As commentators including Moody's predict a surge in assets under management this year, Rebecca Jones asks whether fund houses are a sound investment...
Nick Train, director, Lindsell Train
We've owned the asset managers we invest in for a long time – more than ten years for some. So, we're buying them for long-term reasons, not because we expect the stock market to do very well or because Moody's says this is going to be a good year for them.
My comment about observations such as Moody's' – and it's not as strong as a rebuttal – is that surely the stock market knows this already. All of the asset managers, certainly the ones we own, went up a whole lot last year; Schroder's was up 60%, Hargreaves doubled in value and Rathbones was up 30%.
I own these companies and I regard them as integral parts of our strategy. But if you were to put a gun to my head and say, “Which bit of your strategy is going to do best next?” I don't think I would say the fund management companies simply because they did so well last year.
In the short term, the share prices of these sorts of companies are determined by the net surprise in markets and predicting short-term movements is really difficult. The only way you're going to do it correctly is if you call unexpected moves in the market and very few people get that right.
I don't want to appear holier than thou, though I probably do, but our perspective on these companies is that we try and ignore what might happen next in the stock market.
What we look at is the fabulous business economics of the fund management company and certainly in terms of the ones we own, over time that has led to really strong share price performance.
The industry doesn't like to broadcast this, but the fact is that asset management is an extraordinarily profitable business. It also has scale and all things being equal, these are good things to invest in over time.
Tineke Frikkee, UK equity income manager, Smith and Williamson
Overall, I think equity markets have more to go this year. We haven't had a great start, but I do think as economic growth comes through, earnings momentum will deliver.
However, you need to be very stock specific. Rathbones is a very good business, but at 16 times price to earnings (P/E), it looks a little expensive to me. On the other hand, I like both Aberdeen Asset Management and Jupiter.
Aberdeen is the cheapest of those two with a P/E of 12 times to the end of September 2014 and 13% earnings per share (EPS) growth which doesn't account for the SWIP deal closing at the end of March.
People still think that Aberdeen is a 100% play on emerging markets, which are doing poorly right now, but in fact – certainly after the SWIP deal closes – it has a 20% exposure to emerging markets, which is the same as Schroder's.
Jupiter is more UK equity focused and they're on a P/E of 15, a dividend yield of 3.5% and the forecast for EPS is 11%. Their balance sheet is really strong, so we're probably going to get a hike in the dividend or maybe a special dividend or a big share buy-back.
Macro drivers do tend to wax and wane a bit in the short-term, but I'm less concerned about the short-term numbers. It's clear that GDP growth in 2014 will be higher than in 2013 while equity inflation is pretty stable and overall that's a positive trend for the economy and for businesses.
Valuations do matter though. In January, markets reached a point where stocks looked pricey and some companies surprised on the downside. With high valuations you really have to grow your earnings into your multiple, so you need to make a judgment there.
Rob Gleeson, head of research, FE
The asset management sector is quite sensitive to economic conditions; it has very high operational leverage so when markets fall most asset managers experience outflows. This reduces revenue derived from management fees, while costs such as staff stay fixed. Likewise, when markets improve and assets flow in, revenue increases while costs remain broadly static.
While economic conditions are improving, and some asset managers are experiencing strong inflows, these tend to be concentrated to specific regions. Asset managers with a focus on the UK are doing well, while ones with a bias to emerging markets are still seeing net outflows.
There are also other pressures on UK asset managers, such as a squeeze on pricing following the Retail Distribution Review (RDR) and heavy concentration among retail funds. This concentration has seen large firms such as Schroder’s and Invesco hit by big-name managers leaving, which has had a large impact on their assets under management.
Finally, with the financials sector starting to come back into fashion, much of the value is beginning to disappear. Having gained nearly 65% in the past two years, Schroders is now trading on a P/E multiple of 21, compared to 15 at the height of the market in February 2007, although this is roughly in line with the sector itself.
For the contrarian, Aberdeen has seen its stock fall 3% in the past three months, but is still up 80% over the past two years. It is trading on a P/E of half what it was in February 2007. The stock makes up 4.2% of the Liontrust Macro Equity Income fund.
For other indirect methods of exposure to asset managers, the Cavendish UK Balanced Income fund holds 2.34% in Henderson. Baillie Gifford UK Equity Alpha has 4.07% in Schroders, and the Aberdeen UK Mid Cap Equity has 2.87% in Rathbones.
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