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Making Contrarian Choices With ETFs

Making Contrarian Choices With ETFs



[This article previously appeared on our sister site,]


Most recent media coverage of the European exchange-traded fund sector has focused on market growth, product structures, price wars and developing regulation. However, behind the scenes a new trend is emerging. Many fund managers are setting up businesses with portfolios made up exclusively of ETFs and exchange-traded commodities.

Investment management house SCM Private was set up in 2009 using only ETFs and ETCs with the aim of building a “progressive and honest investment management organisation”.

The firm was founded by Alan Miller and his wife, Gina Miller. This year assets under management will reach £100 million from its choice of three portfolios.

If experience across the funds business is anything to go by, it seems investors are in safe hands. Alan Miller is amongst London’s most high-profile managers, having started one of Britain’s first hedge funds in 1997. Miller also worked at Gartmore, Jupiter and New Star (where he reportedly amassed a £30 million fortune from the sizeable fees generated by the firm’s hedge fund range).

More recently, though, Miller has switched to passively managed ETFs, which are at the opposite end of the fund management fee scale, while continuing to manage asset allocation actively.

“Our approach is to manage portfolios of index funds actively in order to combine the best of passive and active investment,” Miller told

Miller also seems now to have abandoned his hedge fund roots for good. When SCM was set up in 2009, the firm charged a 5 percent, hedge fund-type fee on the performance generated by its portfolios. But two years later the performance fee was scrapped.

The Choice Of Three

Investors in SCM can choose from only three portfolios: the bond, absolute and long-term return funds.

The bond portfolio invests in developed and emerging market government, corporate and inflation-linked fixed income ETFs.

The absolute portfolio works like an absolute return fund. It can consist of all equities, all bonds or all cash and aims to provide strong absolute returns whilst trying to reduce downside risk. But there’s no short exposure to protect against market falls: the portfolio doesn’t invest in short (inverse) ETFs.

And the long-term portfolio acts like a traditional pension fund, with a broad diversification of asset classes which change as circumstances do. It has a long-term bias to real assets, which include equities, and the portfolio’s target is based on a composite of equity and bond returns.

Miller says that a combination of ETFs and ETCs in three portfolios ensures “we don’t fall into the trap of investing in anything that is simply cheap but with no return.”

And the returns of all three have been encouraging. The absolute fund has seen 33.9 percent returns since inception on 8 June 2009, compared with its benchmark, the IMA absolute return sector, which has returned 13.2 percent. The long-term fund has gained 40.8 percent since its inception on 8 June 2009, compared with a 33.8 percent return from the IMA mixed investment 40-85 percent shares sector return. Finally, the bond fund has seen 14.0 percent returns since its inception on 1 June 2011, while the IMA global bond sector has returned 5.4 percent over the same time period.

Key To Success

Miller says that many of his firm’s competitors seem to choose their index funds purely on the basis of reported cost rather than balancing this against the expected return from the particular asset.

He adds: “ETFs used sensibly in a disciplined manner offer the opportunity to reduce the risk in terms of overall volatility, of a portfolio.”

The business model at SCM seems to follow clear rules: transparency, ETFs, ETCs and no exchange-traded notes.

“We don’t invest in ETNs because we believe the standards of protection for investors are far higher within ETFs and ETCs,” Miller said.

The firm also doesn’t invest in leveraged ETFs or short ETFs because of the higher risks and costs associated with them.

But Miller does have strong views on product structure and looks very closely at every fund in terms of counterparty risks, which includes securities lending or collateral in synthetic funds. “Any synthetic funds we hold are required to be at least 100% collateralised on a daily basis,” he says.

Despite this he dismisses the emerging ETF price war. “Many fund managers building portfolios using index funds seem to either rarely deal, deal too much or become obsessed with the cost without any regard to the underlying return.

“As with many investment products the stated total expense ratio only tells part of the story and ignores many of the other costs or income associated with many investments, for example trading costs, dealing spreads, securities lending, and so on.”

There is a focus at SCM on making small, evolutionary changes to the portfolio most months rather than violent and large changes, which tend to take on extra risk, says Miller.

“When we make changes they tend to be contrarian. The more uncomfortable it feels, the better it normally is.”

The SCM business model is also clear cut when it comes to fees and what investors can expect to pay.

Direct clients pay a set management fee with no extra charges for administration or custody. The standard annual management fee is between 0.5 per cent and 0.75 per cent a year, plus VAT. If the investor puts a larger sum of money in, then the fee drops to 0.3 percent to 0.5 percent, plus VAT.

Any other costs affecting an investor, such as estimates of dealing costs and changes in the total expense ratio of an ETF are also published and updated monthly.

Gap In The Market

Performance and a clear business model are only half the story at SCM. Miller set the company up because there was a gap in the market for this type of business aimed at private investors.

“We felt that private clients get the worst of everything. They tend to be charged the highest fees for the worst performance and the worst service, despite the fact that they (the private clients) normally show the greatest loyalty,” says Miller.

And investors are cottoning on to the concept of portfolio investment with ETFs and ETCs.

“We have seen a significant increase in demand in the last month or two, notably from direct clients and IFAs. However smaller charities and pension funds, no doubt due to antiquated advisers, are reluctant to embrace the modern age of investing and the powers that ETFs can provide. The pipeline of interest is the highest it has ever been,” he said.

A minimum direct investment at SCM Private will set investors back £250,000 and clients have their own accounts at Pershing Bank, an arm of Bank of New York Mellon.




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