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The latest in style

October 2017

Simon Elimelakh, Head of Investment Risk, MLC

In Benchmark Volume 5 (November 2016), MLC’s Head of Investment Risk and resident ‘style’ expert, Simon Elimelakh shared his analysis of investment ‘style’ and demonstrated how it can affect performance. Benchmark recently spoke to Simon to hear his insights on his latest findings.

Hi Simon, thanks for your time. Why is style an important factor when analysing investment managers’ performance? 

Equity managers have always been ‘classified’ by their broad style, which helps describe the way they invest. Some of the well-known styles are Value, Growth and Momentum. These styles are defined by a number of factors which the manager takes into consideration when choosing equity investments. For example, a ‘Value’ manager would typically look at book-to-price ratios, earnings yield or dividend yield, in finding companies that are undervalued, whereas a ‘Growth’ manager would typically consider proven companies and their ability to grow their earnings over time. Investment styles are not highly correlated so understanding how managers invest helps us when building portfolios, combining managers to achieve investor outcomes, and assessing managers’ performance in different investment environments.

Does ‘investment style’ drive a manager’s performance? 

Yes, to a degree. A manager’s investment style does contribute to performance however the effectiveness of their style also depends on the prevailing investment environment. You could describe the investment environment in the same way as you describe the wind. Sometimes managers will experience a ‘headwind’ if the environment is against them, a ‘tailwind’ if it suits them, or it can be ‘still’ which means it plays more of a neutral role in performance. Broadly speaking, in 2016 ‘Value’ investing experienced a ‘tailwind’ environment with strong returns, and on the flipside, ‘Growth’ managers found 2016 a tougher environment to deliver meaningful returns. However, this year, the environment changed and ‘Growth’ came back into favour.

As important as style is, it can only explain a portion of managers’ returns. At MLC we aim to select managers who are able to add alpha through superior stock selection skills and therefore able to fully – or at least partially – offset any periodical head wind associated with an unfriendly investment environment.

So how are the different styles currently performing? 

As you can see in Chart 1, Value has gone from the worst performing style in calendar year 2015, to the best in 2016, to flat in 2017. At the same time, Momentum has been highly volatile being the strongest performer in calendar year 2015, having suffered one of the worst yearly drawdowns in 2016, and has bounced back so far in 2017


Chart 1: Calendar year returns of major investment styles1

Source: NAB Asset Management Services Limited, based on data from MSCI Barra, August 2017.

How have these changes in style performance affected MLC’s manager returns? 

As expected, these styles twists and turns have affected managers’ performance. A good example of this is Intermede Investment Partners, one of our global equities managers based in the UK. Intermede positions itself as a manager that builds a portfolio of high quality growth companies and an analysis of their portfolio shows this to be true. As can be seen in Chart 2, their portfolio is consistently pro-Growth and anti-Value.


Chart 2: Intermede's global equities value and growth exposures

Source: NAB Asset Management Services Limited, based on data from MSCI Barra, August 2017.

You can see in Chart 3, their anti-Value tilt hurt their performance in calendar year 2016 however during this time they continued to add value through stock selection. By December 2016 the headwind of style became too strong. While they continued to add to performance through stock selection, this was not enough to offset the drag coming from their anti-Value style hurting overall performance. Intermede stayed on course, remaining ‘true to label’, and continued to add alpha. By June 2017 with the style headwind reduced, performance had fully recovered.


Chart 3: Intermede's active return attribution

Source: NAB Asset Management Services Limited, based on data from MSCI Barra, August 2017.

Another example of the impact of style on performance is Kiltearn Partners, a Value focused global equity manager based in Scotland, another manager of our global equity portfolios. The analysis confirms their style showing a strong Value/anti-Growth tilt to their portfolio (Chart 4). In this example the manager’s style was a tailwind, particularly over calendar year 2016. However this manager also added to returns through their stock selection and delivered strong positive performance by June 2017 (Chart 5).
 

Chart 4: Kiltearn Partners active exposures

Source: NAB Asset Management Services Limited, based on data from MSCI Barra, August 2017.
 

Chart 5: Kiltearn Partners active return attribution

Source: NAB Asset Management Services Limited, based on data from MSCI Barra, August 2017

At MLC, style remains one important consideration when we select managers, but we also consider their ability to combine it with other sources of alpha, particularly stock selection. This diversification of value-add sources should help them to continue to strive towards delivering positive alpha even if their style of investing is currently out of favour. By combining managers with superior stock selection and different styles, we aim to not only deliver meaningful performance to our clients but to also attempt to make the path of performance smoother. Importantly it is not a ‘set and forget’ exercise, as we continuously monitor and analyse our managers’ risk and return patterns against an ever-changing investment environment in our quest to deliver performance for our clients.

  1. Styles are constructed by MSCI Barra long-short portfolios where all other exposures (to countries, industries and other styles) are neutralised. See Benchmark Volume 5 for more information.

 


Important information

This publication is provided by MLC Investments Limited (ABN 30 002 641 661, AFSL 230705) (MLCI) a member of the group of companies comprised National Australia Bank Limited (ABN 12 004 044 937, AFSL 230686), its related companies, associated entities and any officer, employee, agent, adviser or contractor therefore (‘NAB Group’). Any references to “we” include members of the NAB Group. An investment in any product or service referred to in this publication does not represent a deposit or liability of, and is not guaranteed by NAB or any other member of the NAB Group.

This information may constitute general advice. It has been prepared without taking account your objectives, financial situation or needs and because of that you should, before acting on the advice, consider the appropriateness of the advice having regard to your personal objectives, financial situation and needs.
  
Past performance is not a reliable indicator of future performance. The value of an investment may rise or fall with the changes in the market.
  
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