An injection of new management blood at BT pension fund star and institutional heavy-weight Hermes has given fresh impetus to the group’s assault on the UK retail sector
The credit crisis created a difficult backdrop from which to launch a new fund management businesses. Wannabe asset managers found themselves stymied by increasing regulation and until recently, markets were not on their side either. Asset flows have been hard to come by, and investors have favoured a handful of brand names. It was into this environment that Hermes decided to launch its wholesale business in 2007.
It may have been an inauspicious time to launch, but Hermes had a few things in its favour: Principally, its investment team was already managing the UK’s largest pension fund – BT – which meant it had a recognised name, credible financial backing and an established investment team with a lengthy track record.
But while valuable early work was done on building the requisite infrastructure in the intervening years, it took until 2011 and a near top to bottom change in personnel for the business to gain real momentum. A new management team was established in 2011 and recruited Harriet Steel as head of business development to lead the charge. Since then, the business has started to motor.
Steel describes 2011 as ‘T=0’ for the business. She adds: “From 2007 to 2011, it was a question of building out the operational infrastructure and acquiring, where necessary, portfolio teams. In the middle of that, the world blew up and there was a period of around four years where business development was the last thing on anyone’s mind…but in 2011, it was clear that there had been a significant macro shift, that had redefined the type of asset management needed.”
The incoming management team recognised that a shift had taken place and it had a window of opportunity to build the business.
In many ways, Steel was not an obvious choice. Her background was investing banking, initially as a trader and then a sales person for Bankers’ Trust, before moving to Morgan Stanley. But she also raised assets for hedge and private equity funds before joining Hermes, so had experience building a business and opening up new distribution channels. She realised early that while a framework had been built, there were few sales people and as a result, relatively few relationships with the outside world. “Very few conversations were going on,” she adds.
She has spent the last two years building the team. This now includes some industry stalwarts such as former Baring head of marketing Ian Pascal, who has now joined as head of marketing, but also newer blood such as Rhodri Mason, head of investment solutions and product strategy. Steel has hired 30 people and is still going.
The investment team was largely built, though there has been selective hiring of specialist managers such as the recent recruitment of Marcus Palmer from Chalkhill Partners as head of real estate debt. That said, there was a cultural shift for managers whose only client was a large, if demanding, pension fund.
Steel says: “The managers are doing exactly what they have always done, investment-wise. Certainly some were not used to going out, but it meant that, if anything, they came across as completely authentic. They are used to being grilled by a sophisticated pension scheme, so that was not an issue but they are also eager to grow assets.”
Steel sees the approach as ‘multi-boutique’ in that there is no top-down mandated investment process or style and the individual teams run autonomously: “We wanted to be clear that we are specialist and individual investment teams, who can invest according to their own investment philosophy. That said, they are all bottom-up managers and are not constrained by a centralised investment view.”
For example, Robert Anstey of the US Small & Mid Cap fund takes has a ‘quality value’ approach seeking out higher quality companies and trying to buy them at a discount to his assessment of intrinsic value and then own them for long-term. He defines ‘high-quality’ as a company with a durable competitive advantage. In contrast Jonathan Pines, who runs the Hermes Emerging Markets Asia fund, is a contrarian, with his fund significantly skewed to unloved China and Korea.
The group now has 11 Dublin-listed funds. Hermes has specifically targeted areas where it believes it can add alpha: “We did not want to try to be all things to all people, so we have focused on regional equities and high alpha strategies” says Steel. The group recognised that certain areas were likely to be overtaken by passive strategies and consciously avoided them.
The group has gained most traction particularly in those sectors where rival funds are shut, or top performers are scarce: “We have raised substantial assets for our US Small and Mid Cap fund, where other strong managers are closed” says Steel. “We have also seen inflows into our European equities strategy, and are beginning to raise assets in Asia.” They are also hopeful that emerging markets and Japan will begin to see inflows as the group builds its brand and investors seek alternatives to more established retail groups.
Steel says: “The investment teams all have a very defined investment process. In this way, these are institutional calibre products. Every manager will have very specific reasons for investing in any security and every investment has a specific place. They are used to one very demanding client – the BT pension scheme.”
The UK fund range does not yet have a meaningful track record, but the identical Dublin-listed range (listed here) has delivered some strong performance over three years. Five out of the six funds with a three-year track record are top quartile. The fixed income portfolios are also showing strong performance over a shorter time frame.
The group is also differentiating itself on fees. Steel says: “We are passing on institutional fee rates on the administration fees. We are priced similarly on the management fees, so the overall total expense ratio can be up to 20 basis points cheaper.” She believes this is a significant selling point in a market that is increasingly discriminating about fees.
The group still has plenty of product development ambitions. Mason has been tasked with looking at strategic trends and deciding where they can offer appropriate products. Much of his early work has been focused on getting the Dublin and UK fund ranges up to scratch – ensuring there are hedged share classes for example. The institutional market does not tend to need hedged share classes because pension and insurance funds tend to do their own hedging. However, retail investors need these options. The group has launched 143 new share classes, 100 of which are hedged: “We needed to get the funds into the format in which the wholesale market wanted to buy it,” says Mason.
But now the group can start on its loftier ambitions: Marcus Palmer was hired with a view to building the group’s presence in real estate debt – an increasingly popular solution to the scarcity of income and difficulties in the bond market. Hermes Real Estate has traditionally focused on equity investments in property, but the new platform will aim to take advantage of the opportunity of the funding gap left by traditional lenders.
The group is also looking at a multi-asset offering: “We want to bring our insights from the institutional market to the wholesale market. There are very exciting things under development. We have a core team of asset allocation specialists and Neil Williams, our chief economist, has strong technical expertise,” says Mason. “There is a secular shift in investing, towards outcomes and away from benchmarks. There is a wide-open space in wholesale.”
The new fund is likely to take a risk parity approach, giving assets equal risk weighting. It will be ‘asset class agnostic’, focusing on the trading volatility of an asset class. Mason adds: “It is useful to be able to road-test everything we do on the UK’s largest pension scheme. We see it as institutional quality management in a wholesale format.”
The new group is 100 per cent owned by the BT Pension scheme, with a small amount owned by employees. Steel says: “We believe this is a big point of differentiation. At a time when investment banks are struggling to make sense of their balance sheets. There is a sense of trust. We are aligned with the investors. These are strategies we have run for a long time.”
At the moment the group is focusing on the ‘wholesale’ market – fund of fund and discretionary managers. It is now building some high profile backing. Jupiter chief investment officer John Chatfeild-Roberts recently added the Hermes US Small & Mid Cap Equity fund to the US equity portion of the £1.9bn Merlin Growth and £870m Merlin Worldwide funds.
Other multi-managers, such as the teams at F&C Investments and Aberdeen, are following suit. Harriet says that the RDR will be helpful: “It should give a renewed focus on discretionary fund managers. There is also an increasing focus on the investment return over areas such as brand. Managers are looking at where they want to allocate their alpha budget, often taking a barbell allocation approach, combining high alpha funds with passive funds. This should play to our strengths.”
The precedents for a large institutional-style manager to build out a fund business have not always been auspicious. However, Hermes has strength and depth in its investment team, a lengthy track record and energetic management. It is already building traction among investors, with most of its funds already at a credible size. It may be an institutional stalwart, but it has everything in place to crack the UK wholesale market.
Hermes Fund Managers
Hermes Fund Managers was established 30 years ago and now manages £24.9bn in assets, including those of the UK’s largest pension fund, BT. It has recently launched a fund range in the UK comprising 11 regional equity and fixed income funds. It has an identical range in Dublin, in which many of the funds now have a three-year record. Hermes has a ‘multi-boutique’ structure, with each investment team managing money using their own process and style.