01.04.2014

 

 

 

 

 

Investment Adviser:

Cogent Asset Management Ltd

(April 2014)


The Fund had another year of impressive performance in 2013 – outperforming its benchmark and receiving a number of top ratings from fund rating agency Morningstar. What do you put this down to?

 

The investment process that we run is designed to build a portfolio that reflects current trends in the equity markets. 2013 was characterised by a low interest rate and high liquidity environment which favoured attractively valued companies with positive price momentum. Whilst we are diversified across value, growth, momentum and quality styles, the portfolio was able to capture this underlying value-momentum trend and outperform significantly.

 

2013 seemed to be a slightly less tumultuous year for global markets than in recent times. Do you think that we have seen the last of the kind of extreme volatility that marked 2011 and 2012, at least in developed markets?

 

Markets will always be volatile to some degree. There is a fear and greed dynamic that tends to exaggerate market reaction to both positive and negative fundamentals. The best investors allocate when markets suffer from negative sentiment, and hold for the long term. Market volatility in 2011 and 2012 reflected aftershocks stemming from the 2008 Financial Crisis. Although it is perhaps too early to say that market conditions have normalised, we do believe that US and European economies have now stabilised. Consequently stock markets will be increasingly driven by the more normal considerations of inflation and growth, rather than the liquidity of the Financial System as a whole, as was the case in 2009-2012.

 

The paring back of the US Federal Reserve’s monetary policy has finally begun after a lot of speculation last year. Do you think developed markets ‘priced in’ this paring sufficiently last year and therefore it should not have such a significant effect on them as the process continues this year?

 

The tapering of quantitative easing by the Fed is certainly important for equity investors. The main consequences are an increase in money market rates and a reduction in banking system liquidity. These effects are essentially negative for markets, but we must remember that the reason for tapering is that the US economy is becoming less dependent on this type of unconventional monetary ‘life support’. On balance, we therefore view this process as beneficial for equity markets, since the risk premium required for holding equity is reducing rapidly. This enhances equity valuations and consequently the overall market level.

 

Emerging markets are facing some problems with capital flight and depreciating currencies and many analysts expect this to continue for some time. What is this going to mean for investment opportunities in developed markets and specifically in US markets where the WSF Global Equity Fund has the majority of its investments?

 

Equity capital chases growth, and for a short while there was a risk that the developed markets would suffer low growth for many years. Hence capital moved to the emerging markets. The current economic recovery in the US is not strong, but it has been convincing enough to indicate that it is safe for capital to return home, where risks such as currency and the political environment are less of a concern. We believe that most of the shorter term investors have now withdrawn from emerging markets, but liquidity for US markets will continue to be strong mainly due to domestic cash and bond investors switching into equities.

 

Data releases continue to suggest that the recovery in the US is growing stronger while the outlook for the Eurozone is becoming increasingly optimistic. Do you think it would be relatively safe to say that the recessions in both areas are essentially over?

 

Technically the recessions in these regions were over many months ago. There are always risks that may lead to recession, but these are normally caused by hard to forecast shocks to the system.  The next challenge for policy makers is to ensure that the increased liquidity due to QE does not lead to price inflation, and a subsequent enforced cooling of the economy. This would be a classic, potential cause of the next recession. As yet there are few signs of inflation either in Europe or the US, so this danger is beyond the foreseeable future.

 

You employ a rigorous mathematically-based stock-picking system which identifies fundamentals driving markets. How does this system work when markets are driven more by sentiment than economic fundamentals, as was widely seen to be the case during the Greek debt crisis?

 

Whether the key market driver is sentiment or fundamentals our investment process still seeks to reflect the current market environment. The difference is in the timing. The environment relating to the Greek debt crisis (and the global financial crisis) was fast moving. Our investment process is designed to not react too quickly to new information, as this leads to excessive trading and an asset allocation away from the longer term trends. So the process is able to cope with both environments, but it is fair to say that performance is best when markets reflect economic fundamentals, as they do now.

 

The Fund’s nature also means it has very strict criteria for what it can invest in. Have you noticed a growing trend among investors towards ‘ethical investing’, such as choosing not to invest their money in arms manufacturers, gambling, tobacco producers etc?

 

There is undoubtedly a growth trend in ethical investing, as investors become more aware of the range of ethical products available, and realise that such investments do not necessarily involve any sacrifice in terms of potential investment returns. Moreover, our fund does not invest in companies with high levels of debt. During the Financial Crisis the shares of highly indebted companies fell dramatically. Due to this we have strict criteria that veto investment in any company with debt levels above a certain threshold.

 

Some investors say that such funds are inherently limited in their investment choice and therefore at a disadvantage, or inferior in some way, to other funds. What would you say to this argument?

 

Our investment universe consists of around 3,000 companies across the globe, so the choice is not really limited. Over the short term there will always be differences in the performance of ethical vs. conventional funds, sometimes positive, sometimes negative. However our analysis shows that over the longer term there is little difference in returns, and the low-debt criteria actually helps to reduce volatility compared to conventional indices. Basic investment theory would always favour the strategy which provides the same return at a lower volatility.

 

To what extent does the global investment reach of the Fund allow you to mitigate, or manage, investment risk?

 

Diversification is one of the most important considerations in equity investment. The Fund currently holds around 117 positions, across 17 countries and representing 11 currencies. We chose the Global Equity Fund strategy as the first fund the team managed for Cornhill in order to create a medium risk, cornerstone investment, suitable for all investors. Over the last three years the tracking error of the fund has been 2.7%, which means that volatility relative to the benchmark index is quite low.

 

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