Roy Keenan from Yarra Capital Management shares insights with James Dunn from The Inside Network on the role of active management. The Inside Adviser
After the Hayne Royal Commission many advisers decided to steer away from large dealer groups in favour of becoming self-licensed. In the last six months, however, that trend has taken an abrupt turn.
Can analyst reports be relied upon?
Way back when it was possible to have relatively open conversations with company management and receive mostly unscripted responses. Nowadays the access is limited, and minders watch carefully for any possible deviation from the standard line. The politician response of saying whatever you want regardless of the question has clearly been taken on board.
For good reason, but with less attractive consequences, the direct payment for investment bank research is increasingly frowned upon, if not disallowed. On the fringes there is still plenty of wheeling and dealing between fund managers and the broking community, though this is mostly about access to trades and contacts.
Locally, a handful of highly experienced broking analysts hold fort, yet the bulk of written work is set pieces, regurgitating company announcements or reports. In turn, consensus data has a feeble backbone.
The outliers in forecasts can be legacy data where updating has lagged, or where the interpretation of unusual/exceptional items is treated differently. The emphasis is on judging forecasts based on EPS or growth rates, rather than intricacies in cash flow or the balance sheet which can later come back to haunt as structural flaws. The sheer scale of revisions post results illustrates that forecast data is frequently incorrect.
Some will complain that these comments are generalising, true. Yet one would not want to build a portfolio based on analyst forecasts, much less the recommendation.
For a fund manager, a weak process would claim reliance on broker data, though for quantitative screening it is inevitably part of the mix. Managers will make their own forecasts, though there is no evidence they are more accurate than the broking community.
Fundamental managers should rather be called judgemental fund managers. An adventurous spirit of ‘what if?’ is a likely merit of a growth-oriented manager. Perhaps the value manager is a ‘what if not?’. There are many good examples of how judgement overrides forecasts. A classic is the hit Treasury Wine has taken with China’s imposition of tariffs. Given the progression through from barley, some meat, coal and other trade restrictions, wine was an obvious next line. Why stand in front of the bus? Sensibility suggests staying away regardless of hockey stick forecasts.
The momentum trade has been a dominant feature of this year and it may be that structurally equity markets now lean on sentiment given the paucity of strong-minded views on the influence of profit and loss. It makes more sense to join consensus than to battle for the high ground of self-righteous fundamentals and contrarian views.
We often revert to discussing valuation metrics with fund managers and some even ask to see company models. The evidence may give comfort that they do work hard but in the end much is made up. Understanding an industry, a proposition that has appeal to business or the household sector, and assessment of management is probably much more important than data. Anyone with a YR12 certificate contemplating a career in finance may want to ensure they add a good dose of behavioural studies into their mix. And fund managers should consider adding analysts with lower tolerance for spreadsheets but an interest in the evolution of the human psyche.
