Meet RWC Partners’ new Diversified Return Team and find out how they are helping investors diversify their portfolios
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Recent years has seen an shift towards alternatives, as investors seek to diversify their portfolios in the face of these uncertain times.
IN THIS EDITION
CAPITAL: All investors should consider the risks that may impact their capital, before investing. The value of your investment may become worth more or less than at the time of the original investment. The Fund may experience high volatility from time to time. CONCENTRATION: Concentration of investments within securities, sectors or industries, or geographical regions may impact performance. CREDIT: The value of a bond may decline, or the issuer/guarantor may fail to meet payment obligations. Typically, lower-rated bonds carry a greater degree of credit risk than higher-rated bonds. CURRENCY: The value of the Fund may be affected by changes in currency exchange rates. Unhedged currency risk may subject the Fund to significant volatility. INTEREST RATES: The value of bonds tends to decline as interest rates rise. The change in value is greater for longer term than shorter term bonds. BELOW INVESTMENT-GRADE: Lower rated or unrated securities may have a significantly greater risk of default than investment grade securities, can be more volatile, less liquid, and involve higher transaction costs. EMERGING MARKETS: Emerging markets may be subject to custodial and political risks, and volatility. Investment in foreign currency entails exchange risks.
Risks
This document is directed only at persons that qualify as Professional Clients or Eligible Counterparties only. Not to be distributed to or relied on by retail clients. The value of an investment and any income from it can go down as well as up and outcomes are not guaranteed. This document is not a solicitation or an offer to buy or sell any fund or other investment and issued by RWC Partners Limited. This document does not constitute investment, legal or tax advice and expresses no views as to the suitability or appropriateness of any investment and is provided for informational purpose only. The views expressed in the commentary are those of the investment team. The RWC Diversified Return Fund (the “sub-fund”) is a sub-fund of RWC Funds (the “Fund”) an open-ended collective investment company with variable share capital established under the laws of the Grand-Duchy of Luxembourg. The Fund and sub-fund are only available in those jurisdictions where and when they have been registered with the appropriate bodies. The latest version of the prospectus of the Fund may be obtained from rwcpartners.com. This document has been prepared for general information purposes only and does not constitute advice on the merits of buying or selling a particular investment. RWC Partners Limited is authorised and regulated by the Financial Conduct Authority.
Important Information
RWC Partners recently welcomed three experts in diversification into its team from boutique firm Agilis Investment Management LLP. Clark Fenton, Praveen Kanakamedala, and Charles Crowson will help lead the new RWC Diversified Return Team.
In this guide, we find out what they have planned for the strategy and why diversification is increasingly important for investors.
No investment strategy or risk management technique can guarantee returns or eliminate risks in any market environment
THE INTERVIEW
Can bond investors help change the world?
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We saw an area of the market that we thought was underserved
Finding liquid alternatives when fixed income has turned into ‘fixed loss’
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No investment strategy or risk management technique can guarantee returns or eliminate risks in any market environment.
We want to buy the bonds of firms making a real transition
Campe Goodman, portfolio manager, Wellington Management
(3) For example, see discussion in Tom Freke, How ‘Transition Bonds’ Can Help Polluters Turn Green, Bloomberg Businessweek, 14 July 2019: https://bloom.bg/2lFwh4k
equity and bond holdings.
hen Clark Fenton launched Agilis Investment Management LLP in 2017, he wanted to offer the market something he believed it was lacking: A liquid, low-cost, transparent way for investors to gain true diversification from traditional
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His vision was a product that finally provided those customers that had been continuously let down by the alternatives with what he felt a fund that was sophisticated, yet simple enough that investors could easily understand how it fits in their portfolios.
“We saw an area of the market that we thought was underserved, one where investors were seeking to get more diversification from portfolios but had been let down by alternatives because of high costs, lack of transparency or illiquidity,” he said. “We wanted to create a product that fulfilled these objectives.”
Together with partners Charles Crowson, who boasts derivatives experience, and Praveen Kanakamedala, who has strong risk management knowledge, Fenton brought the Protea fund – Agilis UCITS to market with a flat management fee, no performance fee and offering daily liquidity in a UCITS wrapper.
The multi-strategy portfolio invests across equity, interest rates, credit, commodities, FX and volatility strategies to generate alternative return streams, and can go long or short using derivatives, which allows it the flexibility to adapt to different market conditions.
After two years of running their strategy under the Agilis brand, the three-strong team has now joined RWC Partners to form its Diversified Return Team, with the fund merged into the RWC Diversified Return fund.
“We think this offers us the best of both worlds in terms of providing an opportunity to build the business with the backing of a great partner, strong sales and marketing,” said Fenton. “As a standalone business, these were the things we were lacking, and we wanted to bridge that gap.”
Why diversification?
But while the team and the fund are getting a new name, the strategy will remain exactly the same, targeting diversification first and foremost, but achieving this in a conservative way, with the aim to produce less than half the volatility of equity markets.
And the data proves the fund has been able to do just that since inception: it boasts a beta of just 0.08 to the MSCI All Country World index and 0.16 to the Barclays Global Aggregate Bond index (see table, below).
This low correlation means the fund is not overly biased towards bull or bear markets.
Fenton believes his offering to be “something beyond basic asset allocation”, at a time when the diversification benefits of fixed income are becoming “more questionable” or come at “a higher cost in terms of returns foregone”. For example, much of the European bond market offer negative yields“
It is no longer fixed income – it’s fixed loss,” Fenton said. “For investors who would have historically relied on that for diversification and liquidity it’s a much less compelling proposition.”
To achieve its objective, the RWC Diversified Return fund takes advantage of alternative income streams and uses derivatives to mitigate risks – a strategy that proved its worth in a year like last year, when it made money while most other assets went down in unison.
The focus on liquidity and making money when markets go down means the fund may not perform as well as competitors in a bull market, as Fenton explains the strategy is “almost by definition too early, because we cannot afford to be late”.
“People who are going to try to keep dancing while the music plays and think they can get out quickly when it stops are probably deluding themselves in today’s liquidity environment,” he said. “The next sell-off should be where we distinguish ourselves the most.”
Transparency
Demand for alternative assets has been growing strongly over recent years, with total assets in alternative mutual funds and ETFs increasing from $136bn in 2008 to $913bn by 2017, according to Morningstar.
But while recent market volatility has forced even more investors to look for alternative sources of return, much of the money has been going into less liquid vehicles such as hedge funds, as well as quantitative and systematic strategies.
These often come at a transparency cost, according to Fenton: “It can be hard to know what the secret sauce is and there is a bit of a leap of faith involved.”
For Fenton, it is particularly important to ensure the fund is “not a black box”, so the number of strategies in the portfolio is kept to a manageable 8-12 themes, and the team reveals all holdings to its clients.
“It is a portfolio you can get your hands around, in half an hour we can talk about all the themes,” Fenton said.
“The derivatives aspect is the most complicated one, but the way we use them is targeted. We don’t use exotic derivatives and we don’t favour complexity for its own sake.”
Diversification
Fund/index
Beta
Correlation
MSCI All Country World Index (ACW) USD
Barclays Global Agg Bond Index USD
0.08
0.16
0.33
0.21
Source: RWC, Agilis Investment Management, 30 September 2019.
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Charles Crowson, Praveen Kanakamedala and Clark Fenton, RWC Diversified Return Team
Why diversification matters
RWC Partners’ Clark Fenton on why diversification is vital during these turbulent times
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Campe works with a seven-strong team based in Boston and London. The team includes specialists in fixed income and ESG analysis, taking full advantage of Wellington’s wider resources, including expertise in investment grade credit, emerging markets debt and local agency debt.
Meet the RWC Diversified Return Fund Team
Quantitative Analysis and Risk Management
Praveen Kanakamedala
Asset class exposure
Based on the credit cycle framework and current market conditions we rolled from equities to credit
Consistent protection against largest recent equity sell-offs
Bond like volatility despite turmoil in equity markets
Past performance is not a guide to the future. The price of investments and the income from them may fall as well as rise and investors maynot get back the full amount invested. The Protea Fund – Agilis UCITS merged with the RWC Funds-RWC Diversified Return Fund on 28th October 2019.
The Protea Fund – Agilis UCITS performance is measured as the weekly return of the Class A USD share class beginning on 10 October 2018. When calculating the statistics, the performance of MSCI World and Barclays Global Aggregate indices are measured over the same frequency and time periods as the Protea Fund – Agilis UCITS Class A USD.
Explaining the credit cycle
The credit-cycle framework is the principal tool the Diversified Return Team use to guide how much and what sort of risk to take in their fund. The framework is not a basic asset-allocation but a portfolio-construction methodology to help ensure that the risks in the fund are consistent with those observed in financial markets. We believe the credit-cycle is extra informative in today’s highly “financialised” and debt-fuelled economy.
Prior to joining RWC, Praveen managed Operations, Risk and Compliance for Agilis. He was previously the Global Head of Risk Management and Chair of the Risk Committee at Permal from 2013 to 2015. Praveen was also a member of the Permal Risk, Compliance and Operations Committee and helped oversee the re-domiciliation of the firm’s US$ 9.4 billion single manager ICAV platform to Dublin. He was previously Head of Risk Management at Fauchier Partners between 2007 and 2013. Before Fauchier, Praveen was at Harris Alternatives, a Chicago-based investment firm, where he was responsible for building risk-management tools and hedging market risk in the portfolios. Praveen has an MS from Illinois Tech and an MBA from the University of Chicago.
Clark joined RWC to manage the Diversified Return Fund which he began at Agilis Investment Management. He founded Agilis in 2017 and served until October 2019 as the CEO and CIO. He is the former co-Chief Investment Officer of Permal, a multi-manager alternative-investment firm. Clark joined Permal after its purchase, in March 2013, of Fauchier Partners, where he had been the Chief Executive Officer, responsible for business strategy and management. He also oversaw strategy allocation, manager selection and portfolio construction as a member of the Investment Committee. Previously, Clark worked at Morgan Stanley and began his career trading fixed-income securities for Montgomery Securities in San Francisco. Clark has a BA from Georgetown University’s School of Foreign Service and an MBA from the University of Michigan.
Head of Diversified Return Fund
Clark Fenton
Charles joined RWC from Agilis Investment Management in October 2019 to continue managing the Diversified Return Fund. He previously ran the London office of Mason Capital Management, where he worked for ten years. His role involved trading event and special situation strategies across equity, equity derivatives, credit, and fixed income. Prior to this he had trading roles at Elgin Capital and Tisbury Capital. Charles started his career in the equity derivatives department at JP Morgan. Charles has an MA in History from the University of Cambridge.
Portfolio Manager
Charles Crowson
Credit Protection
Volatility Strategy
US Treasury Notes
Gold
S&P Calls
Semiconductors
Uranium
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How can your fund protect investors in a downturn?
We adapt to different market conditions using our four-part credit cycle framework
n this interview with Clark Fenton, head of the new Diversified Return Team at RWC Partners, we delve deeper into the strategy of the RWC Diversified Return Fund and how it aims to make money for investors in all market conditions.
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The RWC Diversified Return Fund follows a credit cycle framework, which consists of four phases and sees the fund adapt its positioning based on market conditions, with the aim to make money in both downward and upward markets.
How does your fund’s investment strategy allow it to adapt to different market conditions?
We adapt to different market conditions using our four-part credit cycle framework which guides the amount and kinds of risk we take. Based on our credit cycle framework, we are currently in the over-extended leverage phase. Risk premia are low, credit spreads are very tight, corporates have a lot of debt on balance sheets.
If trouble comes, it will be acutely felt. During this phase, we have very little market risk, a lot of liquidity and hedge positions, and instruments that will benefit from a liquidity crunch.
The phase that comes after is deleveraging; markets start to panic and there is a sell-off. We believe our hedge positions should do well in this environment.
The third phase is balance sheet repair, where a lot of the sell-off has already happened but investors are still nervous to add risk. We start to add a bit of risk here, especially carry, to generate some yield for the portfolio, and potentially take profits on our hedges.
Can you offer an example of a position in the fund aimed at protecting investors in a downturn?
The last phase is re-leveraging, where investors come back to markets. At this point we will have the most equity-like exposure, while remaining within our beta constraints.
One such position is being short of credit. Credit quality has gone down. BBB-rated bonds now make up the largest part of the corporate debt investment grade universe.
Spreads are really tight and risks are high as seen, for example, in the very high proportion of covenant light loans, i.e. the loans without the usual stringent covenants.
At the same time, though, mainly due to investors’ complacency the cost to be positioned for a downturn in credit is low. If credit spreads widen, it’s very good news for us.
Also, at this stage in a cycle we generally aim to buy assets that will benefit from a liquidity crunch. This issue has come up recently with the Woodford saga and again with H2O. But these warning signals are appearing in the context of a bull market.
How have you coped with the volatility at the end of 2018?
In the brief sell-offs that we have experienced since inception, the fund has made money. This was due not only to our investments but also to what we avoided.
Not having a lot of risk in the portfolio was helpful, but strategies that benefitted from volatility also did well. For example, on top of credit protection, we have an option strategy related to the equity volatility.
We also held short duration US treasuries, which performed well and the credit and volatility positions: the Federal Reserve lowering interest rates is not great for volatility and credit protection, but treasuries are a direct beneficiary. The same goes for our investment in gold and gold miners.
How do you mitigate the risk of large losses when using derivatives in the portfolio?
The way is by buying options principal to mitigate large losses rather than selling them. One can get into trouble with derivatives selling volatility, for example – if there is a big move in the underlying asset’s price the negative asymmetry of a short option position compounds the losses. As we generally are long volatility, when markets got shakier and shakier in the December sell-off it was better for our fund.
Do you incorporate ESG or sustainability criteria in your investment process?
Yes, we do take ESG into account. For example, with gold miners, where we wanted to avoid political and ESG risks, so we generally looked for companies whose assets were concentrated in North America or Australia. But for much of our portfolio this is not relevant because of the types of assets we are in, and because we invest much more at an index level.
What risks are you watching out for over the next 18 months?
A key one is how much leverage there is in a highly financialised economy, which makes the financial system sensitive to interest rate moves. Another issue that is not getting enough attention is the deficit in the US.
There is a huge amount of federal debt issuance and foreign buyers are withdrawing more and more, so private investors are forced to step in. I wonder if one of the reasons for the Fed to lower rates is to implicitly fund this budget deficit.
Not having a lot of risk in the portfolio was helpful
