Staying positive in tough times

For the year to end-June, while theS&P/ASX300 Industrials Accumulation Index fell 1 per cent,Perpetual’s flagship industrial share fund returned a pre-fees 4.9 per cent. Before fees, Perpetual’s concentrated equity fund returned 10.5 per cent above its benchmark over this period (the S&P/ASX 300 Accumulation Index dropped 1.6 per cent). Its smaller companies fund returned 11.8 per cent before fees compared to 3.7 per cent for the S&P/ASX Small Ordinaries Accumulation Index.

InTech’s survey of major investment managers as at June 30, 2003, ranked Perpetual’s Australian equities performance number two over one year, four over three years and one over five and seven years out of a field of some 50 managers.

It is quite a turnaround from the late 90s — and Gerard Doherty, group executive Perpetual Investments, allows himself a wry smile when he recalls the pressure the team was under when it was underperforming.

“It was incredibly difficult defending our investment strategy when many competitors were yielding massive returns. Throughout we stuck to our core philosophy.”

Doherty describes Perpetual’s philosophy as a “bottom-up stock picker” and value manager. This philosophy, which Doherty insists is not a model but a four-step process, involves: identifying a potential investment opportunity; stock selection on the basis of stock-specific fundamentals and then by the relative value of the shares; portfolio construction; and portfolio maintenance.

After a stock has been identified as a possible investment opportunity, it must then pass the ‘stock selection criteria’.

“This is the most extensive and important step within the equity process,” he says.

Four specific criteria are investigated and analysed — sound management, conservative debt levels, quality (ability to produce established products and services, the nature of the industry sector in which the company operates, market share and competitive factors such as barriers to entry), and recurring earnings streams.

Once a company passes the stock selection criteria, it forms part of a ‘universe’ of available stocks. Perpetual follows around 250 companies, of which about 200 are included in its universe of stocks.

Stocks are ranked one, two, four and five.

“We removed the middle ranking to avoid fence sitting.”

Then, “portfolio maintenance ensures stocks in the portfolio are continually subjected to the disciplines of our equity process. As it is an integral part of the process, it forms part of our analysts’ daily activities.”

The majority of the analysis and research emphasis is at the individual company level, “as we believe that company characteristics and qualities are the most important determinants of share prices over the longer term”.

All research is in-house via eight analysts. Doherty reckons the company does some 1,000 corporate visits annually.

“It is not unusual for our analysts to also meet with competitors, customers and suppliers of the companies that we invest in.”

As a value manager, Perpetual seeks to “invest in companies when the market price is below what we perceive to be fair value given a company’s fundamentals and market conditions.”

Perpetual’s investment process, adds Doherty, has been part of the company’s culture since its flagship fund, Perpetual’s industrial share fund, opened in 1966.

In contrast to its domestic performance, Perpetual’s smaller international funds have underperformed. Doherty notes that “steps have been taken in consultation with Fidelity International to turn this performance around. We have already seen an improvement in relative performance since January.”

With operating revenue of $146.5 million for the financial year to end-June (10 per cent up on the year), Perpetual Investments accounts for 58 per cent of the revenue in the broader Perpetual financial servicesPerpetual Trustees, which was established over 118 years ago and listed almost 40 years ago.

Traditionally, the bulk of Perpetual Investment’s business has been in Australian equities and mortgages. Its total funds under management at the end of August was $18.4 billion ($19.9 billion at the same time last year). Of this, $11.2 billion was in Australian equities and $2.4 billion in its various mortgage funds.

Even though adverse market movements reduced asset values, retail and master fund funds under management increased from $13.4 billion at June 30, 2002, to $15.2 billion a year later. Inflows into its retail and master fund products were $1.8 billion during the year.

Over the past year, Perpetual launched a series of new retail investment funds, including SHARE-PLUS, its geared Australian share fund and wholesale property securities fund through a joint venture company, Perpetual James Fielding.

Against the strong retail inflows, institutional FUM dropped from $6 billion at June 30, 2002, to $2.2 billion, due to the loss of institutional mandates.

“We remain committed to our valued institutional clients to whom we now offer an expanded range of investment services, including active property securities funds through Perpetual James Fielding, Quantitative Investments through our association with BARRA Inc, and infrastructure asset management services through a new in-house team recruited during the year.”

At the end of October, Perpetual will launch WealthFocus, its new multi-manager retail platform that offers over 50 single manager and multi-manager funds across six different investment categories. It covers investments, personal super and allocated pensions and will replace Perpetual’s current growth series, personal super and rollover plan and allocated pension plan.

For Perpetual, this is a big deal. Doherty explains that the “aim is to simplify processes and administration for dealer groups, advisers and their clients. From feedback and input from dealer groups, advisers and back-office staff, we incorporated the most requested features, services and investment options.”

WealthFocus offers a menu of single-manager investments from a further 20 investment managers, as well as five multi-manager options, comprising three multi-sector blends and two single sector blends.

Doherty feels Perpetual’s advantage is in being a “boutique inside a big group. We are part of a large company, but are independent of any insurer, bank or global player. Our approach may not be unique but our record proves we do it well and with discipline.”

Doherty talks about reducing this exposure to Australian equities and mortgages by “continuing our focus on new retail product development”.

Vital Statistics: Perpetual Investments

Established:1960s

Ownership:Perpetual Group (listed)

FUM:$18.4 billion (at end August 2003)

Principals:Gerard Doherty, group executive; and David Deverall, managing director.

Number of products:84

Investment style:Bottom-up, value manager