Boutique management within Australian equities

By Jayson Forrest

What are the advantages of using boutique managers when running an Australian equities portfolio in a managed accounts structure? Callum Burns (ICE Investors), Kyle Lidbury (Perpetual Private), and Marcus Bogdan (Blackmore Capital) explain their approach to constructing portfolios with an Australian equities exposure

At ICE Investors, the decision to move into managed accounts was primarily driven by client demand, says Callum Burns - Managing Director and Portfolio Manager.

Speaking at an IMAP Specialist Webinar Series on ‘The advantages of being a boutique manager’, Callum says the business started running the SGH ICE Fund - an actively managed Australian equity fund that invests in ASX listed franchise companies with a sustainable competitive edge - in 2006. This was set up as a managed fund but over time, a number of clients chose to use this fund inside their managed accounts structure.

“However, we found that when investing in small caps, sourcing liquidity can be challenging. So, over time, we honed and refined our process, which included adding a liquidity screen to our managed accounts solution, which has made this structure more efficient.”

The key driver behind Blackmore Capital setting up its managed accounts offering came early on, when it established its Australian equities portfolios in 2014. According to Marcus Bogdan - Chief Investment Officer at Blackmore Capital - the manager realised that both investors and advisers wanted to have access to asset class experts.

“Our area of expertise was in Australian bluechip equities. We knew that clients wanted to have access to our knowledge and expertise, and be more engaged in the process. So, the managed accounts structure allowed us to provide them with that. It provided our clients with greater efficiency and complete transparency with their portfolios, which also enhanced their engagement with their investments.”

Although not traditionally considered a boutique manager, Perpetual Private uses a boutique approach to investing and operates separately to the much larger Perpetual Investment team, with ‘Chinese walls’ dividing the two teams.

According to Kyle Lidbury, CFA - Head of Investment Research at Perpetual Private - the decision to develop an Australian equities managed account offering within Perpetual Private was primarily made for one reason: consistency.

“We rolled out our managed accounts offering due to the consistency we could provide for our portfolios, as well as enhancing the overall client experience across our business,” says Kyle.

He adds that from the outset, Perpetual Private was very conscious of designing a managed accounts service that was appropriate for the business and built for purpose. Fundamental to that approach was pulling together a team that would be comfortable with the level of transparency offered by a managed accounts structure.

When it comes to Australian equities, the word ‘quality’ is often bandied about to describe the range of investable companies available in the market. However, defining what makes a quality company can be broad, with the definition of ‘quality’ often meaning something different to each person. So, how do boutique managers identify quality stocks when building an Australian equities portfolio for a managed account?

“It’s a good question,” says Callum. “We look to invest in businesses that have a clear economic moat around them, which makes it hard for other businesses to compete against them. This means looking for companies with assets that are difficult to replicate, and are managed to ensure that the customers remain sticky. That’s our definition of ‘quality’.”

He believes there are many companies on the ASX that meet this criteria, with many of these businesses sitting outside the top 100. Some ‘quality’ stock examples Callum points to include: APM - Australia’s largest service provider to Government in running return to work programs; PSC Insurance - a company with a proven track record in business acquisition, establishment and turnaround in the insurance services industry; and EBOS Healthcare - offering a wide range of medical, pharmaceutical, equipment and daily consumable products in Australia.

Marcus shares Callum’s criteria for ‘quality’ stock selection by looking at strong franchise businesses that have the ability to operate and succeed through a range of different economic environments.

But Blackmore Capital also includes some tight metrics around what it defines as a quality business, which are measured at a portfolio level. These metrics include: return on capital employed or ROE for financial companies; a higher than average operating margin; strong cashflow conversion; net debt to EBIT; and having a strong balance sheet.

“We also look at a factor called ‘equitisation’ in terms of whether the company is raising capital, buying back capital, or are actively involved in capital management. We overlay that across the entire portfolio, and what we have consistently found is that these factors in our portfolio, which we deem as quality at a reasonable price, actually screen higher that the average of the ASX 200 benchmark,” says Marcus.

Some examples of companies that tick the boxes for Blackmore Capital include: CSL - an Australian multinational specialty biotechnology company that researches, develops, manufactures, and markets products to treat and prevent serious human medical conditions; and Goodman Group - an Australian integrated commercial and industrial property group that owns, develops and manages real estate, which includes warehouses, large scale logistics facilities, business and office parks globally. 

When investing, Perpetual Private looks at the overall quality of a business. This also includes looking at the economic moats, the overall resilience of the business model, balance sheet debt levels, the management team, as well as the overall profitability of the business going forward.

“We also look at the valuation of the business and whether it’s an appropriate price to be buying that business at, because valuation is a driver of returns,” says Kyle.

He adds that when it comes to constructing portfolios with an Australian equities exposure, it’s important to consider how you are using the managed account within the context of your broader portfolio and what you’re trying to achieve.

“Our most used portfolio is the ASX 100 and we built that portfolio to take on the majority of the larger cap end of the stock universe. But we also complement that portfolio with appropriate small cap funds or unconstrained managers,” says Kyle. “Knowing how you are using the managed account is incredibly important, because then you know what the portfolio is supposed to do and why you are using it in a broader multi-asset context.”

Marcus believes that when it comes to investing, boutique managers can hold their own against larger managers, which typically enjoy significantly greater resources and larger teams of analysts. But when it comes to the size of the manager, Marcus says it’s all about owning each decision you make.

“As a boutique manager, we are well positioned by having a portfolio manager and analyst covering every industry sector, and when we do need additional services, we will target those services where required,” he says. “This approach enables us to own every decision we make. We like small teams and the discipline that provides you in terms of your focus on investing.”

Callum concedes that for a boutique manager to be successful, it does require appropriate resourcing. He believes his investment team of four - comprising of three portfolio managers and one analyst - is enough to allow ICE Investors to focus on its small caps strategy, enabling the manager to be competitive.

At Perpetual Private, when selecting fund managers - whether boutique or institutional - Kyle believes it’s important to look at what the investment teams are doing and how aligned they are with what you’re trying to achieve with your portfolio. He admits there are pros and cons when investing with boutique managers, just as there are with institutions.

Kyle says there are a range of issues to consider when selecting fund managers. One of these issues is whether the strategy that is being run has the appropriate infrastructure in place to support it. For example, he believes the reason why Australian equities is a great asset class to implement via managed accounts is that it’s relatively infrastructure light compared to a fixed income strategy or hedge funds.

“The reason why boutique managers are attractive is that you’ve got a high alignment between the principals of the business and what they’re delivering for clients,” says Kyle. “So, when we look at managers, we look at their incentives structure, the financials, and we ensure that the managers are aligned with delivering good returns.

“I also think it’s important to have had a good history and experience with the managers you invest with. That’s because it’s important to know that what managers are saying today is consistent with what they’ve said in the past, in terms of staying aligned with their values and their approach to investing.

“Therefore, experience with a manager and good manager research is just as relevant with managed accounts as it is with managed funds. You need to make those assessments when investing. You also need to make sure that the investment teams and organisations you work with are fit for purpose and aligned in terms of delivering for your clients.”

While echoing many of Kyle’s views, as a boutique manager, Marcus adds that the key advantage of running an Australian equities portfolio in a managed accounts structure revolves around the focus that Blackmore Capital has on the companies it screens in its investable universe.  

“Our key advantage as a boutique manager is the ability of our team to get out and conduct primary research of companies through company visits, and have the flexibility to do that in a highly focused approach.”

As a boutique manager, ICE Investors runs a ‘benchmark unaware’ strategy across its portfolio, where it seeks to find the best possible business franchises to invest in. This means the portfolio never looks like any particular market index.

“In many ways, it’s easier to do something like this in a boutique, because everyone in the business knows what you’re doing and is fully aligned in producing that outcome. That’s our strength,” says Callum.

“I think that if you are ‘benchmark unaware’ it helps you to deliver excess returns over time. So, I do feel that it’s easier to do that with boutiques, where you have a smaller team of people who are aligned and focused on producing a specific outcome.”

Callum Burns is Managing Director and Portfolio Manager at ICE Investors;

Kyle Lidbury, CFA is Head of Investment Research at Perpetual Private;

and Marcus Bogdan is Chief Investment Officer at Blackmore Capital.

The session, ‘Boutique management within Australian equities’, was moderated by Nigel Douglas - Chief Executive Officer at Douglas Funds Consulting.