A small firm with a small island focus

Rathbone Unit Trust Management prides itself on its team-based approach. And although performance has slipped of late, it remains positive for the future. James Teasdale reports.

Rathbone Unit Trust Management is the unit trust arm of Rathbones, a listed investment management company and provider of discretionary fund management and wealth management services for private clients and trustees. The group managed 7.7bn of assets for private investors, charities, pension funds and unit trusts at December 31, 2004. Rathbone Unit Trust Management, which was launched in 1999, has about 900m in assets under management.

Rathbone Unit Trust Management is a small asset management house with a bias to investing in British equities. The company takes pride in its investment process, with a focus on stockpicking, teamwork and giving young rising talent the opportunity to reach their potential.

The investment process cultivated by Rathbones has led to six of its seven unit trusts producing better-than-median performance over the past three years. The strong performance has not gone unnoticed and funds under management have soared from 220m to 900m in the three years to June 30, 2005.

However, this impressive record is not reflected over the last 12 months, with only two funds in the top half of their sectors and the remaining five in bottom-quartile territory.

Chief executive Peter Pearson Lund says: “We are cognisant of performance, but we have created a strong investment process and are content with stocks in the portfolios. It doesn’t take much to slip from first to fourth-quartile performance over short periods and we are confident that our more recent investment choices are beginning to bear fruit. There is a lot of support from our larger clients for the judgments we are making.”

The investment process lays clear foundations for management of the unit trust range. The process is fundamentally based around the team’s stockpicking skills but also has a top-down element, says Pearson Lund: “We will drill down from a macro level to individual country and sector themes and then to individual securities.”

“We have a small team of 10 investment professionals led by chief investment officer Julian Chillingworth. Team spirit is important and we aim to create an environment that allows individuals to shine.”

Chillingworth says: “The team is obviously greater than the individuals contained in it. We are constantly interacting and have managed to create a vibrant atmosphere, with the whole team sitting in one room. We assign fund managers and assistant fund managers to cover certain areas of expertise.”

Fund manager James Thomson is the in-house expert on internet gaming companies, explains Chillingworth: “We pride ourselves on thinking outside the box; identifying investment ideas early and doing something different.”

He adds: “The investment process has evolved and become more focused, but the fundamentals of performance are very much still there.”

Chillingworth says picking up themes is important to the process and this may lead to taking contrarian views. “If interest rates look set to move down then the consumer sector may come under pressure. As a result we may look at consumer-related stocks that have been hard hit but are well-run businesses. We are finding some interesting business models in the sector, including House of Fraser and Halfords.

“We like to go out to meet companies and look at their management teams. We don’t want quick-fix approaches but management that has strong knowledge of the business and the industry. The investment process looks to identify price-setters rather than price-takers and also analyses whether businesses are making the best use of the technology available to them.”

The quantitative side of analysis is also important, with the usual analysis of company accounts including balance sheets, cashflow and profit and loss statements. The cashflow statement is of particular importance, including an analysis of dividend payouts, explains Chillingworth.

“A number of companies have seen huge increases in dividend streams. We like to see strong business models that are generating cash. There are drivers at a sector and subsector level that lead us to invest in stocks, but we are principally investing in businesses and people.”

He adds: “It’s no good investing in sunset industries such as European steel manufacturers when China is producing steel at a much lower cost.”

Chillingworth says: “We are very happy with the investment process and acknowledge that there will be periods when we do not perform. Performance was hit in the last quarter, although this has started to turn around over the past month. But we do not set out to be index trackers and all portfolios have a maximum weighting of 4% in any one stock. We will therefore naturally be underweight in companies such as BP and Shell.”

He is currently bearish on pharmaceuticals and says there is a long-term problem in establishing consistent pipelines within the industry.

Pearson Lund says: “The investment process is an important benchmark for the business and we have spent a lot of time developing it.”

The unit trust range is dominated by investments in British stocks, with only the Global Opportunities portfolio not benchmarked against a UK sector.

By far the largest two portfolios are the 556m Income and 191m Special Situations funds, both run by Carl Stick. The combined funds make up over 80% of assets under management within the group’s unit trust range and have attracted a considerable amount of support from fund of funds managers and the intermediary market.

Credit Suisse fund of funds director Robert Burdett says: “We have followed Rathbones for some time and Stick has done well since taking over the Special Situations fund. We are currently invested in the Income fund.”

Ben Yearsley, investment manager at Hargreaves Lansdown, says: “The Income fund is a good performer. Stick is a great fund manager. Performance has recently slipped slightly, but we back him over the long term.”

Yearsley adds: “Rathbones is a small and focused specialist niche provider with one very good fund manager in Carl Stick. The one big risk is that, although it is not quite a ‘one fund manager group’, its success largely rests on Stick and it needs to do everything to keep him there. If he left, we might sell out too.”

But Pearson Lund emphasises the team-based approach. “If we were just content to do one thing and do it well, we would be vulnerable. But our policy is to broaden our skills and invest in people to cope with the future,” he explains.

Pearson Lund says that Stick is helped by two young and able assistants (Marina Bond and Hugh Yarrow) and has the motivation to see the business grow. The relatively small size of the unit trust business means fund managers can contribute substantially to the growth of the company and this is a strong incentive to perform, he adds.

“You have to get the team and remuneration right. We could make a case for doing what we do now with half of the staff. But we are bringing in young people and training them to enable the organisation to grow and extend our franchise in terms of funds under management. The business has to breathe and also invest in the future. The fabric is there and we are reinvesting in the company. We have a very committed team.”

Most recently, Bond has taken over from Stick as lead manager of the Smaller Companies fund and Thomson now runs the Global Opportunities portfolio, previously managed by Chillingworth (see Fund Strategy, July 25).

Burdett says: “Rathbones has a good history of nurturing young fund management talent. Roger Whiteoak [now at Framlington] was relatively unknown before he joined the group and managed the Smaller Companies fund. Carl Stick has also helped Marina Bond, who now manages this fund. We are also looking at the Global Opportunities fund run by James Thomson – another manager they are bringing to the fore.”

The 16m Global Opportunities fund invests primarily in developed economies, most notably in American and British companies. But the portfolio also holds assets in countries such as Egypt, Korea and Mexico.

Chillingworth says the Global Opportunities and Special Situations funds are the more risky portfolios within the unit trust range. But the added risk taken by both these portfolios has been converted into top-decile performance over three years. Returning 77.2% over the period, Stick’s Special Situations fund is the top-performing of the Rathbone unit trust range, while the Global Opportunities fund has the distinction of being top-quartile over both one and three years.

He explains: “We do a lot of work on risk analysis and employed a quantitative analyst earlier this year. We use the Style Research system to analyse all funds and offer risk overviews for major investors. We have a value bias to investing and tend to adopt a slightly contrarian approach.”

The worst-performing fund over three years is the 44m Ethical Bond fund, managed by Bryn Jones. Pearson Lund says: “Within the organisation we have strong ethical investment skills both in terms of the screening process and investments. We want to demonstrate our skills in this area, which should provide longer-term benefits to the business.”

The fund range previously included the Rathbone Technology fund, which was closed in 2004 when it merged into the Global Opportunities fund.

“The closure was purely based on economics and the significant reduction in demand for technology funds. The size of the fund was not viable and it got to the stage where it no longer made sense to carry on,” explains Pearson Lund.

“We like to distribute our fund range to as broad a market as possible, rather than focusing on one specific section of the intermediary community. Marketing the brand and raising awareness is key.”

The group has held a number of roadshows to promote funds to the intermediary market around Britain.

Pearson Lund says: “We want to promote all of our funds and we have some excellent performance numbers to help sales. There is currently a focus on our UK funds from investors and the Global Opportunities fund is a tougher sale.”

He adds: “It is a small fund with a great record and we need to position ourselves in order to promote the fund. But our strengths in global investment help us broaden our expertise and is another advertisement for the Rathbones investment process.”

Chillingworth says: “It is simply a matter of positioning our funds to the people who might be interested. As screening becomes more sophisticated our funds will come up on more people’s radar screens.”

Pearson Lund says: “The investment process, the quality of our management team and the working environment are all strong attributes. Aligning the needs of the business and staff means that everyone knows which way we are going.”

He also identifies the current savings shortfall in Britain and the pension deficit problem as an area of opportunity for the unit trust business. “With the government encouraging individuals to save in future this is a great potential benefit for collective schemes, including our funds.”

Being part of the Rathbones group is also a significant asset, Pearson Lund adds: “Being in touch with what customers want is clearly important. There is currently an appetite for what we do and we believe we have a great opportunity to grow the business. But we need to be mindful of changes in the industry and maintain good performance.”

“There may be opportunities to distribute overseas, but we need to get it right in the UK first,” he concludes.