Hyperion Asset Management (Hyperion) is a client-centric, alpha seeking business; our primary objective is to protect and grow your capital investment over the long-term through our philosophy of investing in the highest quality businesses. Our approach has resulted in above benchmark returns for our clients over the long-term. Hyperion has been successfully managing listed equity portfolios for clients since 1996 and currently manages approximately $6 billion on behalf of our clients, including $0.5 billion in internationally listed equities.
Economic outlook and portfolio construction
When economic conditions are favourable most businesses are able to do well and in the short-term, portfolios containing average and low-quality firms may well have strong performance. However, over the longer-term there are both upturns and downturns in economic cycles, sometimes for prolonged periods of time and in the longer-run, returns of portfolios containing average and low-quality businesses suffer. Prior to the GFC, many below average businesses steadily grew their earnings, often assisted by financial leverage. In reality, the earnings and the associated share price appreciation produced in these buoyant economic conditions were illusionary and not sustainable in more modest economic conditions.
Hyperion aims to maintain a portfolio of stocks that are robust and resilient even in downturns and difficult economic environments in-order to maximise long-term returns to clients. The investment processes of Hyperion are designed to weed out average and low-quality businesses allowing the investment team to focus their research efforts on only high-quality businesses that are positioned to sustain and grow even in harsh economic climates. For example, Hyperion’s portfolios have been stress tested and significantly outperformed through difficult economic conditions such as the GFC and European debt crisis.
Over the past decade, since the GFC, economic conditions have been subdued. In recent years, global growth rates have been improving after a long period of expansive monetary and fiscal policy has inflated asset prices and reduced unemployment levels. More importantly however, the long-term macro-economic outlook is for continued low levels of economic growth globally. Compared with the strong economic conditions the global economy enjoyed in the six decades between the end of WWII and the GFC, the long-term growth outlook is modest at best. We believe the world is likely to continue to experience low inflation, low growth and low interest rate conditions for decades to come.
The key structural headwinds impeding the economic growth outlook include; ageing populations, high consumer and government debt levels, rising levels of inequality in most developed countries, the increasingly disruptive impacts of climate change, artificial intelligence (AI) and robotics. Under these low growth economic conditions, it will be difficult for average businesses to thrive or even survive; whereas high quality businesses are the last to be affected by difficult economic conditions and are ultimately positioned to take market share. Businesses with structural tailwinds, innovative cultures that can adapt to and drive change and sustainable capital structures (i.e. strong balance sheets) have a significant advantage over average and low-quality businesses.
What characteristics do high quality businesses have that gives them an advantage even in economic downturns?
Three key characteristics that the investment team seeks when identifying high quality businesses are:
- Proven structural growth (tailwinds);
- Innovative cultures; and
- Low debt levels.
Proven structural growth (tailwinds)
Businesses that have structural growth tailwinds, include those businesses that can grow by utilising disruptive technologies that are the cause of fundamental change in industries. Lower quality businesses tend to be those that are enmeshed in old technology, are unable to recognise and/or respond to disruption and are beholden to economic cycles. These businesses are either unwilling to accept change or not in a position to quickly or efficiently transfer to the disruptive technology. As such, these companies lose market share: an outcome that is likely to be detrimental to longer-term survival and a problem that increases in magnitude in a low growth economy. In contrast to these lower quality businesses, the Hyperion investment team looks for firms that have created products with strong value propositions that have the potential to expand addressable markets and take revenues away from traditional competitors. Examples of portfolio firms that have successfully disrupted industries and have structural growth tailwinds are Amazon in the retail sector; Alphabet in media and advertising; and Paypal in the payments sector.
In order to position a business to recognise and benefit from disruption and structural change it needs to have an organisational culture that embraces innovation. The Hyperion investment team views high quality firms as having a culture of innovation. This culture needs to be observed through the whole of the business from top management down. Examples of things associated with an innovative culture would be: (i) senior management’s understanding and insight regarding the influences of change on their product and market; (ii) appropriate investment in research and development; and (iii) creation of environments structured to encourage an innovative workforce (e.g. Google’s campuses built to facilitate “smart creatives”). These are just some of the characteristics the Hyperion investment team seeks when identifying high quality businesses. Furthermore, senior management needs to be able to convert this culture into a successful commercial reality.
A strong balance sheet
The Hyperion investment team view high quality firms as having low debt levels. The reason for this is that shareholders in firms that have low debt levels are less likely to experience binomial outcomes during difficult economic times. Having low debt levels affords businesses the ability to make decisions without the threat of liquidation if the business goes through periods of adverse change or low growth.
These are just three attributes the investment team at Hyperion considers when researching companies. We look for structural growth, innovative cultures and a strong balance sheets when identifying potential new investments but we also focus on ensuring the companies in the portfolio maintain these attributes over time. We believe that in a low growth, low inflation and low interest rate environment these three attributes are critical characteristics of high-quality businesses. By investing only in the highest quality businesses, we aim to protect and grow your capital investment over the long term.
Mark Arnold (Chief Investment Officer) and Jason Orthman (Deputy Chief Investment Officer)
The information in this document was prepared by Hyperion Asset Management Limited “Hyperion”, (ABN 80 080 135 897 AFSL 238380) of Pinnacle Investment Management Limited AFSL 322140 for the specific wholesale investor it is addressed to. The information is not intended as a securities recommendation or statement of opinion intended to influence a person or persons in making a decision in relation to investment. Hyperion believes the information contained in this communication is reliable, however, no warranty is given as to its accuracy and persons relying on this information do so at their own risk. Past performance is not an indicator or guarantee of future performance. This document is provided to the recipient only and must not be copied or passed on to any other person without the consent of Hyperion.