Since the number of funds we can cover in-depth is smaller than the number of funds worthy of in-depth coverage, we’ve decided to offer one or two managers each month the opportunity to make a 200 word pitch to you. That’s about the number of words a slightly-manic elevator companion could share in a minute and a half. In each case, I’ve promised to offer a quick capsule of the fund and a link back to the fund’s site. Other than that, they’ve got 200 words and precisely as much of your time and attention as you’re willing to share. These aren’t endorsements; they’re opportunities to learn more.
The conventional wisdom is that passive investing, particularly market cap weighted indexes, work best in highly-liquid, highly visible markets. Many new funds have tried to dodge the steamroller by tracking down market niches (emerging markets small cap value) or with complex bob-and-weave strategies (multi asset class, VIX hedged, sector rotating ploys). The Ensemble folks think those competitors are overthinking, over complicating and over diversifying. Their strategy is distinctly old school: buy a limited number of high quality firms when their stocks sell at a substantial discount to fair value. If you can’t find such a stock, buy nothing. If one of your current holdings has appreciated beyond a reasonable target, start selling. Their 21 holdings range from tiny Prestige Brands (maker of Chloraseptic lozenges and Nix, a treatment for head lice) to Apple. About 9% of their fund is in cash, and they report that good values are becoming scarcer.
One under-recognized threat to successful active management, especially for value-sensitive managers who tend to lag in frothy markets, is the tendency of investors to grow skittish and impatient, and to withdraw funds at critical junctures. Those outflows, which might occur just ahead of market tops or as markets tumble and worthwhile opportunities reappear, can force long-term managers into making disruptive changes to meet cash demands. An interesting advantage for Ensemble Capital, the advisor to the Ensemble Fund, comes from the assets of its core high net worth and philanthropic clients; that tends to be long-term money, a sort of “permanent capital,” which might allow the adviser to hold fast to his discipline even in markets where his newer investors grow skittish.
The Ensemble folks describe their approach this way:
We look for companies that have superior competitive positioning and create real cash earnings on behalf of shareholders at a higher than average rate. These companies achieve above-average returns on the capital they invest into their businesses while growing at sustainable and attractive levels. We look first for durable companies that we believe have bright prospects and limit our investments to those that pass our rigorous tests. Only after this assessment positively identifies an investment opportunity do we work to establish what we believe is a reasonable estimate of the company’s intrinsic value. We then require the stocks we add to our portfolio to be trading at a substantial discount to our estimate of that intrinsic value.
Our portfolio managers believe that risk management is every bit as important as stock selection. In addition to our thorough scrutiny of individual securities, we attempt to reduce risk by diversifying equity portfolios among up to 25 stocks, taking care to limit concentration in any one company or industry. We also construct portfolios in accordance with each client’s tolerance for both business risk and market risk.
Performance is a treacherous metric when it comes to assessing a fund’s prospects and its potential role in a portfolio. That’s especially true for strategies that have short public records and have been observed only under one set of market conditions. For those reasons, we’ll stick with: “the fund’s performance so far has been respectable rather than outstanding, and it tends to be a bit more volatile than its peers.”
Ensemble is managed by Sean Stannard-Stockton, and much of his career has been in service to high net worth individuals and philanthropic families. From 2007-11, he developed a considerable public following for this Tactical Philanthropy blog. Before joining Ensemble, he worked with high net worth private clients for Scudder Investments.
Ensemble Capital is the successor to Curtis Brown & Company, which was founded in 1997. Mr. Stannard- Stockton became a partner at Curtis Brown in 2004, at which point it was renamed Ensemble Capital. It’s a surprisingly large firm given its low profile. Ensemble Capital has $675 million in assets under management, primarily for high net worth folks. About a quarter of their assets come from private foundations, nonprofit endowments, charitable trusts and other philanthropic accounts. Sean remains personally active in the philanthropic community.
Herewith are Sean’s 320 words on what led him to conclude that the world needed a 393rd “large growth” (Morningstar) fund or the 175th “multi-cap growth” fund (Lipper), or that a successful private manager needed to offer a mutual fund, just now:
At Ensemble, we think that the “death of active management” has largely been a self-inflicted violence. Over the last thirty years mutual fund managers have dramatically changed their behavior to focus primarily on not straying too far from their benchmark, rather than focusing on generating strong long-term returns for their investors.
The Ensemble Fund currently has an Active Share of 91%, showing that there is less than 10% overlap between the composition of the S&P 500 and our portfolio of 15-30 companies. Our portfolio is fundamentally different from the market as a whole. Our investment strategy, owning competitively advantaged companies whose stocks sell at a discount to their intrinsic value, is simple to understand but difficult to execute. Everyone wants to outperform, but by definition outperforming means being different from your benchmark. Unfortunately most fund managers are unwilling or unable to tolerate a portfolio that acts differently from its benchmark for very long.
With 15-30 stocks in our portfolio, it is not uncommon for the Ensemble Fund to exhibit high tracking error and generate returns that are significantly different relative to the market. But since Ensemble Capital is 100% employee owned and as CIO and portfolio manager of the Ensemble Fund I’m the majority owner, we have the institutional permission to allow the portfolio to deviate from the market.
We understand that not everyone is willing to hold a portfolio that is different from the market. For these investors we wholeheartedly endorse passive index funds. But we think it is a serious mistake to invest in the mushy middle of active funds that hold hundreds of stocks in an effort to hug the benchmark while still hoping to generate outperformance.
As a portfolio manager who has 100% of my own public equity assets invested in the strategy I run, I’m willing to accept that my goal of outperformance is paid for by my willingness to act different than the crowd.
Ensemble Fund has a $5,000 minimum initial investment. Expenses are capped at 1%; with the fund now at $18 million.