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With Emerging Markets, Has Freewheeling RWC Partners Hit a Wall?

London-based RWC has grown by recruiting top investment talent from other firms rather than pursuing certain markets or strategies.

For London-based RWC partners, which has built its business around luring exceptional money managers away from larger firms, it was a windfall.

This spring RWC gained 16 investment professionals and $1.6 billion from Everest Capital, whose global fund suffered big losses after the Swiss National Bank removed its cap against the euro in January, at odds with the Miami-based hedge fund manager’s assumption that the Swiss franc wouldn’t rise.

Everest announced that it was shutting six of its seven funds, leaving its highly respected emerging- and frontier-markets team looking for a home. This group found itself in demand by several firms thanks to the unusual situation: Everest was allowing co-heads John Malloy, 49, and James Johnstone, 43, to keep their investors, assets and teams. At Everest, Malloy and Johnstone managed long-only and long-short vehicles with no Swiss franc exposure. (Johnstone’s frontier-­markets strategy beat the MSCI Frontier Markets Index by about 5 percentage points last year.) In April the pair joined RWC with most of their crew.

“We hadn’t been actively searching for an emerging-markets team, but we have always believed emerging markets is a fascinating area,” says RWC chief executive Dan Mannix, whose firm launched four new funds to replicate those previously managed by the Everest team.

RWC now houses 11 teams that work independently, without a CIO, on a variety of unconstrained strategies. The $11.5 billion firm’s rapid growth over the past several years has hinged on recruiting talent — typically, individuals rather than teams — wherever it can be found. RWC does not target specific markets or asset classes. But given emerging markets’ troubles, its latest hiring suggests a potential drawback of this freewheeling approach.

The firm’s 56 investment professionals also cover U.S., U.K., Japanese and global equities, as well as convertible bonds. Four fifths of RWC’s investments are long-only, with the rest in long-short strategies. Its two biggest funds are the $1.91 billion RWC Global Convertibles Fund, a long-only vehicle, and the $1.41 billion, long-short equity RWC Europe Absolute Alpha Fund. RWC opened a Miami office for the ex-Everest team and is establishing an outpost in Singapore. The deal pushed its U.S. client base from 6 percent of total assets to 8.5 percent.

RWC made a similar team move before: In 2012 it bought Hermes Focus Asset Management from U.K. telecommunications giant BT Group’s pension fund, acquiring 12 staff and the firm’s long-only European Focus, Japan Stewardship and Specialist UK Focus funds.

Malloy, not surprisingly, finds the RWC model to his liking. “Our investment process and philosophy has been the same,” he says. “We weren’t joining a company where James and I would be answerable to the CIO and where there would be endless meetings about exposure to emerging and frontier markets.”

Chetan Ghosh, CIO of British energy company Centrica, which shifted its pension fund’s £75 million ($117 million) investment in frontier markets from Everest to RWC, endorses Malloy and Johnstone’s move. Since Centrica allocated to the Everest team in early 2014, “the performance has been very good,” he says, adding of Johnstone, “What he does particularly well is to focus on the names below the radar.”

Johnstone points to Nigeria, where his long-only, $167 million RWC Frontier Markets Equity Fund has a “very limited” investment. “The Nigerian stock market became very expensive in 2012 and 2013, with some consumer stocks on price-earnings ratios far above where they should have been,” he explains. “We’re very cautious on the consumer sector in Africa in general.”

Johnstone has avoided costly and well-known multinational stocks such as Unilever Nigeria, which in mid-­August was trading at 148 times trailing earnings. He’s more enthusiastic about a lower-profile name, Pakistan’s United Bank, calling it “a prime candidate to benefit from the fact that supply-side reforms are pushing down inflation, bringing down interest rates and creating demand for credit from companies and middle-class families.”

Freedom is a key reason other top managers have come to RWC, says CEO Mannix, 38, who started at the firm back in 2006 as head of business development after working in the same field at J.P. Morgan Asset Management in London. Stars who have joined since then include Ajay Gambhir, who arrived from JPMAM a year after Mannix to establish a European long-short team.

RWC, which managed less than $4 billion in 2011, owes much of its growth to clients that followed managers to the firm. Pension funds account for 30 percent of its assets, with 28 percent from financial advisory firms and 19 percent from private banks. U.K. and other European clients represent 42 percent and 43 percent, respectively.

How much freedom do RWC’s managers have? All of the firm’s funds are unconstrained: They’re not managed against benchmarks, so there’s no notion of tracking error. Malloy notes that the active share of his long-only vehicle, the $36 million RWC Emerging Markets Equity Fund, is typically close to 90 percent, referenced against the MSCI Emerging Markets Index. (RWC’s emerging-markets strategy accounts for $777 million in total, including segregated accounts.) A fund that completely mimicked the index would have a zero active share; a fund with no stocks in the index would have a 100 percent share.

RWC’s £150 million UK Focus Fund returned 73 percent for the three years ended in July, compared with 38.3 percent for the FTSE All-Share Index. Its $246 million Japan Stewardship Fund gained 190.7 percent during the same period, versus 139.5 percent for the Topix index. The RWC Global Convertibles Fund has had a mixed showing, with a 27.7 percent return, slightly lower than the 29.8 percent for the Thomson Reuters Global Focus Convertible Bond Index, which some of the bond fund’s investors use as a reference point.

“Rather than trying to chase up investment fads, we find a better way to increase the sustainability of the business is to focus on people,” Mannix says.

Still, should RWC try to avoid deeply unfashionable investment strategies? Emerging-markets equities have suffered volatile performance as investors have balked at real and imagined economic and political crises. Net outflows were $27.25 billion this year as of August 6, according to U.S. data provider EPFR Global — almost as high as the $28.56 billion for all of 2014.

Mannix believes in emerging markets’ long-term potential and says he leaves it to Malloy to fill in the details. “Valuations are low,” says Malloy, citing P/E ratios as cheap as 5 for the Russian market. “Overall, growth is slowing down, but five, ten, 20 years from now, these economies are going to be larger and richer.”

Other specialists echo the argument in favor of taking a long view. “Why go for such a volatile asset class when you could have made the same return on cash?” asks London-­based Tim Love, an emerging-markets equity fund manager at GAM, an arm of GAM Holding, a Sf124 billion ($128 billion) asset manager. “The answer: time frame.”

Emerging-markets equities escaped the shadow of the 2001 tech wreck very quickly, Love says. From September 2002 through mid-August of this year, the MSCI Emerging Markets Index returned 225 percent, compared with 156 percent for the S&P 500 index.

When it comes to frontier markets, Johnstone cites the benefit of diversity. “A day like yesterday shows the uncorrelated nature of frontier markets,” he says of July 27, when China was down 8.5 percent but Vietnam gained 0.7 percent. “Even when emerging markets are very weak, a frontier market can be up for completely different reasons.” •

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