KEY PILLARS OF PiCTET AM's THEMATIC EQUITY INVESTMENT APPROACH
Our thematic DNA
November 2018
Gertjan van der Geer, Senior Investment Manager
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We've designed our thematic strategies around three key investment pillars. Together, they form the best possible foundations on which to build strong long-term performance for our investors. Here's what they are and why they work.
How we invest
What makes our thematic investment approach different is the combination of three key investment principles – our unique investment DNA:
1. our emphasis on secular growth;
2. our focus;
3. and our ability to manage portfolios in an unconstrained manner.
FIG 1: our ThEMATIC DNA
Source: Pictet Asset Management
1. Secular growth prospects
Megatrends are secular shifts that will shape the world for decades to come. We think they are a crucial driver of long-run investment performance, which is why we use them as the basis for each of our thematic equity strategies.
Our approach demands that thematic strategies be underpinned by multiple megatrends, which together engender clear and predictable sources of value, growth & margins. Theme-based strategies work because of the existence of short-term market inefficiencies – such as investors' failure to recognise the future impact of megatrends.
For instance, take one of the megatrends supporting our Water thematic strategy: commercialisation.
FIG 2: The Weight of water
As the diagram below shows the water theme is underpinned by 5 megatrends
Source: Pictet Asset Management
As Fig. 3 below shows, the water sector is undergoing a secular shift away from a public sector management model to one with ever greater private participation. This commercialisation is not just a phenomenon in the US but is happening across all global markets.
Being able to assess the long-term commercial impacts of this megatrend was key to validating the Pictet Water strategy.
FIG 3: The Commercialisation of WATER
Growth in water public private partnership (PPP) across all regions
Source: Envisager 2015
Secular growth makes it easier to predict growth and margins
The structural forces that underpin the thematic companies in which we invest make it easier to understand how they're likely to perform compared to the wider global equity universe.
The green dots in Fig. 4 below show the sales growth of our thematic universes versus the companies in the MSCI AC World Index over 5, 10, 15 and 20 year periods. Companies in our thematic universes have experienced higher and more reliable (ie. less volatile) long-term sales growth than the market in general.
Paradoxically – and fortunately for us and our investors the best thematic companies, and therefore those that we target, often trade at a discount to their long-term potential. Indeed, we see evidence that the often short-term mindset of the wider market overestimates the rate at which the cash flows generated by thematic companies 'fade'.
FIG 4: THEMATICS over the long term
Source: Pictet Asset Management analysis based on backtest of our Global Megatrend Selection portfolio. Data to 31.12.2017.
2. Focus
Successful thematic investment demands several different types of focus.
First, focus means being specialists in the themes in which we invest. Being able to navigate the implications of the multiple megatrends driving a theme demands concentrated effort. We are not generalists covering multiple sectors or themes. Some of us have been following certain stocks in our universe for over two decades. We know the management teams inside-out and have good access given the size of our holdings.
Second, the companies we buy have to be focused on the themes they belong to
–what we call "thematic purity”. Only companies whose activities predominantly lie within the scope of a particular theme become candidates for investment: pure plays are always favoured over more diversified companies.
Portfolios made up of pure plays can be expected to do better than a portfolio that contains conglomerates.
In part, that's because a large body of research suggests specialist companies make for better long-term investments than larger, more diversified firms. This academic literature, which appears to have been overlooked in recent years, points to the existence of a “conglomerate discount” – i.e. that big firms are worth less than the sum of their parts1.
By extension, portfolios made up of pure-plays – firms that specialise in activities in which they have a distinctive competitive edge – can be expected to do better than a portfolio that contains conglomerates. And although mega cap companies are no longer called conglomerates, a large number of such firms pursue the same wide range of activities. Unsurprisingly our strategies are tilted towards smaller- and mid-cap companies. We believe therefore that our focus on purity creates a tailwind for our equity strategies.
Focused investment teams with combined portfolio manager and analyst functions
Finally, focus is embedded in how our investment teams are structured. Each team member is not only a portfolio manager, sharing responsibility for the management of the strategy, but is also a stock analyst. By dedicating all their attention to a clearly-defined universe of stocks, our investment managers develop distinctive, specialist expertise.
We believe this gives them an advantage over the typical active global equity team, which works rather differently. Most mainstream global equity funds are run by managers supported by several analysts, whose task it is to generate lists of their best ideas within their assigned sectors. The portfolio construction team then chooses stocks from among those recommendations.
A typical global equity manager tends to have to cover a very large universe of stocks and are thus less focused than analysts. This can make it very difficult for them to add value in the portfolio construction process, as successfully picking stocks from a list of analyst recommendations is difficult.
3. Unconstrained, forward looking portfolios
The third pillar of our investment DNA can be defined simply as taking an unconstrained or benchmark-agnostic approach. We devote ourselves to finding the best companies within our investment universes on a bottom-up basis. As long as companies meet our minimum liquidity requirements, we don't care which indices they sit in. We want a portfolio of companies that will do well in the future, whatever club they belong to.
For example, as Fig. 5 shows, our Pictet Global Thematic Opportunities strategy has a greater allocation to small- and mid-cap stocks than either the MSCI World or MSCI AC World indices. This is purely a residual of our stock selection, as we don't pick out companies based on their size – just the best ones.
fig 5: Dare to be different
Pictet Global Thematic Opportunities portfolio market cap breakdown vs global equity indices
Source: Pictet Asset Management, 30.09.2018
Low overlap with global equity indices
Further evidence of our unconstrained approach can be found in Fig. 6, which shows the active share and overlap with the MSCI World of all of our main thematic equity strategies.
FIG 6: DARE TO BE DIFFEREnt - PART 2
Overlap and active share of Pictet thematic equity strategies versus MSCI World
Source: Pictet Asset Management, MSCI, Bloomberg, 31.08.2018. Overlap = sum of all overlapping fund holdings with index, adding up the min of the two weights
Written in our genes
In a nutshell, that's the 'DNA' of our thematic strategies: investment themes based on secular growth trends; an investment approach centred on focus and thematic purity; and portfolios that are unconstrained and based on long-term future prospects not short-term noise and speculation.
Of course a thematic approach is not for every investor. It won't suit anyone subject to a short investment horizon. Nor investors unable to tolerate significant deviations as there are inevitably periods when thematic equities lag equity indices.
But for investors willing and able to escape the herd and take a longer-term view, we think a thematic approach offers highly attractive prospects.
Gertjan van der Geer joined Pictet Asset Management in 2008 and is a Senior Investment Manager in the Thematic Equities team. Before joining Pictet, he worked for two years at Robeco in Rotterdam as a senior portfolio manager for the Food & Agriculture Fund. Gertjan began his career in 2000 at Fortis MeesPierson as an asset manager in the Private Banking division.Gertjan graduated with a degree in Business Economics and Financial Economics from the Free University of Amsterdam. He is a certified EFFAS (European Federation of Financial Analysts Societies) financial analyst.
Hans Peter Portner, Head of Thematic EquitiesNovember 2018
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