Style rotation more of a concern now, says RCM

Like most bottom-up asset managers with a focus on stock-picking, RCM ran into difficulties from early 2009 and has had to rethink its approach. That has led to it putting a stronger focus on risk controls and taking a more flexible approach to portfolio allocation.

Fundamentals-driven, growth-type strategies suffered during the equity re-pricing that took hold in the global financial crisis. Taking positions in liquid, high-quality stocks was no defence against the indiscriminate sell-off from September 2008, nor did it allow growth funds to participate in the 'trash rally' of lower-quality names from March last year, as 'quality growth' managers such as Baring Investment Management have pointed out.

RCM, an asset manager that makes use of quantitative analysis and runs several growth-focused funds, now monitors portfolio-related risk, such as tracking error, more closely says George Liu, Asia head of risk strategy and derivatives in Hong Kong. Whereas a few years ago the firm might have monitored such parameters on a monthly basis, it now does so weekly, he adds. That's on top of keeping daily, real-time tabs on factors such as concentration and diversification limits.

RCM also sets tighter risk budgets now. "Previously, we might have allowed higher tracking error, but now we might trim that by 10-30%," says Liu. "Obviously, two- or three-standard-deviation events can happen more frequently than we previously assumed."

The crisis destabilised the investment process, creating an environment of high volatility and "low stability and predictability", he adds. "But the worst of the crisis seems to have passed and, with better economic conditions, predictability and stability are coming back, so things are looking good for quantitative strategies."

However, while risk appetite is gradually coming back and the "redemption cycle" seems to be over, adds Liu, he feels it's too early to say that it is "back with a vengeance", as the statistics are not yet sufficient to draw strong conclusions.

One change that may be here to stay post-crisis is that the equity market has become more dynamic and trading-orientated, says Liu. As a result, while long-term managers will stick to quality companies, they now need to be more aware of potential "style rotation" -- particularly in growth markets such as Asia.

"No one style will outperform at all times, so we have to be a lot more aware of the trends," he says. For example, if small-cap stocks are outperforming, rather than ignoring them, RCM would be more flexible in its allocation and might adjust its positions accordingly, says Liu.

"You can't necessarily just wait it out now," he adds. "A trend might continue for six or nine months without reversing, so you need to be more adaptable. And quantitative analysis can help us on that front." While sticking to its core fundamentals-based, bottom-up investment process, RCM might, for instance, buy into certain small-caps with a reasonable valuation and growth prospects, even if quality-wise they might not be an optimal choice.

Asked whether such portfolio adjustments would be an issue to discuss with clients, Liu says: "If we are not being flexible, then the performance issue will come up. There's a line we have to draw here. Our job is to focus on outperformance, but we will inform a client that we've made adjustments, if we feel the adjustments warrant it."

RCM is part of Allianz Global Investors and had $142 billion in assets under management as of December 31, with around 10% of its clients based in the Asia-Pacific region.