Confidence in the stockpicking credentials of its in-house team has seen Thesis Asset Management fund manager Steven Richards abandon UK equity funds for direct allocations to equities.
Richards, who runs the Optima Balanced (25.59 per cent in UK equities), Growth (29.81 per cent in UK equities), and Income funds (10.66 per cent in UK equities), has replaced all four active fund managers he was previously using for UK equity exposure.
Performance of funds over 5yrs
Source: FE Analytics
However, the funds have retained a position in the passive L&G UK Index fund to deal with redemptions or large investments in the short term.
“We had a blend of three to four active managers and also a passive fund in there and we have sold every single one bar the index fund to replace with our direct equity process,” the manager said.
“The reason we retain a holding in the index fund is to help us deal with short term inflows and outflows so where we might have a large investment come into the fund or a large disinvestment.
“Rather than have to have to do a program trade across the 30-odd equity positions that we own, we will temporarily use the index fund to meet the redemption or park any new money until we can disperse that extra cash across the direct equities.”
This is despite the funds holding a reasonable level of cash (11 per cent in the higher risk growth fund and 9 per cent in the balanced fund).
“We could use that cash to meet redemptions but because we want that to be a strategic allocation that’s why we’ve got the index fund in there so we can maintain that weighting,” he said.
The move to direct equities means the ongoing charge figure (OCF) for all share classes has been reduced, with the cheapest (Optima Balanced) falling from 1.34 per cent to 1.04 per cent.
Gaurav Gupta, model portfolio manager at Thesis Asset Management, said: “The industry as a whole is facing pressure on cost and it needs to demonstrate that it provides value for money. We want to maintain diversification in our clients’ portfolios and give them the benefit of lower fees at the same time.
“Our strong track record of investing directly in UK equities means we are confident we can bring down the OCF of our Optima funds without compromising performance.”
However, Richards said: “The OCF side is a really nice angle given the pressure on costs in the industry but actually I would say that it is a genuine belief of our UK equity process which we’ve been running for five plus years now for our private client portfolios at Thesis.
“Historically the performance numbers of the test Thesis equity stock screen have been very strong and up there with first quartile active managers.
“When you are a fund of funds you have this faith in the UK managers that you buy, but when we realised that the result of our own equity selection process was just as good as some of the big-name managers out there it further reinforced the confidence in our own process and made us take that step of investing into our own stocks rather than investing into managers to navigate the market for us.”
The four funds no longer being used by the manager are Invesco Perpetual UK Strategic Income, JOHCM UK Opportunities, JOHCM UK Dynamic and Montanaro UK Income.
“They were the four active managers that we blended together as well as a core exposure to the L&G UK index fund and the reason we had those managers was stylistically either in their own right or as a combination they mapped quite well to the style output of our own UK stock selection process,” Richards said.
Performance of funds vs FTSE All Share over 5yrs
Source: FE Analytics
The manager says these four funds combined gave a similar return to the UK equities team which runs the allocation to the model portfolio service.
He said: “Historically where we owned other managers we had a little bit of performance drift from our collective and securities models due to the fact that some of our UK managers performed differently to our own equity by list. 
“So what we did was map our managers to the style of our stocks to help minimise that performance drift between some of our offerings.
One side effect to this change however is that the number of equities that the fund is exposed to has reduced dramatically.
“Although a couple of those managers are pretty focused with about 30 holdings, obviously some hold more. So when you do a see-through of all of those managers together in terms of total number of stocks you are getting exposure to well over 100 names, whereas when it comes to our direct equity selections we’re only investing in 30 names,” Richards said.
However the fund will keep its high weighting to mid-caps (around 42 per cent) with the remainder in small caps. The manager will get small cap exposure through a global smaller companies fund, he says.
“Our UK equity process has had something of a mid-cap bias over the last five years and we’ve probably had a 40-45 per cent mid-cap exposure over the last five years versus the 18 per cent that is represented within the FTSE All Share,” Richards said.
The new approach will see the UK equities team run their quantitative screens on stocks and accounting metrics across the FTSE 350 before conducting qualitative research in order to pick the best stocks for the relative mandates.
Richards said: “We have investigated whether we could roll out our stock screening process - and thereafter the qualitative overlay that our research analysts apply to the names that come out of the quant filter - and apply that to European and US stocks with similar performance results.
He says while the results suggest they could (in terms of performance), he says, there seems little benefit to doing so at the moment.
“The reason we haven’t taken that step as of yet is that when it comes to buying overseas names some of the costs would start to build up and also, while the quant side of the process seems to suggest that the performance would be okay, we haven’t quite built up the confidence that we could apply the second stage of our process – the qualitative overlay – to overseas names.”