AFR
Pengana’s process to strip out the risks
PUBLISHED: 10 Mar 2014 00:07:41 | UPDATED: 10 Mar 2014 09:26:13PUBLISHED: 10
Mar 2014 PRINT EDITION: 10 Mar 2014
Phillip Boustridge, left, and Russel Pillemer of Pengana have successfully shorted Qantas and
Boart Longyear in their “pure market neutral” strategy. Photo: Rob Homer
John Stensholt
There are few funds in Australia that would have a professor of finance, a former West End
funds manager, computer engineers and technicians and someone once part of the “skunk
works” avionics section of the Royal New Zealand Air Force in its team.
Pengana’s Australian equities market neutral fund does. And the background of its team is
not the only unique characteristic that it has in the Australian marketplace.
Put simply, the fund aims to have absolutely no correlation to where the sharemarket is
moving, through an equal number of long positions and shorting of stocks at any time. In
essence, it aims to minimise exposure to market movements, sector and stock size.
“If the market goes up or down it makes no difference to us,” says Pengana Capital funds
management business chief executive Russel Pillemer. “Its down to the skills, systems and
processes that we have got in place to ensure that is the case.”
The fund strives to do that to the highest degree possible, says its portfolio manager Phillip
Boustridge, a 20-year veteran of the investment scene including a stint at West End firm
Sabre Fund Management.
He says every long position has to be offset by a short position in the same sector and also
roughly the same size, ensuring as much as possible there is no correlation with what is
happening with the wider market.
“To get the pure market neutral that we want what we do is for each sector we will have a
long position and short position which will be very close to each other,” he says. “So the net
position can’t be very large. We do exactly the same for size, so we don’t have a large cap
exposure or a small cap exposure.”
The fund is careful, for example, not to have too many large bank shares or resources stocks,
which skew overall market performance.
BT platform inclusion opens ups retail market
Seeded with a few million dollars from Pengana, the fund was established five years ago and
has returned 9.6 per cent net of fees annually since. Almost all clients are wealthy individuals
or family offices.
It only has about $23 million in funds but Boustridge says the amount will now start growing
quickly due to its recent inclusion on the BT Wrap platform and the granting of an
“approved” rating by Zenith Investment Partners.
“When we started this strategy we found it quite a struggle in the retail space to get anyone
interested,” he says. “The high-net worths and family offices, they understand and love this
kind of strategy. In order to get money from the retail market there’s two essential things: you
need ratings and you need platform access.
“So the points of access have just recently opened up and we expect very strong inflows over
the short term.”
Part of the process of attracting more investors is explaining what exactly a market neutral
fund does, and to attempt to get investors to look past the fund’s high fee structure.
A management fee of 1.54 per cent is charged and a 20.5 per cent performance fee for
performance above the Reserve Bank cash rate. The fund selects about 250 stocks on the
market drawn from the S&P/ASX 300 Index, combining the long positions and shorts with a
mixture of fundamental stock process and computer analysis.
Its aim is to generate annualised returns of between 5 per cent to 10 per cent over the RBA
cash rate, net of fees, while keeping risk (as measured by standard deviation) contained
within a band of 8 per cent to 10 per cent. Stocks are picked on four main
categories: earnings revisions, value, quality and momentum.
No position is essentially larger than 3.5 per cent plus or minus of the portfolio. “The idea is
to make a little bit off a lot and that way we can solve the risk of the portfolio,” Pillemer says.
“Since inception the risk of the fund is half that of the Australian equities market over the
same period.”
Boustridge says the fund’s strategy is to try to pick stocks for all environments and “make
sure we can cope and limit losses or not have any in the event that markets do collapse”.
“We start from a position of risk and then build the portfolio around that,” he says. “This is
the purest form of stock selection because you are stripping out all the systematic risk. We
are under the hood looking at the engine that is driving the market. The rest is just noise.
Trying to understand where the market is going is just noise and actually clouds our stock
selection process.”
The small team running the fund includes research director Martin Young, a finance
professor at New Zealand’s Massey University, fund manager Elan Miller and Paul Ramsay,
a systems engineer with experience in the New Zealand Air Force in avionics.
Miller says the fund likes BHP Billiton due to its “good earnings and a recent equity
placement that was well received. The only area where there is a weakness is that it has had a
good run lately”.
Overcoming the short-selling ban
Property fund manager and developer Charter Hall is another favourite, while conversely the
fund has had success shorting Qantas and mineral explorer Boart Longyear.
“They [Boart] have a stretched balance sheet and the market has often believed it’s through
the worst . . . but earnings are still going down and all the fundamentals are still pointing
lower,” Miller says.
The fund had an almost immediate challenge after its inception in September 2008 when the
Australian Securities Exchange slapped a temporary ban on short-selling.
Boustridge says the fund still made money in that time.
“We put a constraint on the shorts so we couldn’t continue the shorts,” he says. “Every time
we covered a short it meant we had to sell a long so effectively it took the leverage out of the
portfolio. What we could have done is just covered the short and let the long side grow but
that would have made it a long-short fund. We would have got a nice kick and that would
have pushed up our performance but we are absolutely pure market neutral.”
Not surprisingly, Pillemer believes alternative funds should become more popular with
investors and move to a more prominent position within their portfolios, arguing
“sophisticated investors already don’t want volatility, where equities go up or down 20-to-30
or 40 per cent, at the core of their portfolio as you get with a long equities fund”.
He expects more competition in the future from the establishing of rival similar market
neutral funds.
“We expect more market neutral funds to come into Australia,” he says. “There is some good
alpha opportunities to come into the market because most of the money has been run as longonly here.”