He questions where tomorrow’s winners will come from. “Clearly not from the boring consolidation plays at the top which are pure earnings-driven ideas. The winners will come from the people who take great ideas further. If you look at the hedge fund industry, the winners are all consolidating now and competing with us in the mid-sized space. They are all becoming $10bn-$15bn platforms,” he adds.
For him, the real risk in asset management is not size, it is rather where parent companies “bring in people who know nothing about the industry and who do all sorts of crazy things which can lead to the destruction of good asset management operations”.
Mr du Toit fears that in a climate of rising asset prices, large fund houses become extremely predatory and determined to poach good investment managers from competitors at any price.
“They are more dangerous than the start-ups right now,” he claims.
With £25.7bn (€37.3bn) of assets under management, £17.40bn of which is for institutional investors, Investec sits squarely in that precarious mid-sized bracket, but Mr du Toit is no hurry to climb out of it.
He says: “We are not about asset-raising. We have enough assets and we make a lot of profit. For us it is about getting our products and processes to the point where they are so well understood that the assets come to us.
“It is also about satisfying clients with good performance and in the institutional arena we are only interested in the alpha space.”
Respondents to a recent investment industry survey by the Bank of New York maintained that asset managers must be top quartile performers to flourish and survive acquisition. While Mr du Toit concurs with this view, he says that some of the successful players have shown the ability to weather long periods of poor performance.
Big winners
“Not all managers can be top quartile performers but you have to be able to come back from bad performance. The really big winners in the industry can sustain five years of underperformance because clients trust them and give them the time and inevitably they come right,” he says.
But in the end, he adds, if you cannot deliver performance, you have to get out of the asset class before clients start defecting.
“Investors will only stick with a fourth quartile fund because they think these guys can do it better and the evidence they have is past performance,” he says.
According to Standard and Poor’s, Investec has generated very healthy returns from investment strategies such as global equities and UK equities which Mr du Toit highlights are central to ambitions to build business in the UK and Continental European institutional markets (see table download).
Outside the home country of South Africa, the UK is a key market and one which Investec is targeting with “aggressive” products such as UK small cap equity, UK value equity and sterling high yield.
A global equity fund is being promoted in the UK, but for now, the greatest flows into the strategy are coming from Continental Europe. Mr du Toit expects that to change and predicts that the global equity fund will become “the real rocket” in the UK. He is also hopeful of winning core bond mandates from British institutional investors.
He notes that the fixed income arena is evolving towards targeted return products in anticipation of a bear market in bonds. Pointing to the imminent launch of such strategies by Investec, he observes: “Investors still like to get their alpha from the bond and currency markets in general rather than seeking only equity alpha.”
While long-term equity returns are worth trumpeting, Standard & Poor’s reveals that Investec’s global bond funds have failed to match or exceed benchmark performance over the last one, three and five years.
“We had our currency side right but our yield curve call wrong and we have been too conservative on credit,” confesses Mr du Toit. “But our process is attracting a lot of money because we are willing to take some risks and if you take a fairly long view, markets are probably going to turn round on you.”
In Continental Europe, Investec wants to build its business in mature institutional markets such as the Netherlands, Switzerland and eventually Scandinavia.
“We are targeting markets that are not unlike the Anglo-Saxon fund market in terms of the professionalism of the distribution channels,” says Mr du Toit.
The growing sub-advisory market is also seen as potentially lucrative for a firm which concentrates solely on manufacturing and managing investment products.
He observes: “Although pricing power is being eroded, a good manufacturer will be able to charge a high fee for his product and will have the necessary focus to deliver. We see ourselves as a partner of the various distribution channels, be they private banks and funds of funds in the retail market or investment consultants and multi-managers in the institutional market. Now there are some exciting sub-advisory deals coming to the table and we want to be involved.”
Besides the focus on Europe, Investec has an established presence in Hong Kong and Taiwan and is marketing mainly global equity and global high yield products to both institutional and retail investors in South-East Asia.
Mr du Toit says the Hong Kong office is attracting more than $50m a month in new subscriptions to add to the firm’s over $1bn of assets under management in the region.
While Investec works to extend its international reach and market share, it is not forgetting to bang the drum for its home continent of Africa.
A new pan-African investment fund for institutional investors is being launched early next year. The new fund will differ from existing offerings by investing in the entire African continent, including smaller, less liquid markets.
Mr du Toit believes that institutional investors will only want to allocate small amounts of money to the fund and in the form of a segregated mandate.
The fund will also be capacity constrained in order to avoid raising too much money which could then flood undeveloped capital markets.
“We don’t want to create a bull market with a foreign fund. We are looking for a few hundred million dollars at best and we have already raised part of that,” says Mr Toit.
He explains that the fund will analyse all 19 eligible markets in Africa for opportunities which at present are being exploited by very small boutiques. The aim is to develop fledgling markets and thereby encourage more new capital-raising which could give investors access to the high growth rates of some African economies.
Forgotten region
“It is not only a profitable investment but a real opportunity to participate in the improvement of a forgotten part of the world. In particular, the participation in listed stocks by politically - independent institutions will help create good governance. In most African countries, the domestic government pension scheme happens to be the major pool of assets which means that depending on the mood of the government at the time, the institutional shareholders might not have the muscle to exercise their rights properly or the willingness to do so,” he says
Mr du Toit does not think regional volatility or illiquid markets will deter investors given that that they are willing to buy into hedge funds with two-year lock-up periods.
Controversially, Investec recently launched a fund – the Investec Capital Accumulator Trust (ICAT) – which offers ‘zero-like returns’, and is said to be without the complications of split capital investment trusts that led many zero coupon investors to make heavy losses.
“Split capital by itself was a great invention which was explained and marketed incorrectly,” contends Mr du Toit. “All the ICAT does is to try and generate income by targeting an annual 7 per cent return. It is a target return product in the equity space. You buy stocks and put an effective derivatives structure around them.”
Despite increasing competitive pressures, Mr du Toit remains optimistic for the future of the investment industry and his own chances of surviving within it.
“The industry is on a path to improvement,” he remarks. “It is an evolutionary process and we will participate hopefully as a winner. Crucial to success is cost containment because you have to run a business at a deep enough margin to sustain periods of underperformance and periods of weak markets. We watch costs fiercely but there is no point in getting the B team to run your money. You want the A team and it doesn’t come cheap.”
