An obsession with bear markets means Mid Wynd International Investment Trust manager Simon Edelsten is happy to miss out on rallying returns and even tolerate a fourth quartile return at the end of a bull run. 
The manager of the £168m four FE Crown-rated trust said it is run with a growth and quality tilt but that capital preservation is a key part of keeping investors in the fund throughout the cycle.
“When we took it over three and a half years ago we changed it to our style which is growth and quality-orientated but one that is also capital protective,” he said.
“To get that we spread eggs between different baskets a bit more than other funds and we pay attention to valuation.”
He noted that while some global equities managers claim to have a keen eye on valuation, some also refuse to sell an expensive share if it has been on a strong run and is one of their preferred holdings.
“We are proud of having a very low turnover, they will just say ‘Well, you can’t have attention to valuation and low turnover – particularly not after the market has gone up for seven years’,” Edelsten said.
“What happens if you concentrate on low turnover rather than valuation is that a few of your stocks will have worked fantastically well, but they will then be a very large chunk of your portfolio right at the point at which they are also very expensive.”
At this point, the manager said the risk profile for the end investor rises substantially, potentially without them realising.
“Our view is that an active fund manager is paid to do what the public can’t do which is keep an eye on valuations and move out of stocks when they are fashionable and expensive,” he added.
This means however that the investment trust can miss out on returns when in a momentum-driven bull market, such as in 2013, 2014, 2016 and 2017.
For example, last year the trust was a third quartile performer in the IT Global sector, returning 18.27 per cent, while in the other years it was a second quartile performer.
Performance of fund vs sector and benchmark in 2017
Source: FE Analytics
“We are proud of our record of selling shares quite early. In order to build a capital protective fund you generally need to leave parties early,” he said. “It does not matter as long as you are finding new things to invest in.”
He used technology sector, where he has sold out of internet stocks on valuation grounds in preference of lower-rated Japanese automation companies last year, as an example of how the trust looks to protect investors’ capital by moving out of expensive stocks despite having further to run.
In an upcoming article FE Trustnet will look at this portfolio shift, among others, in more detail.
The fund manager admitted, however, that he has probably spent too much money on downside protection over the past year.
“Last year and this year what we worry about is tapering and the interest rate cycle,” he said. “We have spent more money insuring against this downside than we needed to because the cycle just hasn’t happened in the way in which we feared – but we will carry on doing that.”
In times of market stress this has proved invaluable. Since taking over the trust in 2014 the only time it has been though something resembling a ‘bear market’ was in 2015 when markets sold off 7.6 per cent from its peak in April to the end of the year as investors feared a slowdown in China could lead to a collapse in global growth.
“The only really big market correction where we could show our capital protection was in 2015,” Edelsten said.
The manager said the trust went from being “gently second quartile most of the time” to a top quartile performer over the year.
Performance of fund vs sector and benchmark in 3 calendar years
Source: FE Analytics
“What we don’t want to do is give our returns up too easily and 2015 is the only time we can show we didn’t give it up,” he added.
The key, he said, is to have a genuinely diversified portfolio, though there are no guarantees that this approach will work all the time.
“I can’t tell you that this is going to work but in the 2000s I saw two whopping great bear markets and one of the few advantages of being very old is that you are quite obsessed with bear markets and how prepared you have to be ahead of them,” Edelsten said.
“It is not like people ring you up and say ‘By the way did you know the bull market is over, it is time you got yourself together’.”
The manager added: “I may be one of the few people left who was actually manning a desk in 1987 when you walked in and every single market in the world opened 25 per cent lower than it had closed on Friday and you don’t necessarily get the opportunity to restart your [screen] machine or whatever.”
The difficulty for managers in the current climate is that the market is likely to bubble higher and is nowhere near as overbought as it has been in previous bear markets.
As such investors want to be in the market, even if they are unsure as to where they want to invest.
“If the growth that we’ve got coming through and the fact there are too many bulls out there means that people pile into the market it is quite possible we will have a very bubbly market which will then collapse – though it will probably [be] to a level that is still much higher than we are today,” he said.
“So, you want to be in it but you want to give up the last bit – a lot of the last bit. What we will do is deliberately set out to be fourth quartile for the last bit of the bull market and won’t give a monkey’s about it.
“You really want to do that because you want to be in cash and highly defensive shares where you don’t have valuation risk to protect your capital.”
He warned investors to do the same, as the next bear market could be worse than those that have gone before.
“That crash could be a lot worse because there is so much money in passives and momentum driven strategies,” Edelsten said.
“A panic in Wall Street now could be really fast acting and our view is that you are looking after people’s money who have a long-term view then we will prioritise capital protection hugely at the end of the cycle.”
Edelsten has run the four FE crown-rated Mid Wynd International Investment Trust alongside Rosanna Burcheri and Alex Illingworth since it moved from Baillie Gifford to Artemis in 2014.
Performance of fund vs sector and benchmark since managers’ start
Source: FE Analytics
During their tenure it has returned 96.9 per cent, 21.08 and 26.93 percentage points ahead of the IT Global sector and MSCI AC World benchmark respectively.
The investment trust has a yield of 1 per cent and a clean ongoing charges figure of 0.7 per cent.