SWIP/UK FLEXIBLE STRATEGYFUNDDo fund managers make mistakes?James ClunieCitywire Alternative UCITS Retreat, Hampshire29-30 November 2012Professional client use only – not for retail clients.This document is intended only for the person to whom it has been delivered and may not be forwarded to a third party without prior consent fromScottish Widows Investment Partnership. Any investment decision should be based on the information contained in the appropriate Prospectus whichshould be read prior to investing.
Do all trades make a profit?► …of course not► Investments have a ‘hit rate’. Processes that aim to minimise the frequency and impact of mistakes can be valuable► And once short-sales are involved, losses can be (theoretically) unlimited. Thinking about mistakes becomes vital► The SWIP UK Flexible Strategy Fund has had solid performance in recent years. But I still made mistakes…The value of investment is not guaranteed and can go down as well as up depending on investment performance. Investors may not receive back the 2full amount originally invested. Past performance is not a guide to future performance.
Mistakes on the shorting side► Right in theory; wrong in practice (stopped out before they worked!): ► Admiral ► Supergroup► Apparently ‘over-priced’ stocks, but lacking specific catalysts: ► Croda ► Hargreaves Lansdown► Negative catalysts failed to hurt share price: ► ARM (rising shorting demand and director selling in mid-2010) ► Tullow (‘production warning’ in January 2012)Source: SWIP, November 2012. 3
Mistakes on the long side► ‘Under-priced’ stocks that fell in price: ► RSA ► Centrica► Buying stocks where we have little evaluation ‘edge’: ► Most mining shares (valuation model requires estimates of future metal prices) ► Most bank shares (highly leveraged and thus equity fair-value estimate is sensitive to small changes in assumptions)► Stocks that had profit warnings: ► Amlin ► Balfour BeattySource: SWIP, November 2012. 4
Other sources of mistakes/missed opportunities► Asset allocation: ► If only we could change the fund’s beta in advance of turning points in the stock market index! Fund beta is based on bottom-up ideas, with an awareness of top- down factors. It is rarely ‘optimal’► Fund risk: ► When to take risk and when to retreat? There is some evidence on ‘turbulence’ to help us here (return per unit of risk is higher when market turbulence is low) but it is not easy to put into practice► ‘Non-core areas’: ► When to use the flexibility offered by our mandate?...option writing, currency hedging, capital structure arbitrage, statistical arbitrage etc. I am cautious about areas where I am not a specialist 5
Minimising the frequencyand impact of mistakes► Most of the processes below attempt to reduce ‘behavioural’ errors: ► Re-read the fund objectives frequently – to stay disciplined to the task in hand ► Use a stock ‘checklist’ - to minimise frequency of bottom-up errors ► Write an investment journal – to record your mistakes ► Apply some form of ‘stop loss’ – to admit to your mistakes Is there a role for “sophisticated risk management systems”? Certainly, but note that the rigid use of some risk management techniques forces trades to be done – this can be exploited by others. 6
SWIP UK Flexible Strategy FundObjective► To generate long-term returns through a combination of long and short positions, primarily in UK equities► Target is LIBOR + 4% per annum over a stock market cycle► Value at Risk limit (99%; 1 month) of 12%► Comply with UCITS III legislationThe value of investment is not guaranteed and can go down as well as up depending on investment performance. Investors may not receive back the 7full amount originally invested. Source: SWIP, November 2012.
SWIP UK Flexible Strategy FundPerformance Summary► Fund has delivered 98% of the FTSE All-Share performance with an average of 42% net market exposure 35% 32.9% 33.5% 30% 25% 20% 15% 10% 5% 2.5% 0% 1 Sep 2009 - 31 October 2012 SWIP UK Flexible Strategy Fund 3-month Libor FTSE All-ShareJames Clunie assumed responsibility for the Fund on 1 September 2009. Net market exposure figure is an average of the month end net market 8exposure since September 2009. The value of investment is not guaranteed and can go down as well as up depending on investment performance.Investors may not receive back the full amount originally invested. Past performance is not a guide to future performance.Source: SWIP, 31 October 2012. Gross of fees.
What is our edge?► We believe that our advantage comes through: ► a strong understanding of risk in short-selling, and the informational value of stock lending data ► having a dissimilar portfolio from most other long/short UK equity managers (through the use of fundamental analysis combined with quantitative signals)► Also: ► there is no performance fee ► the small fund size means that ‘market impact’ headwinds are minimal 9
SWIP UK Flexible Strategy FundFund characteristics SWIP UK Flexible Strategy Fund Characteristic Range Number of holdings Up to 40 stocks held long and10-20 stocks shorted Benchmark 3 Month LIBOR Exposure to UK equities Up to 100% net long exposure to UK equities Short positions 0-100% of net portfolio assets Long positions 0-100% of net portfolio assets Value at Risk (99% level as % of the Fund) Maximum of 12% Beta Approx. -0.2 to +1.2 Largest absolute stock position % 10%Source: SWIP, November 2012. 10
Biography Name: James Clunie Position: Investment Director Email: email@example.com Tel: 0131 655 2557James joined SWIP in 2007 and is responsible for managing the SWIP UK Flexible Strategy Fund.Previously, James was at the University of Edinburgh for four years, conducting research into stock lending and short selling. Prior to this, Jamesworked at Murray Johnstone International, where he was Head of Asset Allocation, and at Aberdeen Asset Management, where he was Head ofGlobal Equities.James is a Chartered Financial Analyst. He holds a BSc (Hons) in Mathematics and Statistics and a PhD in short selling and risk, both from theUniversity of Edinburgh. He is also a Visiting Professor at the University of Edinburgh. 11
Important informationUK professional client use only – not for retail clients.The information contained in this document has been derived from sources which we consider to be reasonable and appropriate. It may also include our views &expectations, which cannot be taken as fact. This information is supplied to you in confidence and you may not pass it on to any other party without prior writtenconsent.The value of investment is not guaranteed and can go down as well as up depending on investment performance. Past performance is not a guide to futureperformance. Furthermore, for non-sterling denominated investments, currency movements may cause an additional favourable or unfavourable change in value.Due to the above factors, investors may not receive back the full amount originally invested.Investment markets and conditions can change rapidly and as such the views expressed should not be taken as statements of fact, nor relied upon when makinginvestment decisions. Smaller companies may be less well established and carry a higher degree of risk than larger companies.Derivatives may be used to a significant extent. Whilst derivatives may be used to reduce volatility this cannot be guaranteed and using derivatives may at timeslead to increased price volatility. Therefore investors should be prepared to accept the risks associated with these investments and be aware that their capital is notguaranteed.Forecasts are opinion only, cannot be guaranteed and should not be relied upon when making investment decisions.Scottish Widows Investment Partnership33 Old Broad StreetLondonEC2N 1HZPhone: +44 (0) 20 7203 3000Fax: +44 (0) 20 7203 3289swip.comScottish Widows Investment Partnership Limited (SWIP) is registered in England and Wales, Company No. 794936. Registered Office is at 33 Old Broad Street,London EC2N 1HZ, UK. Tel: +44 (0)131 655 8500. SWIP is authorised and regulated in the UK by the Financial Services Authority and is entered on their registerunder number 193707 (www.fsa.gov.uk). Calls may be recorded and monitored to help improve customer service and for training purposes.FP5142 12/11 12