Number crunchers seek quality for trimmer fund

Ed Meier and Vincent Vinatier, co-managers of the Schroder UK Select Equity fund, talk to Adam Lewis.

Q. You took over the fund from Tom Carroll in November 2006, what changes did you initially make?

A. VV:

We weren’t comfortable with the structure of the fund when we took it over. It had too high an exposure to micro caps. So one of the first things we wanted to try and do was move away from these and find a new path going forward. The fund was also unbalanced in terms of its sector exposures, so we rebalanced the portfolio with a large programme trade to realign it to stocks we preferred.

EM: What we have been trying to achieve since we took the fund over is to make sure the portfolio is more representative of our conviction levels. Both myself and Vincent come from analyst backgrounds. As such we prefer to delve into and crunch numbers. It is hard to do this on micro cap stocks. We have also reduced the number of stocks in the portfolio from 70 to 60.

Q. Does the way you manage money differ to that of the previous manager?

A.VV:

The main difference is the way we approach things. Tom Carroll was happy to hold concept stocks whereas we are much more rigorous. We focus more on companies that can demonstrate actual numbers and have proper business models. We are analytical and cash-flow based – we buy numbers not stories.

EM: Because we are number driven and bottom-up investors we tend not to take any large macro bets. Instead we tend to take a sector neutral position. It is not our job or place to try and forecast where the oil price will go.

Q. What is select growth?

A. EM:

Pretty much what it says on the tin. We invest in UK companies, which is broken down from a FTSE 350 investment universe using various cash flow methods.

VV: The name select growth fits well with our investment process. We look for growth opportunities but this is underpinned by looking for high quality and cash flows. We look for quality growth not unsustainable growth.

Q. The fund had a difficult 2007. Why was this? Can you turn this around?

A. VV:

It is very easy to explain. The key problem was the 15% stake of the portfolio we inherited that was invested in micro caps. The majority of these were Aim-listed [Alternative Investment Market] biotech stocks. There was also a large stake of the fund in oil exploration and production companies. There was no way of selling out of these without hurting the fund’s performance. Our first six months of managing the fund were quite painful on performance.

EM: The micro caps in the fund were illiquid, many of them were in the single digit millions in size and the fund had 15-30% stakes in them. However the good news is that we are happy with the positions held in the portfolio. Our exposure to micro caps is much smaller and those we do still hold are in there because we like them.

VV: We did also have a position in Northern Rock, which hurt the fund. This was an A-graded stock and was held across several Schroder portfolios. We did get out of it quickly and is now completely out of the fund.

EM: We are seeing the first chinks of daylight. Performance on a rolling basis has steadied and year-to-date the numbers look okay. This means we can look forward with optimism. We have taken full ownership of the fund and can be judged on our own performance, not that of the previous manager. Richard Buxton, head of UK equities at Schroders, backs us because in December he gave us the UK Alpha Income fund to manage.

Q. What are the prospects for growth in Britain?

A. VV:

There are some days when it is better not to read the papers. There are clear challenges ahead. Consumers are stretched and banks are not extending credit as willingly as they used to. We have to be aware that 2008 will be a tough environment. However, this does not mean you cannot find good investment opportunities. We try to find stocks that are either structural growth stories, or those companies where an armageddon scenario has been priced inEM: When markets recently tumbled we selectively topped up some growth stocks that were priced for massive problems.

Q. Do you use any of the wider investment powers granted under Ucits III?

A. EM:

Until now the fund has been plain vanilla, not doing anything fancy. The purpose so far has been to restructure it so it can start to outperform.

VV: It is a full Ucits III fund so it will eventually take advantage of the wider investment powers. But first the important thing is to get the basics right.

Q. Do you have scope to invest outside Britain?

A. VV:

The fund is UK only. However, the UK Alpha Income fund we have just launched does invest in some European companies and in due course UK Select Growth may also do this, but to a moderate extent.

Q. Were you surprised by the criticism aimed at the fund by Bestinvest? (see Fund Strategy, February 4, page 8) Does this concern you?

A. VV:

It is fair to say we were disappointed by it. This is because it does not take into account the fact we have only been running the fund for just over a year, a lot of which has been transitional. So we were disappointed to be judged on this. Otherwise we are not fazed because things are starting to pick up.

EM: Take for example this. Today [February 5] was a difficult one for markets. One year ago the performance of the fund would subsequently have gone down 75 to 100 basis points, because of the way the portfolio was positioned. Today performance is only down around 15 basis points. This is much more manageable.

Q. As co-managers of the fund, how do you share responsibility?

A. EM:

Both myself and Vincent come from analyst backgrounds, but in different areas of the market. As such we bring different skill sets to the table and we discuss all the stocks that go into the fund.

We also benefit from the access we have to Schroder’s bank of analysts and the other fund managers. We sit next to Richard Buxton and Errol Francis and chat with them all the time.

VV: Last year the large cap element of the portfolio had a strong commonality with Richards’ (UK Alpha Plus fund). But the ideas do come from both sides, it’s not a one way street.

ED MEIER AND VINCENT VINATIER have co-managed the Schroder UK Select Equity fund since November 2006. Meier (pictured, above left) joined Schoders in January 2006, having previously been a fund manager of the BAE Systems Pension fund from 2002. Vinatier (pictured, above right) joined Schroders in 2005. He was previously a pan-European equity analyst at Axa Investment Management from 2001.