Hermes fund manager talks stock picking

The market rally of 2009 saw all stocks bounce, including the weaker ones, Parry observes. That correction is now over, however, and companies must start to compete for investors’ attention on their individual merits.

‘Once you come out of an economic slump, you begin to find differentiation at the company level: differentiation of quality of product, quality of management, market position, all the traditional areas,’ explains Parry. ‘We’ve definitely seen significantly more differentiation based on fundamental analysis of companies, rather than buying and selling just by the sector that stock happens to be in, or by whether it has underperformed or not.’

Parry’s outlook is the product of many years’ experience in the fund management industry, over 25 in total. His message to IR teams: engagement with investors is always important, but never more so than now. 

‘Companies are always willing to engage with shareholders but for the last 12 months people have had other things on their mind,’ he points out. ‘It was just the sheer scale of events we were all coping with, whether you were a politician, central banker, finance director, chief executive or investment manager.’

The ‘darkest part of the night has now passed, however,’ adds Parry. ‘So this is when you want to be reengaging with managements to understand the strategy they’re putting forward, how they’re going to cope in the new world. We think there will be a divergence in the performance of those who can demonstrate creativity and those who cannot.’

Back to the source
In his time, Parry has headed up international equities at Northern Trust and later founded Pembroke Capital Management. The latest chapter of his career, however, began in 2007, when he helped launch Sourcecap International, a boutique asset manager managed out of London’s east end and focusing on mid to large-cap European equities.

The firm – run by Parry and Fidelity veteran James Rutherford – performed well amid tough market conditions and saw funds under management rise from around $100 mn in January 2008 to more than $700 mn in 2009, helped along the way with mandates from Russell Investments and the California Public Employees’ Retirement System. 

Then, last December, in stepped Hermes, the UK asset manager owned by the BT Pension Scheme; it bought a majority stake in the business and renamed it Hermes Sourcecap. As part of the deal, Hermes gave Parry and Rutherford an extra ￡200 mn ($301 mn) to play with, taking overall assets under management through the $1 bn mark. ‘It’s an important step. It’s always better to count in billions than millions,’ notes Parry.

New beginnings
The new entity has a new location, taking offices at Hermes’ headquarters in the imposing Lloyds Chambers building on London’s Portsoken Street. According to Parry, he doesn’t get so involved in company meetings these days, working more on the client-facing side of things and then running the operational side of the business. Rutherford ‘gets to do the fun stuff,’ Parry adds. 

If you have a meeting with Sourcecap lined up, it might be a good idea to brush up on your investment industry history. Parry and Rutherford use their life-long studies of investment management to inform their decisions. For example, during IR magazine’s interview, the softly spoken Parry veers off into a discussion on the merits (or otherwise) of Ben Bernanke’s thesis on the Great Depression and its aftermath, and what this can tell us about the market today and where it will go.

Aside from the ￡200 mn mandate, Hermes also comes with its Equity Ownership Service (EOS), the shareholder engagement team well known to issuers around the world for its focus on corporate governance and proxy access. Parry says EOS’ expertise will help him and Rutherford in their role as stock pickers. 

‘As managers it gives us far greater insight into some of the key issues governing the relationship between shareholders and companies than we would have on our own and is aligned with our long-term horizon for investments,’ he explains.

Being picky
Parry describes Sourcecap’s overall approach as stock picking within a strong thematic framework. ‘We describe ourselves as high conviction, which means we only own stocks we like and believe in,’ he explains. ‘If we have no view or don’t know a stock, we don’t own it. As active managers, we are paid to be different from the index. It’s not there to be clung to.

‘We start from a fundamental, absolute viewpoint: what are the merits and potential of the stand-alone entity? Then, when we put the portfolio together, we look at the relative risk and how we stand against the index, as companies don’t operate in a vacuum. We have some limits, such as diversification of stocks and sectors, and limits on money in any one stock but, by and large, those are just tramlines to keep us on the straight and narrow rather than a prescriptive approach.’

Likes and dislikes
Parry observes that Rutherford likes to say the best stock is one he never has to sell. He goes on to name a few companies Rutherford holds and has had a stake in for ‘well over five years’. These include H&M, Imperial Tobacco (initially through Tabacalera and then Altadis), Fresenius and ABB.

‘The philosophy behind it is that, over the long term, the fundamentals of a company and its share price tend to come together,’ comments Parry. ‘Over the short term, there’s a lot of competing and conflicting noise in the market; the agenda is very different for short-term traders. The longer your time horizon, the more the share price is represented by knowledge and insight, and less by noise.’ 

But just because they don’t own you, it doesn’t mean they don’t like you, insists Parry. ‘That’s something I’m always trying to explain to companies,’ he says. ‘We’re not being negative about you, we just prefer somebody else. If you own Tesco but not Sainsbury’s, that doesn’t mean you think Sainsbury’s is an awful company. It just means you prefer Tesco.

‘There are 600 stocks in our universe because we invest in companies with a free float of €1 bn ($1.3 bn) and above, but we can’t own them all. We hold 43 stocks at the moment in our portfolio, less than 10 percent of the universe. It’s a question of those 43 you feel you understand well and whose business you like best.’