boutiques have been increasing in popularity for decades. but are they an exciting investment solution or a problem waiting to happen?
For the past 20 years investors have seen an unprecedented fall in economic volatility leading to a one-off, never to be repeated hike in equity prices. The future, however, is much murkier, and with single digit returns predicted to be the benchmark of at least the next 10 years, fund managers will have to fight much harder to justify their charges. The relative difference between mediocre performance and good performance is much bigger when all numbers are low.
One of the accompanying trends has been the growth of the boutique house - the specialist that has a very narrow focus but, in theory, does it very well. As can be seen from the performance tables below, the boutiques have had some success, with a good showing among the top performers in US, Japanese and European equities over the past three years.
However, it is possible that we are being fooled by survivorship bias. Boutiques can, on the whole, make quicker decisions and run more radical portfolios than their mainstream counterparts. However, if they make the wrong choice, are they more likely to shut down entirely and vanish from the statistics, unlike their bigger bretheren?
So the question remains: what are the pros and cons of boutiqes? And does their flexibility and focus make up for their relative lack of resources?
TAKING A SHARE
What is certain is that talent costs. No matter how much fun an organisation is to work in, high quality fund managers will not be attracted if there is no serious remuneration package, and one advantage small boutiques have is that meaningful stakes in the business tend to be available to the top employees.
Of course, big companies also have share schemes, and in any case, not all managers want shares.
Mike Jones, head of UK distribution for Fidelity, says: ""Some managers are very keen to have a stake in the business but others would rather have a direct formulaic relationship between how they perform and how much they are paid. It is horses for courses. But in a privately-owned company like Fidelity we feel that giving certain people a stake in the business is extremely valuable."
SOWING THE SEEDS
On the other end of the salary scale, there is the issue of training up young talent. The fact is that training is expensive and difficult and very few small houses are prepared to put up with the cost.
There is also a problem in persuading the best students to go to a niche player for their formative years. But this is where the existence of more experienced managers can have another benefit.
William Francklin, director and fund manager at JO Hambro Investment Management (JOHIM), says: "What could attract young people to learn from a boutique is that they could get in close contact with very successful and experienced investment professionals, which wouldn't necessarily happen in the big investment houses."
A perennial problem facing fund managers, no matter what the size of their company, is that the more successful they become, the further they are taken away from what they are good at - managing funds - and the more they are pushed into management and marketing. For successful boutiques this is a constant pressure.
Jones says: "I would say the strongest factor in favour of a large company is that the fund managers are greatly protected from the need to promote their own fund. We want them at the coal face managing their own portfolios. We have a big infrastructure and support systems. Of course they have to do marketing but not as much as they might have to do in a boutique.
"Our success has been built around investment management performance. The price is that sometimes fund managers are not so accessible but ultimately we have no product to sell if we do not deliver the numbers.
"The reality is that if you have a fund manager spending 70% of their time marketing, the only thing that is going to suffer is performance."
Of course, institutions like to have manager access, and in this respect, boutiques and big houses have the same kind of limitations.
He continues: "If you look at our institutional business, there is a level at which our managers cannot take on too many accounts, not only because they cannot run the money but also because they need to be able to attend trustee meetings and the like."
Francklin confesses that this is a definite limitation that boutiques have to accept. He says: "There are undoubtedly diseconomies of scale in the way our model runs money because each fund manager can only run a limited amount of money while giving clients the service they expect," says Francklin. "That is one of the reason why we have taken on a number of younger people - so people like myself do not get swamped by new business."
AGE BRINGS WISDOM
Francklin believes that one of the resources some boutiques have is a store of very experienced managers. These are people who have given up on working for the leviathans of the industry. Either that or the leviathans have given up on them.
"A lot of the experienced people - those over 50 or 60 - are given early retirement in the big houses," he says. To our way of thinking that is counterproductive. In New York it would be considered normal to continue managing money until you were over 60.
"When we were faced with the great challenges of the 2000-2003 bear market, the fact that we had six or seven people here who had managed money through 1974 was a great help and of particular help to the younger people."
It is often suggested that one great advantage boutiques have is the flexibility to run specialist mandates, absolute return portfolios and so on, which for a big business would be too time consuming and high risk to contemplate. Jones disagrees.
"Nonsense," he says. "As a big group we have the resources to identify new ideas and ways to market them. We also have the depth and scale - we can pilot funds. We launch something for a year or two and then can it. We are a very good incubator.
"We also have the benefit of operating in many countries - we can profit from the lessons learned in other markets.
"We have very strong risk management control systems and external resources that we can afford. We are at the frontline of new methods of managing money - using new instruments and the like. That is one definite advantage of scale. We can afford to have the right infrastructure and systems and where necessary to outsource to specialists."
WHY MOVE TO A BOUTIQUE?
Francklin decided to move to a boutique company after his previous company, Morgan Grenfell, was taken over by Deutsche Bank, a move which he suspected would substantially change the philosophy of the company.
"It was inevitably going to be more of a bureaucracy and less of an organisation that was going to attract people with investment flair.
"I was in New York at a time when the investment business in London was dominated by about 10 players, but the business in New York had fragmented, and after the 1974 bear market all of the best fund managers were moving from the big organisations to the small ones. When I came back to London in the late 1980s, I was absolutely convinced the same was going to happen in London over a period of time. And I thought it was going to happen for three reasons.
"One, that people who really enjoy managing money are going to find it much more attractive to work in a small organisation rather than a big one where you go from meeting to meeting. Secondly, the advent of the hedge fund business and the economics of it was going to encourage people to move. Thirdly, I felt that the right smaller organisation was going to be a lot more fun to work in."
Although the argument of boutique vs big house as far as performance is concerned remains moot, it can definitely be more attractive for fund managers who are looking for more autonomy and a stake in their own business.
But setting up a boutique fund house is never an easy task. And especially not in London in the 1980s, which was when Anthony Balniel and David Chaplin founded JOHIM.
"This was at a time when the big bang had happened and 'big was best'," explains Balniel. "But in the private client arena, to be big was not best, and I think that still holds today.
"If you were an institutional client you wanted to go to the big houses such as Mercury or Cazanove. At the time the big bucks were to be made in managing institutional pension funds. So really the private client fund manager was a second class citizen. They were always last to see the recommended stock lists from the analysts."
Horses for Courses
This mistreatment of the smaller fund houses has now to some extent ceased, primarily because of the continued success of a small number of specialist houses. In the same way that you find the names of both big and small fund managers scattered throughout the performance tables, you will also see a select number of boutique houses appearing again and again on preferred fund manager lists throughout the investment world, in everything from pension funds to private banks.
However, the advantages a boutique house can offer are probably better suited to the private client market rather than the institutional one, simply because of the scale of resources that are available to the large houses in terms of due diligence, auditing and continuity of senior management, investment process and corporate philosophy. It should also never be forgotten how reassuring it is for a client to have a large and well-funded fund managment house to sue if things go wrong.
On the other side, the level of personalisation that boutiques houses can offer makes them generally more attractive to the private client. And finally, private clients typically want levels of attention, information and access that a large institution will not be prepared to give.
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