Richard Jones, head of retail sales at Dalton Strategic Partnership, does not worry about short-term underperformance. His managers are focused on long-term goals, writes Adam Lewis.
In the New Testament, Melchior was the wise man who presented the baby Jesus with a gift of gold. In the investment industry it is the brand of funds managed by Dalton Strategic Partnership (DSP) – born 2002 years later – and its investors will be hoping for a similar gift.
DSP was founded by Andrew Dalton and several former colleagues from Mercury Asset Management/Merrill Lynch Investment Managers. It has launched two main fund ranges: a UK Oeic and a Luxembourg Sicav. The Oeic now consists of seven funds worth about £600m while assets in the 10 funds in the Sicav total about £190m.
In the Oeic range, five funds have a track record of more than one year but only three have been run for over three years. Of those with a one-year track, none are ranked in either the first or second quartile of their peer groups. However, the longer-term track makes for better reading, with two funds – North American Opportunities and Pan Asian Advantage – ranked first quartile.
Richard Jones, partner and head of retail sales at DSP, says he is comfortable with the short-term underperformance of its funds because the way they are managed means the net result will be long-term outperformance. He says: “We don’t impose any house view on our fund managers. This is because [they] are all experienced and the majority have worked at large fund management houses before. As such they bring the experience to DSP and we provide them the freedom to express their own process and philosophy on their funds.
“If this means they will underperform over the short term then we are comfortable with it.”
Jones says that Glen Pratt, manager of the UK Opportunities fund, is an excellent example of this. Pratt joined DSP from Newton Investments in December 2005 and, despite the fund underperforming over the past 12 months, Jones is confident in its long-term prospects. “Glen’s fund performed very well in the first six months of last year,” he says. “However, in August there was a significant rotation in the market out of small cap and Aim (Alternative Investment Market) stocks, which he held a lot of in the fund. As such his performance in the second half of the year was not as good. However, Glen says the situation has reversed in 2008, and so far in January the fund is up 4%.”
Jones describes Pratt as a contrarian stockpicker who looks for companies with unrecognised growth – that is, they are undervalued. He says the stocks that did well last year, such as mining, did not fit into his investment universe. “As a contrarian investor, there will be times when you have to accept the stocks you hold will be unpopular and this can cause short-term pain,” Jones adds.
Alan Stokes, head of multi-manager funds at Lawrence House Fund Managers, holds Pratt’s fund exactly for his contrarian style of management.
“Glen has an excellent long-term track record, previously having worked at Fidelity,” says Stokes. “It’s true the fund got smacked in the last year, with one stock really damaging performance. However, we like Glen because he makes these types of decisions. As a bottom-up stockpicker things like this will happen but you buy him because you believe in his process. Indeed, owing to his different management process his fund is a good diversifier in my portfolios.”
Ben Yearsley, senior investment manager at Hargreaves Lansdown, says it has three DSP funds on its Wealth 150 recommended list, including Pratt’s fund. It also recommends Henrietta Luk’s Asian Opportunities fund and the Japan Advantage fund, which is run by Akira Yoshimi at FuNNeX Asset Management. FuNNeX, based in Tokyo, was founded in 2000 by Ken Nishizawa and is part-owned by DSP.
“DSP is almost a series of boutiques,” says Yearsley. He asks: “Why buy a fund manager? You do so because you believe in their quality and the performance of their fund is down to them, not a house view imposed by the group. At DSP all the managers are free to run their funds in the way they want to and we like this.”
The Japan Advantage fund is the only fund in DSP’s range that is not actively managed, Jones says. The rest seek to deliver absolute returns over a three-year rolling period.
“This rolling three-year period is far more important to fund managers and investors than the short numbers,” argues Jones. “We do care about costs, and one-year numbers are important, but what worries sophisticated investors most is if the fund they are investing in does something it is not meant to or is unexpected. If a fund has a clear process and follows this, the by-product should be considerable long-term outperformance.”
In addition to its focus on absolute returns, a core investment principle at DSP is that investments are managed in a global context rather than narrowly focusing on one country or region. Jones notes that a global debate using macroeconomic research and global investment horizons helps to drive its active approach.
A difficult year for small cap companies in Japan is the reason Jones gives for the underperformance of the Japanese Opportunities fund over the past year. Managed by FuNNeX founder Ken Nishizawa, the fund was ranked bottom in the Japanese Smaller Companies sector over one year, falling 28.9% in value. The fund is ranked second in the sector over three years, but the return was still negative at 8.76%. Jones says: “When Japan turns an investment corner, which may well be this year, we expect Ken to considerably outperform both his peers and the fund’s benchmark.”
Despite a third-quartile ranking over the past year, Jones says the North American Opportunities fund, managed by Peter Kaye had a good 2007. He notes: “Over the calendar year the fund outperformed the S&P 500 by 2.2%. Peter has the hardest market to outperform in, but on an annualised basis since the launch to December 31, 2007 he has outperformed the S&P 500 by 3.5%.
“In a slowing economic growth environment, companies which demonstrate earnings growth should be rewarded and outperform,” Jones adds. “As such, while many others are turning bearish on America, Peter sees a number of excellent opportunities developing as we progress into 2008. What differentiates this environment from the last recession, in 2001, is a low level of valuations (based on historical earnings), especially relative to bonds.”
However, in the near term, Jones says Kaye thinks that expectations for 2008 earnings remain too high and that the fourth quarter earnings season may provide the opportunity for companies to be conservative with their guidance. As a result, while Kaye has reduced the risk of the North American Opportunities fund by raising the portfolio’s cash weighting, Jones says the manager intends to capitalise on a number of these valuation opportunities.
DSP has no plans to replicate any more funds from its Sicav into its Oeic or vice versa, Jones says. The only fund in the Sicav not now mirrored in the Oeic is Select Trust Canadian Opportunities fund.
The one portfolio to be launched soon as a retail fund is UR Bhat’s Melchior Indian Opportunities fund. Launched in November 2005 and structured as a Mauritian-domiciled fund, the $125m (£64m) portfolio returned over 100% in 2007. However, given its offshore domicile, minimum investment in the fund at present is $100,000.
“We will only launch onshore replicas of funds if there is sufficient investor demand for them,” says Jones. “This fund is one we are giving serious consideration to making available to the broader retail and wholesale marketplace.”
When it does, Yearsley at Hargreaves Lansdown says the fund may go straight onto its Wealth 150 funds list. “We like the existing fund. UR Bhat is a very good mid and small cap stockpicking manager,” he says.
Apart from launching new funds, DSP last year soft-closed both the onshore and offshore versions of the Asian Opportunities fund to protect performance. Jones says the near-term prospect of any other closures is unlikely, but it is something he sees happening to all the funds at some stage. “One of the core principles of the firm is to put performance ahead of asset gathering,” says Jones.
“We are always mindful of the effect that more assets mean to a manager’s process. Hence we soft-closed Japan Opportunities at the end of 2005 and the same for the onshore Asia fund in February and the offshore Asia fund in November.”
Jones says the main task for DSP is to build the Melchior brand to become ever more recognisable in the wholesale and retail markets. This will involve getting the funds on to the major supermarket fund platforms. “This is the next stage of development for us and we are in active dialogue with a number of large platforms,” he says.
However, for Stokes it is DSP’s lack of a big presence in the retail market that appeals to him. “The sort of people who buy DSP funds know what they are getting into,” he adds.
In all likelihood the story of Melchior as a range of funds will not outlast that of the wise man. However, if its style of management rewards investors with long-term gains, that is all the gold they will want.
Dalton Strategic Partnership was founded in 2002 by Andrew Dalton and several former colleagues from Mercury Asset Management/Merrill Lynch Investment Managers. Melchior is the brand name of the group’s range of funds, of which it manages long-only, hedge funds, one investment trust and segregated portfolios. At December 31, 2007, total assets under management stood at $3.5 billion (£1.8 billion).