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Time in the market – and in the mandate

15 March 2019

Time in the market – and in the mandate

When investing, it’s key to keep the end goal in mind
It’s a well-known adage that it’s time in the market, and not timing the market, that counts. As investors who seek to identify mispriced value and who are willing to wait for this value to be realised, we recognise the importance of a long-term mindset – especially as we know it won’t always be smooth sailing. For this reason, we encourage our clients to do the same. The starting point is a mandate-appropriate investment horizon, as even funds with relatively low exposures to risk assets may experience temporary dips or short-term drawdowns. While these are understandably uncomfortable, keeping sight of the bigger picture can help.

We define risk as the possibility of not delivering on our client mandates
Generating a real (after-inflation) return always requires some degree of risk, and our funds’ exposures to risk assets are largely determined by their required return hurdles. But it’s impossible to predict when value will be unlocked, and therefore important to keep a mandate-appropriate view. We like to use the analogy of a vessel that has a reliable engine but faces a variable and unpredictable current. At times, forward progress may be slowed or even neutralised, but the engines continue to do their work and the results become apparent when the current steadies.

We won’t get every call right, but aim to get most of them right
Inevitably, when you’re out at sea, there will be times – such as now – that the waters get rough. On occasion, this may be because we set the wrong course, as we did with EOH. On others, such as our funds’ investments in Tongaat Hulett, the currents may simply be far stronger than we anticipated. Where we make mistakes, we incorporate the learnings in our investment checklists and redouble our efforts to make up for lost ground. If it’s a case of weathering the storm, we make sure we do all we can to protect our clients’ capital.

Ultimately, we accept that investing in long-duration assets with uncertain futures can never result in a 100% success rate. But we believe that by applying our process consistently and with discipline, we can achieve a high enough hit rate to deliver the returns our clients require over the appropriate timeframes.

Our process is designed to reduce the risk of permanent capital loss
We construct our portfolios from the bottom up, by selecting securities from the buy lists (equity, fixed income and credit) our investment committees produce. Each security on each of our buy lists has successfully passed through our extensive qualitative and quantitative process, meeting our 3 M (Moat, Management and Margin of Safety) criteria. Our default position is always cash, which we will only allocate to opportunities that offer compelling risk-adjusted returns and which are likely to contribute sufficiently to returns required by the mandate.

As we believe in building all-weather portfolios, we are careful to avoid any dependency on a single outcome. We review portfolios weekly at investment committee meetings to evaluate if there are unintended correlation build-ups or concentrated bets. We focus specifically on any fundamental factors that may be driving profits across a large segment of the portfolio (for example, general price movements in a certain sector) and think through the outcomes of several potential scenarios, such as changes in exchange rates, inflation rates and geopolitical dynamics. While it is unlikely that we will predict the exact scenario that eventually plays out (and this is not our aim), considering a range of possible outcomes helps to identify – and address – correlated pockets within the fund.

Importantly, our aim is not to maximise returns, but rather to maximise the number of scenarios under which we achieve the returns our clients need – and to do so consistently over mandate-appropriate horizons.

Our portfolios look different from the benchmark and our peers
Our process, which seeks to identify mispriced value, often draws us into the eye of the storm: opportunities in areas clouded by fear or uncertainty that the market may be missing. As we are benchmark agnostic and tend to look different from our peers, it means that our funds are likely to experience bouts of volatility and short-term underperformance. This is especially true of higher-equity mandates, given that the asset class is more volatile over shorter periods. While we understand that this can make investors uncomfortable, we encourage our clients to adopt mandate-appropriate investment horizons and to evaluate returns over appropriate periods.

Furthermore, while we may be experiencing tough tides, we are currently finding exceptional value across all asset classes. This is a rare position to be in, and an opportunity set that’s embedded in our funds. Although this means that the funds are increasing their exposures to risk assets and taking on more interest rate risk (in longer-dated instruments), we in fact believe these assets to be low-risk, given the attractive prices at which they are available. The greater risk in our view would be for clients to exit their investments at the wrong point in the cycle and miss out on the potential value to be realised.


Greg Hopkins is the Chief Investment Officer at PSG Asset Management.

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author

Greg Hopkins

Portfolio Manager and Chief Investment Officer


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