Issue: April/June 2010

A winning strategy

Mark Lamohr

Lamohr...contrarian approach pays off

Local investors should diversify offshore to mitigate risk. Mark Lamohr, head of international equities at Metropolitan Asset Managers, shows how consistent outperformance against the MSCI Global Index can be achieved.

In the current market, pension funds must consider offshore investments. Since the volatility that began in September 2008, local investors have been reticent to invest offshore. Many are not only repatriating funds but also moving into more conservative investments like money markets.

Global growth is likely to splutter, but basic tenets of sound investing still apply. Diversification and a disciplined approach remain the best ways to mitigate risk.

While emerging markets offer better growth prospects, developed markets offer greater stability. Consider, for instance, Coca Cola and Wal-Mart. Although they have a solid US base, they generate earnings growth from other markets such as China. Portion of a pension fund’s assets should be invested in such companies.

Managing risk is a main priority. The MetAM Global Equity Fund is one of the few amongst its peers that uses both quantitative modelling and fundamental analysis to invest. MetAM’s approach is also contrarian as we typically buy companies that have unfavourable prospects over the short term but positive over the long term.

In doing so, last year the fund yielded a 38% return. This was outperformance of its benchmark, the MSCI World Developed Market index, by 8% in dollar terms.

It was achieved by sticking to the fund mandate and a consistent stock selection process, regardless of the market environment. It includes estimating what the companies would earn on average through up and down market cycles.

A crucial part of fund management is portfolio construction i.e. how much to invest in each company. The aim is to invest in companies with the greatest expected return over the next four years, while staying within a relative risk (tracking error) tolerance of between 2%-5% against its benchmark.

To attract risk-averse investors such as pension funds, the fund targets companies likely to produce the highest return per risk taken. To limit the relative risk, it will hold portions of the Index.

Fund managers who’re given a relativerisk mandate tend to deviate from the benchmark to generate outperformance (‘alpha’). This gives the illusion that all alpha that’s generated is equal. Such outperformance doesn’t compensate the pension fund for the additional risk.

While it can cause higher returns in the short run, it can lead to a fund shooting out the lights in one year and tanking the next. Such volatility is not appropriate for pension funds.

The MetAM Global Equity Fund has an investable universe that includes the 1 800 companies in the MSCI Developed Market Index. Since the fund was launched in January 2008, it has outperformed the MSCI World Index by 6% annually. It will continue to look for companies that trade at a sizable margin of safety below their fair value.