Investment Philosophy

Our investment philosophy is based on five pillars that we believe are crucial to long-term investment success:

We at New Road Capital believe that the most important aspect of investment success is having a sound investment process. The process is more important than the individuals alone, as it alleviates cognitive and emotional biases that pervade even the most experienced investors’ mindsets. Therefore, we dedicate a large portion of our intellectual capital to staying in touch with the latest investment research, ensuring that our process is robust, tried and tested, and based on historical evidence in the academic and best practice literature. The process of investing is one of probabilities and with our process, we make sure that we get the odds in our favour over time.

Controlling costs is important for long-term performance as capital paid away in fees is capital not available for compounded returns. However, this is only one side of the coin, as the more important aspect is returns after fees. Therefore, we ensure that where we pay active fees, we have negotiated the best possible rate and that we are receiving added value for those fees. In areas where we believe that active management does not add value on average, we use low-cost passive solutions. Controlling costs is one of the few certainties in investing, so we ensure that we get this right.

Research has shown that diversification along with cost minimisation are the only “free lunches” in investing. Consequently, we ensure that portfolios contain a healthy mix of different asset classes and both local and offshore exposure. We have found that many asset classes correlate in times of market stress, so we hold assets that will benefit the investor by providing diversification during these times. Additionally, offshore exposure is a good hedge to the local exposure in our portfolios as the Rand generally sells off in times of market turmoil and this protects the investor’s Rand returns.

Research shows that the majority of a portfolio’s returns over time come from asset allocation decisions rather than individual security holdings and that managers erode value on average when they make too many short-term asset allocation tilts. In other words, it is more important to be invested in equities when they experience a run than to be invested in specific equities. With this in mind, we keep a clear long-term return objective in mind when we allocate assets so that we are not tempted to make unnecessary changes in the short-term and can be confident that we will achieve our desired outcomes.

Our portfolios have CPI + targeted returns and we construct Strategic Asset Allocations (SAAs) based on these targets. By using a building block approach to asset allocation, we maintain strict control of our asset exposures and can rebalance when it is necessary to do so. This means that we can deviate from our SAA when a specific asset class, or a combination thereof, allows us to achieve our desired long-term returns at a lower risk than normal while remaining diversified.

We aim to provide holistic portfolio solutions to our clients, so we try not to deviate too far away from our SAA as we want to minimise the tracking error our clients experience against the benchmark. This does not mean that we cannot significantly outperform our benchmark over time, it just means that we will track the general direction of the benchmark in the short-term. There is a behavioural element to this as portfolios that have large tracking errors are usually invested into and divested out of regularly, meaning that the real-world experience of the client is different from the actual return of the portfolio.

To the extent that security selection benefits the active manager, we focus on the identification of quality managers with robust risk management strategies. This is because we believe that risk management is a large potential value add that active managers can provide. Additionally, we construct our portfolios by:

  • Blending managers, strategies, and styles that complement each other.
  • Avoiding the debate between active and passive strategies by employing both tools in our process.
  • Staying up-to-date with product innovations and portfolio management techniques.
  • Including these products and strategies into portfolios to maximise risk-adjusted returns if the academic and practical evidence suggests that we should.

We believe that the success of New Road Capital’s philosophy is illustrated in its consistent performance against benchmarks.

Investment Principles at a Glance

1.

We focus our research efforts on finding skilled teams with proven successful long-term track records, particularly in times of market turmoil, for use in our funds. We are aware that overconfidence bias is prevalent with all good teams, so we ensure that these teams implement a robust risk management framework as part of their process.

2.

We seek investment styles or factor exposures that have worked consistently in different markets and recognise that beyond “value” versus “growth”, there are other equally important and less known styles that can have a significant impact on portfolio returns. We do not attempt to be style neutral in our portfolios and do not rely on market timing. Consequently, we use smart beta or “factor” based building blocks as equity components in our portfolio construction.

3.

We leverage technology through our various databases and analytics software to regularly monitor our selected managers and ensure that they continue to fulfil their original selection criteria.

4.

We look for managers who have a clearly defined and well-articulated investment philosophy. The manager must translate the philosophy into a coherent process consistently and have the necessary resources to achieve this.

5.

We recognise that managers who consistently adhere to their investment process produce better long-term relative returns compared to managers who modify their processes according to short-term market conditions.

6.

We invest our own capital into the funds to create strong alignment with clients.

1.

We focus our research efforts on finding skilled teams with proven successful long-term track records, particularly in times of market turmoil, for use in our funds. We are aware that overconfidence bias is prevalent with all good teams, so we ensure that these teams implement a robust risk management framework as part of their process.

2.

We seek investment styles or factor exposures that have worked consistently in different markets and recognise that beyond “value” versus “growth”, there are other equally important and less known styles that can have a significant impact on portfolio returns. We do not attempt to be style neutral in our portfolios and do not rely on market timing. Consequently, we use smart beta or “factor” based building blocks as equity components in our portfolio construction.

3.

We leverage technology through our various databases and analytics software to regularly monitor our selected managers and ensure that they continue to fulfil their original selection criteria.

4.

We look for managers who have a clearly defined and well-articulated investment philosophy. The manager must translate the philosophy into a coherent process consistently and have the necessary resources to achieve this.

5.

We recognise that managers who consistently adhere to their investment process produce better long-term relative returns compared to managers who modify their processes according to economic conditions.

6.

We invest our own capital into the funds to create strong alignment with clients.

Investment Process

We use a combination of top-down and bottom-up analysis techniques to construct our investment portfolios.

From a top-down perspective, we construct Strategic Asset Allocations (SAAs) that we believe will allow us to achieve our long-term target returns with the lowest level of risk possible. This approach allows us to remain cognisant of our benchmarks and our mandated asset allocations while ensuring that we do not over-expose ourselves to one asset class.

We then use a bottom-up approach to construct the portfolio components:

  1. We conduct due diligence on the potential underlying funds and if they meet our criteria they are approved to be used in the funds. However, we will only implement them into the portfolio if they allow us to achieve the specific outcome we are looking for.
  2. We use a building block approach in our investment process as it gives us the ability to tailor the asset allocation to our clients’ needs at a specific point in time. Also, it allows us to allocate capital to fund managers who specialise in certain asset classes, as some of the best fund managers available only offer products in one asset class.

We prefer to control the asset allocation and allow our underlying specialists to do what they do best.

We treat each component of our portfolio separately:

Equity & Listed Property

In the local and offshore equity and listed property blocks, we use the core-satellite approach to portfolio construction:

Core (50-80% allocation in the portfolio):

The Core is made up of low cost, diversified tracker funds, and Exchange-Traded Funds (ETFs) that are predominantly invested in broad market cap-weighted indices. However, a portion is also dedicated to rules-based smart beta or “factor” based strategies. It is very difficult for active fund managers to outperform equity markets over time due to information efficiency, which is why we use passive or rules-based building blocks in our core.

Satellite (20-50% allocation in the portfolio):

The Satellite’s objective is to outperform the market on a risk-adjusted basis over time. The average active fund manager underperforms against the market (net of fees), but we believe we can identify those with the potential to outperform and allocate funds to active fund managers who have the following attributes:

  • A strong risk management framework
  • A high skill level
  • Long-term focus
  • A high active share (meaning their portfolio is very different from the benchmark)
  • The ability to operate in less efficient markets
  • No over-diversification
  • The appropriate style
  • Fair fees

Income

On the local side, we use active managers because we believe that information inefficiencies and complex market conditions are more suited to them. On the offshore side, we use a combination of active managers and global index ETFs to gain exposure.

Ongoing Management

We monitor the portfolios closely to determine if their behaviour aligns with their stated objectives.

We rebalance regularly as and when necessary. This generally occurs either if our asset allocations stray too far from our SAA due to market movements, or if an asset class (or a combination thereof) allows us to achieve our return objectives at a lower than normal level of risk while remaining diversified.

We adjust the portfolios to ensure that we receive the best value add possible from the underlying managers.

We remove underlying funds if:

  1. We believe they have reached a fundamental shift in their process, strategy, or style.
  2. Their risk management process is not sufficient.
  3. We believe that market conditions will not suit their style or offering.
  4. We can achieve a similar outcome more cost-effectively.
  5. We believe there is a manager with a similar style who could add more value.

We add underlying funds if:

  1. They have passed our due diligence process.
  2. We believe market conditions suit their specific style or offering.

We continue the activity of analysis as it feeds into our ongoing management process, in order to achieve our return objectives.

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