In the City
Market leadership
Tony Rudd
Among the numerous band of investment experts on Wall Street who sell their wares to the big institutions is one, Stanford Calderwood, who offers a computer-based service at the bargain price of $25,000 (to be paid in commissions) for a year's subscription. What makes his service worthwhile to many large institutions, despite this price tag, is that it helps them identify that most important and elusive factor in investment management, namely market leadership. It is exactly what the people who run money in London had, have now lost, and are most desperately looking for.
Let me put this in everyday terms. What you had to invest in during the last two years in order to make the most money, either personally or with a big institutional fund, were the leading sectors, namely energy and resource-based stocks. Oils, gold, minerals and the like made the running. If your portfolio was well stacked up with shares in these areas it did well: if not, it didn't. The problem now is that the market leadership of these areas seems to be over — at least in the UK. Meanwhile the new areas of leadership have yet to be identified.
It is even doubtful whether Stanford Calderwood himself would be able to discern a helpful trend out of the present mish-mash of conflicting evidence thrown up by the markets. Yet the use of very painstaking methods, combined with extremely sophisticated computer-based programmes, can discern trends not evident to the naked eye. And Calderwood's systems certainly make very clear to the fund manager where his portfolio performance really came from. It is odd, but even the successful fund manager very frequently ascribes his above-average performance to strategies which he is rather proud of intellectually but which the evidence shows actually detracted from his results. More often than not had he left well alone, having in the first place a good representation in the areas of market leadership, he would have done much better than he actually did. Fiddling and trimming a portfolio, dealing too much, switching from like to like, not only lowers performance by raising dealing costs but also, too often, takes the edge off the basic strategy which is what matters.
The traditional view of where the market leadership is now going to come from, at this point in the business cycle, would be to look at reciprocal industries which should bounce back once the recession yields to recovery. Those industries which are now doing worst should, on this argument, shortly be doing best. But both the charts and common sense tell us that the risks inherent in following this simple precept may, in this recession (so different from the others which we have had since the war) be still unacceptable. Thus, many of the older, more mature industries are doing badly on both sides of the Atlantic and there arc signs that when the recovery does come they could be left out. Furthermore the financial pressures of this recession are proving to be so severe that a prudent investor would be wise to wait and see whether his chosen recovery situations are actually going to survive the next six to twelve months. In these circumstances it is no wonder that there are few signs of the engineering and heavy industries assuming market leadership at the present time.
Similarly with the retail sectors. Here, although the pressures are nothing like as great as in manufacturing industries, profit margins are still very much under pressure. And it is still not entirely clear that the de-stocking phase in the UK is complete.
The situation is also complicated by certain specific problems in retailing, for instance those of the department stores, whose powers of survival are really being tested now. The financial sectors are good in parts but one large component, the clearing banks, is not showing much strength. This is not surprising considering that interest rates are likely to go down over the next couple of years rather than up, while costs will continue to mount.
From an investor's point of view the ideal company to put his money into is one with new technology, a fresh innovative product, a small labour content and a high valueadded component. Last week a new hi-fi company, Sonic Sound Audio, came into the market, and was an immediate success. One can see why. The market for hi-fi equipment is still amazingly good. Manu facturing costs are being held down by the availability of amazingly cheap components from places like Taiwan and the end product is often marketed with flair. Companies in this business also have very low overheads and are themselves relatively small units, unattached to any large manufacturing capacity in the UK. For the fund manager it is a case of small being beautiful.
A great deal of effort is nowadays being put into research into 'special situations'. In a way this is a result of the absence of market leadership in its traditional sense. Or it could be said that many fund managers are abandoning the traditional concept of market leadership in favour of investing in small innovative companies, where the labour content is non-unionised and the margins are high. But this kind of policy applies more in America than it does here because their free market system really does throw up a huge crop of new companies every year. In the UK, although the supply is increasing, it is still far from a flood and certainly insufficient to satisfy the needs of institutional investment where the flow of fresh funds is so large. On this side of the Atlantic, if market leadership cannot be identified, there is no alternative to spreading the new money across the board.
It may. not be an exciting answer, but at this stage in the business cycle no fund manager is going to risk piling up his cash. Recovery may come at any time, both in gilts and equities, and tcl miss the turn would be fatal. So the money will be invested, signpost or no signpost. And sometime during the next six months we guess that market leadership will begin to emerge. Come in, Stanford Calderwood, your computers are needed.
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