of our assets is Istanbul Stock Exchange Custody and Settlement Bank, an independent institution founded by the exchange and its members. We use TEB Securities (fully owned by BNP Paribas), Oyak Securities and Garanti Securities.
 
GFM: What is your distribution strategy and targeted client base?
 
CU: We operate regulated products available to the public, and our funds have no minimum. We currently have a diversified client base of 350 investors including high net worth individuals, family offices, educational foundations, funds of funds and insurance companies, with 90 per cent of our asset base coming from Turkish investors.
 
We are not asset gatherers but asset managers. Our competitors are local banking groups that own pension fund companies, private banking outfits and insurance companies; none embrace open-architecture investing. Since we do not have their distribution clout, we try to distinguish ourselves by focusing on performance. There has not been a year when our funds haven’t been top quartile.
 
We do not advertise and our clients tend to hear about us by word of mouth, but as Turkey has been recognised as an economic success story and become a major investment destination, we are seeing more foreign interest. With many investors are disgruntled about the failure of their equity allocations to beat their benchmarks, we are making overtures to pension fund companies, proposing white-labelled products for their equity allocation.
 
GFM: What impact has the recent global financial crisis and economic downturn had on your business?
 
CU: Our business has made major gains following the crisis. Our long-only funds made exceptional returns of more than 200 per cent on a dollar basis in 2009, beating the index by 100 per cent. Some 67 per cent per cent of the free float of Turkish equities is owned by foreign investors who emulate the index and invest in large caps. They are not fundamental bottom-up investors; their equity allocation to Turkey tends to be driven by top-down macro considerations, and most have underperformed the index.
 
In the past decade Turkey has achieved annual GDP growth of 7 to 10 per cent and its sovereign debt is close to investment grade. The country has very developed capital markets legislation allowing investors to invest in emerging market growth through a candidate for membership of the European Union.
 
Turkish investors tend to dominate trading in medium-sized companies. The average holding period of domestic investors is only 24 days as these investors tend to follow a more short-term buy-on-tips approach, creating price formation anomalies. This leaves ample room to exploit inefficiencies between the market price and intrinsic value of such companies. Over the long term, it is intrinsic value that drives stock prices, notwithstanding short-term fluctuations. Overall, the crisis has given us ample opportunities to generate alpha for our investors.
 
GFM: Hedge funds have had something of a bad press over the past few years. How would you respond?
 
CU: Hedge funds have been the victim of their own success. They have grown incredibly over the past decade into a major force in public equity investing. Most strategies have been over-exploited and alpha has shrunk. In addition, the opacity of offshore structures, lack of transparency, lack of barriers to entry, lack of liquidity and lack of investor control have all tarnished the industry’s reputation.
 
In Turkey the hedge fund industry is nascent. The regulator wants to develop the fund management business as a means of increasing savings. In the past couple of years 15 new independent portfolio management companies have emerged to compete with bank-owned asset managers, and new hedge fund regulations have been adopted with input from the finance community. The regulator realises the benefits of developing the hedge fund industry while understanding its pitfalls. Hedge funds are now regulated, onshore, liquid and transparent – similar to the EU’s Ucits regime.
 
As in all businesses, there are always profitable opportunities when an industry is taking off. We are at the beginning of a secular growth story, and we have the track record to benefit from this growth.
 
GFM: Please describe your investment process.
 
CU: Despite short-term fluctuations, the intrinsic value of companies is what drives stock prices in the long run. So instead of momentum trading, our focus is on buying securities trading at a significant discount to what we think they are worth. We do not mind day-to-day fluctuations as long as we are confident about the valuation. Our core strategy is to find the stock, buy the business and wait for a catalyst that will change the way the market perceives its worth.
 
We take a fundamental, research-intensive value approach to investing. Our research process is based on bottom-up analysis, but we do include top-down factors in our overall analysis to understand the big picture of how the Turkish economy is positioned globally. The top-down approach is also valuable for cyclical trades and momentum trading.
 
The majority of our investment ideas are generated through internally independent research. News reports, revealed financials, company filings and disclosures and industry data can be a source of new ideas, as well as quantitative screen searches on various databases.
 
Since there are only 350 stocks in our notional universe and we have at least 13 years of experience in investing in these stocks, we have great insight into the companies. But once a potential investment appears sufficiently promising, investment team members are assigned to perform further research.
 
We try to understand the company’s business model and drivers of value generation, prospects for the industry the company operates in and for its position in the sector. Does the company have a particular product or brand name? Who are the competitors? Does the company have any franchise value? What are its competitive advantages? Are any market conditions likely to enhance or undermine the company’s or industry’s position?
 
Management appraisal is key to our stock selection process. We have extensive information about shareholders’ track record in business performance and corporate governance. Corporate governance quality is a red line for our investment decisions. If we believe management does not respect the rights of minority shareholders, it’s out of our stock universe, no matter how promising the sector is promising or sound the company’s fundamentals.
 
Meeting with management teams is important. Through face-to-face meetings and consulting with a rich network of industry experts and banking staff, we seek to understand whether they are skilled and creditworthy. The business world in Turkey is small. We can gather supplementary information by a few telephone calls. We draw on industry contacts to understand the current cost, demand and pricing conditions of the industry, business cycles, changes in consumer preferences or in the technology, and to estimate a company’s future earnings.
 
GFM: What is your approach to managing risk?
 
Diversification constraints are imposed by the regulator. Mutual funds in Turkey may not invest in non-listed securities, invest more than 10 per cent of their net asset value in the securities of a single issuer, acquire more than 9 per cent of one issuer's shares, invest in the securities of the founder or the portfolio manager, or use leverage, except for hedging purposes. In addition, we closely monitor sector and group concentration. Group or sector concentrations above 30 per cent must be strongly justified in investment committee meetings. At least 80 per cent of our portfolio must meet high liquidity requirements.
 
Every individual investment is subject to a research review process. Risk management includes monitoring of stock-specific risks such as upcoming catalysts and evaluation of the downside potential. We are likely to build larger positions when we have identified meaningful downside protection coupled with expectations for strong earnings growth and price appreciation, but even with our highest conviction positions, we are aware of the potential for unexpected events.
 
As value investors, we are extremely careful in making our investment decisions. This is an inefficient market, so we are comfortable with price formations against us, but we are on alert when our picks underperform the market to a significant extent. We ask ourselves whether we made a mistake in our decision modelling, or are missing any new information or understanding that would lead us to reconsider our position.
 
GFM: How have your funds performed recently?
 
CU: In 2011 our long-only fund was down 35 per cent whilst our long/short fund was down 13 per cent, with 15 per cent of these losses down to the depreciation of the lira, the most sold emerging markets currency in 2011, against the dollar. We saw the market bottom out in November. At the end of March 2012 our long-only fund was up 35 per cent and the long/short fund up more than 20 per cent on a dollar basis.
 
We expect the lira to strengthen this year. The Central Bank has intervened regularly and is operating a de facto dirty floating rate. Our in-house view is that inflation will remain at 8 per cent and interest rates will remain at 11.5 per cent, which implies a 3.5 per cent real return for the dollar investor.
 
GFM: How many companies are in your portfolios?
 
CU: We have between 18 and 22 companies in our portfolio at any one time.
 
GFM: What developments do you expect to see in your sector in the coming year?
 
CU: We feel that the fund management business is ripe for growth in Turkey. The banking and brokerage sectors are fairly well established, but asset management resembles the broking business 15 years ago, when it was dominated by a few players. Currently the industry is characterised by a lack of new products, high fees and lacklustre performance.
 
The investor universe and the product range offered to them will broaden. The regulator has also been vocal about developing the industry and has put a cap on the fees charged on money-market funds, which have dominated the fund market for so long.
 
The returns of the Turkish stock market over the past 10 years have been phenomenal, but local investors have not benefited from this growth. Investors have shunned the high volatility of the stock market for fixed-income securities. With interest rates falling, we believe that there will be a lot of demand for products that are professionally managed and protect downside risk such as hedge funds.
 
We foresee significant growth in our business as we have a history of delivering returns on the long-only side since 1997, as well as the first regulated hedge fund since 2006. All of our hedge fund peers have at most two-year track records. In addition, we plan to cap the size of our funds at USD250m to maintain performance and liquidity for our investors.
 
GFM: What differentiates you from competitors in your sector?
 
CU: There are around 100 domestic equity funds in Turkey. Most are index followers, some are market timers, but only a few are active in stock picking. Foreign-domiciled funds are bigger than the domestic ones, mostly domiciled in Luxemburg and managed by big global asset managers.
 
They, too, are mainly index trackers and their stock universe is limited to blue-chips, with investment ideas directed mainly by recommendations from the main brokerage houses. These stocks are covered extensively and priced efficiently, but in emerging markets where inefficient price formation is common, hands-on managers may find more opportunities in the markets. Our buy-and-hold strategy based on in-depth bottom-up analysis and a hands-on approach to identify value opportunities makes us unique in our peer group.
 
GFM: How do you view the environment for fundraising over the coming 12 months?
 
CU: There is no doubt that fundraising is harder since 2007, but the dynamics of the Turkish asset management industry and the country’s growth prospects make us optimistic for 2012.
 
GFM: Are you considering any mergers or acquisitions in the foreseeable future?
 
CU: Our business is cash flow-positive and we are in no hurry to merge or to exit the business. We are focusing on organic growth.
 
GFM: Do you have any firm plans for further product launches?
 
CU: Although nothing is set in stone, there is a possibility of launching a corporate bond fund, drawing on our edge and deep knowledge of Turkish equities. There are no corporate bond funds in Turkey as yet, but issuance has increased significantly over the past decade.


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