Freelance Journalist Zilla Effrat – Sydney Allan Gray Investment Forum Tuesday, 10 November 2015

Most self-titled active managers in Australia are not really that active, which in turn can make it difficult for them to generate great long term returns for investors.

That was the view of Allan Gray’s head of retail, Chris Inifer, at the contrarian fund manager’s Investment Forum in Sydney.

He said those managers tracking closely to an industry-accepted benchmark were effectively buying the most popular companies at any point in time.

From the investment viewpoint though, the most sought after companies are highly problematic.

“They are expensive,” Inifer said. “There is no margin of safety. The yields are attractive, but what risk do you carry in price?”

Inifer noted that fees in the actively managed Australian equity space typically ranged between 0.85 per cent and 1.05 per cent. Yet, the largest, most widely used managers were all chasing the same shares.

In his presentation, Inifer showed the average weight of the five largest active fund managers in Australia’s top 10 stocks versus the broader market.

“They are all in the same stocks,” he said. “Whose risks are these managers worrying about? Which risk are they worrying about? It’s career risk, business risk, the ‘I don’t want to lose the assets tomorrow’ risks. But none of those things generate great outcomes for investors.”

Inifer added: “The largest active managers are sitting in the ‘closet indexer space’ and it gets magnified as you blend them together… As you put these managers together, you get closer to the index.”

In contrast, he said Allan Gray had maintained a highly active approach for all of the companies it invested in. It didn’t start with a benchmark. It started with a blank sheet of paper.

He noted that studies show that active investing is not enough: “They show that combining that highly active approach with low turnover can yield tremendous results.”

A low turnover approach, meanwhile, requires patience and a long-term outlook.

“Everything we do in [our] organisation is aimed at the long-term,” said Inifer.

“We encourage people in the organisation to behave more like business owners. From a distribution perspective, no one in the sales team has a sales or activity target to hit. From an equity perspective, if an employee is given an opportunity to buy into this business (Allan Gray), there is a 10 year divestment strategy at the end. You cannot get your money out for a very long time post-retirement or resignation. This encourages our people to make good long term decisions, in line with our clients’ interests”.

The focus on the long-term means Allan Gray would never list itself on the stock market.

“In the listed environment, the short-term expectations of shareholders and brokers would create an enormous amount of pressure to deviate from our investment strategy and ultimately something would give,” said Inifer.

“We believe our firm is best managed and controlled in the hands of the people who manage the money and that will never change. [Our founders] always said that if this thing ever ends up in the hands of the public, then [investors] should take their money and put it somewhere else.”

Allan Gray’s Chief Investment Officer, Simon Mawhinney, added: “If you are going to outperform the market you are going to have to invest differently to the market… If you take a highly active approach you need to be comfortable with periods of underperformance. With that comes significant periods of outperformance and that’s what’s happened with our group for over 40 years.”

Allan Gray’s returns are down 9.6 per cent over the past year to October, but it is sticking to its investment approach which has, over the long term, outperformed the market. Indeed, despite sharp rises and falls, its equity fund has outperformed the market by around 1% since inception of the Australian strategy in May 2006. While this is well below the level of outperformance the group believes it can deliver, the number remains positive after accounting for the short term aggressive underperformance of the last year.

Allan Gray has managed money in the same way globally for over 40 years and experienced periodical underperformance. They believe that is simply the nature of being a truly active manager. Even with that, over 40 years they have an enviable track record.

Mawhinney said Allan Gray did not chase companies widely perceived as defensive like banks, insurers, real estate, utilities and healthcare groups even though these had performed extraordinarily well since 2010. In Mawhinney’s view, the more everyone chases these stocks, the higher the price becomes and the greater the risk of overpaying. At some point this means that a “defensive” stock is no longer defensive, and actually can be more risky.

In addition to being very underweight in banks, the firm held minimal exposure to healthcare stocks currently as they have been so popular, and have become very expensive.

Mawhinney’s own preference is for cyclical stocks such as resources, energy, industrial, and consumer discretionary companies. These sectors are out of favour, meaning you face little competition to buy these stocks, so prices are low and bargains more readily available.

Looking ahead to 2016, Allan Gray will continue a genuinely active approach to investment as it strives to do things differently and outperform other more consensus driven fund managers who more closely track the benchmark (and each other).