Nancy - well, how did the second quarter (2Q16) go? I am preparing the financial statements so I know it is that time again for me to check in and see how much money you are making for us
Paul - good memory. It went very well in fact
Nancy - how well? How did our clients make out first?
Paul - quite well. Remember that Scott and I structured the Private Client business to appeal to pretty much any investor...my 83yr old parents, us, our boy's RESP, Scott and his family and everyone in between. In fact, in March we took on a special mandate for a client of ours as he wanted a very specific portfolio that he and I structured. Given our three models and our unique skill-set managing money across the entire capital structures of companies, we can create a model for most people and most mandates
Nancy - sounds complicated
Paul - well all that to say that when we do a Wealth Forecast (the first thing we do when a client comes on board) it effectively tells us what percentage to allocate to each of the three models: Fixed Income, Global Equity and Tactical. So we have three models but then we structure models of models. For instance, Scott's household is in 40% Fixed Income, 50% Global Equity and 10% Tactical. Our household is in 50% Fixed Income, 25% Global Equity and 25% Tactical. We have about 8 of these models of models to accommodate clients according to their Wealth Forecast and their Investment Policy Statement.
Nancy - can we get to how the quarter or year is going so far?
Paul - sure, sorry. I can only give you actual client performance (as per OSC rules) so I will use Scott's performance and our own performance because as I said, we have different exposures or weights to the three model but we are clients and invest in the exact same securities and models as our clients and all at the same price and timing. The difference between an Advisor and a Manager?...one "advises" clients what to do and one "manages" money for himself and those clients who see the benefit in having him do so for them,
Nancy - OK so how did Scott do first?
Paul - he did quite well. For the year to date (YTD) he was +4.8%. But, to be fair, Scott and we do not pay management fees so we should deduct about .6% from our returns. So comparing that to our other clients, he would have been +4.2% net of fees. Very solid YTD numbers but if we layer in the fact that Scott was sitting on 45% Cash over that period, the returns are spectacular.
Nancy - ah yes, I recall, he had strong risk-adjusted returns then, right?
Paul - that's right. Every time we buy and own an asset, there is risk of the asset going up or down. Some are more volatile than others. Something I do, that I doubt anyone else does, is run regression returns to calculate how much risk we are taking for how much return. This also flows into another calculation on how various asset classes correlate with each other. To not do this would be the definition of insanity as you could not possibly manage the inherent risk in a portfolio without knowing what the risk/return is over time. In fact, it wouldn't be a portfolio...it would be a pile of securities. So if we are getting "good" returns and we are doing so while sitting on large cash weighting, we are creating excellent risk-adjusted returns.
Nancy - and us?
Paul - well we had even better performance because of our much higher weighting to the Tactical model. Remember Scott has only 10% while we have 25%.
Nancy - percentage number please?
Paul - sorry, +9.1%. But again, we need to deduct the Management Fee that we don't pay but our clients pay which would have been just under .6% so that would have given us about +8.5% YTD. Not bad eh? And on top of that, we were sitting on 37% cash so extremely strong risk-adjusted returns for us too.
Nancy - so we are up a fair bit more than Scott? How come?
Paul - well primarily because we have a 25% weight in the Tactical model while Scott (and many clients) have a 10% weight to the Tactical. Also, we have a slightly larger weight in Fixed Income at 50% vs Scott at 40%.
Nancy - so did the Tactical and Fixed Income do really well YTD?
Paul - yes they did. In Fixed Income, we took a contrarian bet based on our ions of bond trading experience and current research and were long a good weight in 10yr and 30yr Government of Canada bonds along with two 30yr Investment Grade corporate bonds that have about an 80% correlation to 30yr Government of Canada bonds (remember the regression models I run? I know these Investment Grade 30yr bonds are 80% interest rate risk and 20% credit risk). All four of those bonds did quite well as did some of our High Yield bonds. Within the Tactical, we had a great YTD. We had a triple in Paramount Energy stock and a double in Rona when Lowes came in to acquire them. We also had some impactful trades in some very specific, special situation high yield energy bonds (these are not included as part of our fixed income models) that I have a long history with and do a lot of fundamental research on. I won't name them because we are still trying to buy more and we still have the positions on. There were a few trades that also added some decent value but we still have those positions on so I will not tell you what they are.
Nancy - and so because we had more exposure to the Fixed Income and Tactical, we are up more?
Paul - yes but remember, this is only over 6 months. Anything can happen the next 6 months. Don't get too excited.
Nancy - well why don't all clients move to the same weights as we have in our house?
Paul - good question. The simple answer is that a client's portfolio is designed with a purpose in mind based on the outcome of their Wealth Forecast and their Investment Policy Statement. If we can meet a client's future goals without taking a ton of risk, we will do so. Then we look at all kinds of asset classes and individual stocks on that regression basis to ensure we are always taking the least amount of risk possible to meet our collective goals.
Nancy - sounds nice and all but you always say that is is not enough to be up money, that you need to compare your performance to some benchmark or something like that. So how did you do versus the benchmark thing?
Paul - we did pretty well versus the benchmark thing too! If we look at the YTD performance of the Canadian Bond Universe ETF XBB with a 40% weight (Fixed Income) and the ACWI ETF (Global Equity) at 60% (Source: Bloomberg, Dec 31, 2015 to Jun 30, 2016) we would have seen a return of 2.79%. So compare that to Scott's performance of 4.2% PLUS he is sitting on 45% cash so you can see he outperformed our benchmark thingy by 1.4%. Very good. And our household at +8.5% vs 2.79% for the benchmark thingy means we outpaced the benchmark by 5.7% PLUS we did so sitting on 37% cash. Very good as well. Measuring our performance against a relative benchmark is important because this too helps us ascertain what kind o risk we are taking. Rick Management is easy to talk about but harder to put into action.
Nancy - getting complicated. Keep doing what you are doing and make sure those performance numbers don't have minus signs in front of them.
Paul - always our goal my dear, always our goal
(Past performance is no guarantee of future performance. Client portfolios can vary slightly depending on their model weights and when they began to invest with High Rock Capital)