The market is inefficient in more than one way, meaning fund managers who tie themselves to a particular style such as value or growth are denying themselves a whole raft of opportunities to outperform
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This is according to Mikhail Zverev (pictured), who heads up the Aviva Investors Global Equity Unconstrained fund. The manager aims to find companies where a change in the business or operating environment allows him to formulate a non-consensus view on fundamentals that is not priced in.
Zverev said it is vital to take a style-agnostic approach with this type of strategy.
“We believe the market is inefficient, as you would expect us to, and it is inefficient, but it's not inefficient in one particular way,” he explained.
“Whereas a lot of my peers focus on one type of inefficiency whether it is value, growth, quality or momentum, we think the market is inefficient in all these ways.”
The manager said there are two main benefits to taking a style-agnostic approach.
First, it allows him to capture a broader opportunity-set than if he screened out large parts of the market based on preconceived filters. Second, it allows him to avoid the volatility that comes when the market moves from favouring one style of investing to the other.
“Some of the cycles are quite long, but the longer the cycle, the more painful the mean reversion,” he continued. “Invariably, especially in the wholesale space, towards the end of the tenure of a particular factor, strong performance numbers show up which attract more assets, and the pain from mean reversion to the end client is greater.
“If you look at the framework for manager selection advised by big institutional consultants, they increasingly differentiate between performance of the style factor and idiosyncratic stock selection. And they favour the latter.
“You could argue the shift to smart beta or factor investing is going to leach out some of the value from style-driven active investing, where people will be shown that they're not a great stock picker, they actually just backed a particular style that worked or didn't.”
Zverev divides company changes into internal and external types. He said internal changes refer to positive and significant steps taken by a company, which tend to be more obvious: for example, a product innovation, entry to new markets, restructuring or a change in capital allocation, where a company reinvests its cash flow into something different.
External changes often occur when a company has been lucky rather than intuitive and can refer to changes in technology, the competitive environment, consumer behaviour or the regulatory setup.
One example of a company affected by a change in regulations is sports betting group GVC, the owner of Ladbrokes and Coral. The company was hit by the government crackdown on fixed-odds betting terminals in the UK, but Zverev said all of this bad news is more than factored into the price, yet the market has underestimated its deal with MGM in the US.
Performance of equity over 5yrs
Source: FE Analytics
“It signed a deal to go into, I think, 11 or 12 states where sports betting has been legalised and a lot more where this legislation is making its way through the state legislature,” Zverev said.
“And it's amazing to speak to MGM, which is a large-cap, leading US casino company which can choose anywhere in the world to go.
"I spoke to the guy who ran that project, and he said, ‘at the moment, there are two main strategic priorities: there's a possibility of entering Japan where we are going to spend about $10bn on the new casino in Osaka. And our joint venture with GVC to capitalise on our brand and our customer base in what is going to be one of the largest sports betting markets in the world’.
“And then if you look at GVC at 10x earnings, nothing is in the price for the US opportunity.”
Taking a step back, Zverev is cautiously optimistic about being able to continue generating returns for investors. He admitted that while “you would need to work hard” to create a recession at this point in time, there are plenty of politicians around the world doing exactly that.
However, the manager added that a global market average of 15x earnings for “tepid but not horrible earnings growth doesn’t scream bubble” before pointing out such figures don’t offer a true reflection of the investment opportunities out there.
“There is a slightly off-colour joke in Russia which refers to the average temperature of patients in a hospital, which is 36.6C,” he added. “And that's great, but some people have a fever, so their temperature is higher. And some people are dead.
“So averages don’t really work like that. We see distinct pockets of exuberance, so even now, let alone a couple of months ago, the US software-as-a-service complex, high-growth tech, is ludicrously overvalued and is starting to hit the buffers a little bit.
“At the same time, even within tech, semiconductor memory stocks are still in the value territory. At the beginning of the year, there was one of our holdings you could buy at a discount to the replacement value of buildings and machines – but these businesses are so complex only three or four companies in the world know how to do it.
“This is indicative of where the market is, the overall average temperature is not scary. But there's some really weird bifurcation going on that, to me, means dispersion of returns – that means alpha opportunity, that means real difference.”
Data from FE Analytics shows Aviva Investors Global Equity Unconstrained is down 0.39 per cent since launch compared with losses of 2.37 per cent from the MSCI World index and 3.77 per cent from its IA Global sector.
Performance of fund vs sector and index since launch
Source: FE Analytics
The £150m fund has ongoing charges of 1.02 per cent.
Zverev’s former fund, ASI Global Unconstrained Equity, made 137.46 per cent under the manager’s tenure between July 2010 and April 2018, compared with 150.38 per cent from the MSCI World index and 114.25 per cent from the IA Global sector.