Kyle McKay outlines the investment discipline that is driving the performance of Leeward Hedge Funds' long/short North American equity fund.
HW: What is the background to Leeward's range of hedge funds?
KM: The Leeward Bull and Bear Fund strategy represents the firm's original offering (launched on July 1, 2001) and is currently available in the form of a Limited Partnership for Canadian investors, an offshore domiciled fund for international investors and a 3C1 fund for US investors. All three products are run pari passu and follow the same investment methodology and mandate. The Leeward Offshore Bull & Bear Fund is listed on the Irish Stock Exchange. Current assets under management for the strategy is USD 64 million and it is managed by me. Brendan Kyne is Leeward's Founder and Chief Investment Officer.
HW: Who are your service providers?
KM: Our auditors are BDO (Tortuga), legal adviser (Domestic) is Borden Ladner Gervais LLP, legal adviser (Offshore) is Maples & Calder, administrator is Close Brothers (Cayman) Limited, and our prime broker is RBC Dominion Securities Inc.
HW: How and where do you distribute the fund? What is the profile of your current and targeted client base?
KM: Our hedge funds are sold directly, primarily to private banks, family offices, funds of funds, pension funds and high net worth individuals.
HW: What is the investment process of your fund?
KM: The Leeward Bull & Bear Fund strategy is a long/short, North American equity, fundamentally-driven hedge fund that invests across multiple sectors and capitalizations. The strategy is focused on delivering positive absolute returns regardless of the performance of the major equity market indices. The strategy follows a bottom-up, growth-oriented approach and invests solely in equities, with no use of leverage or derivatives.
The strategy blends both Canadian and US equities, as well as resource and non-resource exposures, in an effort to enhance diversification and dampen volatility. A balanced, opportunistic approach is used to determine sector exposures, while a near-term catalyst-driven approach is used to select company-specific allocations.
One of the key principles of the strategy is the investment team's use of independent thought with respect to the investment process. While not limiting itself to a given level of market capitalization, the fund tends to focus on small to mid-cap equities. The fund's principle effort on the long-side is to discover, under-followed, under-valued growth companies with attractive valuations relative to their growth potential.
The short component of the fund selects candidates based on deteriorating fundamentals, excessive valuation and increasing earnings risk.
HW: How do you generate ideas for your fund?
KM: The majority of the ideas are internally generated by the members of Leeward's investment team. Top down macro analysis is used to discern supply/demand trends within the commodity sectors, while a bottom-up stock selection process is utilized for all non-commodity, stock selections.
HW: What is your approach to managing risk?
KM: The portfolio manager is expected to manage their own risk profile within the context of the risk parameters outlined in the Offering Memorandum.
Leeward's Compliance Officer monitors and reviews all positions and sector weightings as well as net and gross exposures on a daily basis to ensure compliance.
HW: How/against what do you benchmark the performance of your fund?
KM: The Fund targets an absolute return of 15% - 25% with low volatility. The CSFB/Tremont Long/Short Equity Index is used as a market proxy.
HW: Has your performance been as per budget and expectations? Do you expect your style to change going forward?
KM: The strategy is approaching its five-year anniversary. Since the launch of the strategy in July 2001, the CAGR for the strategy is approximately +17.4%.
We do not expect the management style to change going forward.
HW: What opportunities are you looking at right now? What events do you expect to see in your sector in the year ahead?
KM: Moving forward, we believe that the long list of equity headwinds - record consumer and government debt, higher interest rates, higher energy prices, increasing inflation pressures and a now visible U.S. housing slowing - promises to make investors more discriminating as the year progresses (and implies a more rotational equity environment). Moreover, we believe that the recent evidence continues to suggest that the U.S. dollar will resume its slide in 2006 and provide further support to an already well-supported gold price.
As for metal commodities, we believe that metal producers will continue to struggle to meet demand led by China amid declining inventories and mine stoppages. Notwithstanding our expectation for some form of consolidation in the space, the recent vigorous fund flows into commodities certainly have the potential to lift commodity prices beyond those justified by supply/demand fundamentals alone.
HW: How will these changes/future events impact on your own portfolio?
KM: We are very well positioned to benefit from the continued consolidation and appreciation of the underlying commodities in the base metals, precious minerals and energy sectors.
We continue to benefit from our two-year long short position in consumer discretionary stocks and more recently, our increased short weighting in US homebuilders.
We have refrained from concentrating the portfolio in any non-commodity sub-sectors, but, rather have elected to maintain our bottom-up equity selection in companies that are under-followed and catalyst-driven, which should perform well and remain independent of the actions of the market.
HW: What differentiates you from other managers in your sector?
KM: The ability to use independent thought with respect to the investment process and the willingness and discipline to make quick and objective decisions when there is a confirmation in an underlying investment thesis.