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FoHFs and the value of values

Date: Tuesday, April 5, 2011
Author: Niki Natarajan, HedgeFund Intelligence

“Value is not cyclical, it is timeless – it just takes patience”

As value investors stole the show at the recent InvestHedge FoHF Awards in New York, “I got to thinking,” as Carrie Bradshaw of Sex and the City would say. I got to thinking about something that Kathleen Phillips, president of Berens Capital Management, winner of Fund of the Year, had said earlier that day at the Global FoHF Forum: “Value is not cyclical, it is timeless – it just takes patience.”

A simple statement that turned my view of value investing on its head. To be honest, my meagre textbook knowledge comes straight from the teachings of Graham and Dodd and until now, I too held the common view that this type of investing is cyclical.

But now the human element of patience has entered the equation, my mind is racing: surely this type of Warren Buffett-esque intrinsic value analysis is qualitative and therefore down to an individual’s judgement? Does it take into account the people that do the work? If so, how much of a company’s value is based on these people, their values and their culture? Is value investing really based on personal value systems of the analysts?

Berens and van Biema Value Partners both made their award-winning returns in 2010 through value-based investments. But based on Kathleen’s comment, I got to thinking not about what defines value but who defines value?

I bring this up as yet another caveat emptor. This time on the back of the wind of M&A that is starting to gather pace, again. As BlueCrest Capital Management recently spent a fortune buying its 25% stake back from the Man Group, one has to wonder how much real value was added by that deal except to the listed coffers of Man?

If life is indeed cyclical, one might want to look at International Asset Management and Cadogan Management, both of which have managed to extricate themselves from Fortis and are now flying solo again. What lessons did they learn about life under a bank owner?

While bank ownership (with 25.7% of the InvestHedge Billion Dollar FoHF Club wholly owned by banks) has the benefits of distribution, one needs to check who is in charge of investment strategy. It takes a really savvy investor like Natixis to buy a business and know where the value really lies. Its stake in Aurora Investment Management seems to be paying off as the group is nominated year after year at the awards, largely because the original investment team is motivated to keep doing what they have always done.

What Berens and van Biema seem to have in common – aside from winning multiple 2010 awards – is that they are still run by the founders, who are likely to have a lot of their net worth at stake, as well as quite a lot of their identity invested. What few realise is that if firms such as these are ever sold unless the ethos, values and culture have been engrained into the new leaders, much of what made the firm successful will leave or retire with the founders.

While the processes may be repeatable, one needs to know how much of it comes from the founder’s finely honed gut instinct. Fund of funds, arguably more so than hedge funds, are driven by people, the chemistry of which is as fundamental to success as the process. Groups such as Aurum Fund Management take so much time to ensure their hires are of the right quality because they know on a value-based level that the longevity of the business and returns is all about people.

So as the race to consolidate gathers momentum, one look at the names of the most recent InvestHedge Awards will show that those that have won or been nominated over the last nine years are those where there is a discernable (positive) imprint of the founder’s personal values.

Adam Smith had a very interesting take on the paradox of value, also known as the diamond-water paradox. Although water is generally regarded as more useful, in terms of survival, than diamonds, the latter commands a higher price in the market. In funds of funds, I would argue that it is the people-assets paradox that is the one to watch.