Mark Arnold, Managing Director, Lead Portfolio Manager & Chief Investment Officer, Hyperion Asset Management
Jason Orthman, Lead Portfolio Manager & Deputy Chief Investment Officer, Hyperion Asset Management
Hyperion’s mission is to protect and grow our clients’ capital sustainably over the long term.
Since the business was established in 1996, we have successfully protected and grown our clients’ capital. The trust that we have built with our clients and other stakeholders over more than two decades, and their belief that we can continue to achieve our mission in the future, is the key reason that Hyperion still exists in the ultra-competitive and globalised funds management industry. A track record of long-term alpha (excess returns above a relevant benchmark) is rare and valuable. It provides objective and verifiable evidence to third parties that we have a philosophy, process and structure that exploits inefficiencies in equity markets. It also provides the clients and other key stakeholders the confidence that we can continue to add value longer-term.
The key elements of our mission are to:
1) protect client capital; and
2) grow client capital over the long term.
We seek to construct and manage share portfolios that are designed to protect our clients’ capital first and then grow that capital over the long term. We call this “protect and grow” and it is fundamental to how we analyse businesses and construct portfolios.
1) Protect Capital
We view risk as a permanent loss of capital at the portfolio level, not the volatility of market-based returns. We believe traditional metrics such as beta, Sharpe ratio and tracking error have limited inherent value in assessing the risk, quality and structural growth embedded in a portfolio of stocks.
Permanent loss of capital is where the underlying intrinsic value of the portfolio suffers a permanent decline that is so material that it is unlikely to be recovered in real terms. We do not believe a large decline in the market value of the portfolio during an economic or market crisis is a fundamental risk, provided the long-term intrinsic value of the portfolio remains intact and the share prices and the market value of the portfolio are likely to recover. We believe you cannot predict short-term share prices consistently, but you can take advantage of these share price movements by comparing them to the long-term intrinsic value of the related business.
We protect client capital by only investing in businesses that have high quality attributes, including strong value propositions, sustainable competitive advantages, innovative creative cultures and large addressable markets. These elements, together with our proprietary portfolio management system that sets stock weights based on risk adjusted long-term forecast returns, help protect clients’ capital. Our portfolios comprise a group of well selected stocks that have both the quality attributes we seek and trade at a significant discount to their estimated long-term intrinsic values.
Our portfolios are defensive in nature because they comprise listed businesses that are robust, resilient and have significant long-term structural growth. The long-term earnings growth of our portfolios should not only be higher on average than their relevant benchmarks, but they should also be more resilient to economic shocks. Potential customers become more discerning in difficult economic conditions, and in turn they drive accelerated market share shifts towards better value products during these periods.
In difficult economic and market circumstances, clients tend to be more focused on capital protection. It is during these challenging periods that it becomes more obvious who has taken extra fundamental risk, because higher risk businesses tend to suffer more in depressed economic circumstances.
“Only when the tide goes out do you discover who’s been swimming naked.” Warren Buffett
2) Grow Capital
Over long time periods, we expect our portfolios to produce total returns after fees that are well above the returns of the relevant equity benchmarks. This has been the case since 1996, and all three of our products (Australian Large Cap, Australian Small Cap and Global VSG) have achieved substantial alpha after fees since their inception.
We have successfully achieved long-term attractive returns through varied economic and market cycles. This includes both the generally strong economic conditions from 1996 up until the GFC in 2008 and in the more difficult economic conditions since.
Sustainability and “long-termism” are core to our philosophy. We are long-term business owners that buy the highest quality companies in the relevant investable universe. We do not buy stocks with a particular exit strategy in mind. When we buy a listed business, we ideally want to own it over the long term and benefit from sustainable growth in its positive free cash flows.
Over time, the businesses in our portfolios tend to compound their sales at double digit rates. This strong underlying structural growth also results in double-digit earnings per share (EPS) growth for our portfolios over extended time periods. Share prices tend to follow the long-term earnings trajectory of a security. Alpha accrues as the compounding EPS growth at the portfolio level exceeds the EPS growth of the benchmark.
The businesses in our portfolios typically can grow their underlying revenue organically even when the overall economy is stagnant or shrinking. These businesses generally have addressable markets that are much larger than their current revenues, and they also have attractive products and services that many potential customers have not purchased. Thus, the raw underlying demand for the company’s products or services is much larger than the current ability of the business to supply that product or service.
We believe “good things happen to good businesses,” such that the intrinsic value of the best listed businesses should be able to grow at double-digit rates over the long term. Through innovation, long-termism and R&D, these businesses have significant embedded positive optionality in their long-term future free cash flows. Thus, not only do we purchase businesses at prices significantly below their intrinsic values, but we expect these intrinsic values to increase over time.
Hyperion’s Values and Beliefs
Our core belief is that portfolios managed in a disciplined manner in accordance with Hyperion’s investment process and philosophy will produce attractive investment returns over the long term.
Our six core values are summarised as follows:
1) Research driven, not marketing driven
Our organisational culture is research driven and investment led. We are not a marketing or sales-based business. Hyperion exists to produce attractive levels of alpha after fees. Our primary focus is stewardship of our clients’ capital, not salesmanship.
We are an alpha generating rather than an asset gathering organisation. Most of our current funds under management (FUM) is from investment returns including substantial long-term alpha, with client contributions representing a minority of FUM.
We believe in growing our FUM primarily through compounding capital not gathering assets. Our staff are heavily invested in Hyperion’s products so that both the staff and clients benefit from this alpha generation over time. The Lead Portfolio Managers’ financial incentives are primarily based on rolling five-year alpha.
2) Evidence based; merit based
Fundamental research and understanding are central to how we invest. We invest based on knowledge and evidence. We do not speculate or chase short-term momentum. This relates to our mission of protecting and growing clients’ capital and to our long-term investment approach as business owners. We complete a standardised detailed research report and financial model for every stock in our universe. The vast majority of stocks do not possess the characteristics we are seeking, and we remain disciplined not to deviate from our process. In every investment decision we make, we try to be rational, objective and employ relevant evidence.
3) Think long-term
We think and invest using a long-term framework and process. Our investment process and proprietary portfolio management system are designed to generate long-term alpha. It is difficult to overstate the importance of a long-term framework for decision making. Our portfolio turnover levels are low. Our stock name turnover is typically around 10%, meaning on average we will hold a stock for 10 years. We also expect our staff to take a long-term view regarding how they act, make decisions and direct their energies within the business.
We believe that short-termism is pervasive across the active funds management industry. Hyperion fights this short-termism in many ways, including our mission, values, beliefs, our structured investment process, the way the investment team is structured and the way the business is managed. Everything we do has a focus on the long term and sustainability of the value that we create for our clients and other stakeholders. Our investment team members are always expected to take a long- term view when guiding their decision making and behaviour. This is reflected in our remuneration model, with the key element being potential equity ownership for key long-term contributors.
4) Alpha focused
We know Hyperion only exists because clients believe that we can generate future excess investment returns over the long-term. It is long-term alpha that we seek to achieve for clients, not short-term alpha through trading activity. “No Long-term Alpha, No Hyperion.”
5) Business owners, not share traders
We invest in listed equities with a long-term business owner mind set. We do not seek to make short-term trading-based profits. When we buy a stock, we are hopeful that we will end up holding that business in the portfolio for decades. We do not buy stocks with a view to an exit plan or some catalyst to realise a short-term profit. We believe this an important point of difference where many market participants say they are long-term investors but have high portfolio turnover and a trading-based mindset and culture.
6) Collective First
We focus on the collective group of stakeholders and place clients and the firm first and ourselves as individuals second. A group should be able to out-perform an individual, but only if the collective functions well as a team.
Hyperion’s values are centred around our belief in the inherent worth of investing our clients’ capital with the mindset of long-term business owners. We are not interested in investing in most listed businesses, because these businesses have poor long-term economics. We believe in investing exclusively in the highest quality modern businesses within our relevant investable universe. These high-quality businesses have structural growth and superior economics. We believe that high quality structural growth companies are typically undervalued by markets and that creating a portfolio of these businesses will result in attractive returns over the long term. Our investment process includes our standardised research template (report), standardised financial model and proprietary portfolio management system. We believe if we execute this process well as an investment team, we have the framework to create portfolios that protect and grow our clients’ capital over the long term.
Meaningful long-term alpha generation (after fees) is incredibly rare and is thus valuable to our clients. Hyperion has demonstrated an ability to generate long-term alpha since its establishment in 1996. Provided clients and other stakeholders believe that the portfolios Hyperion creates have the attributes that protect clients’ capital and produce sustainable, attractive long-term returns, then Hyperion will continue to exist and thrive.
This note has been prepared by Hyperion Asset Management Limited (‘Hyperion’) ABN 80 080 135 897 AFSL 238380.
The information is not intended for general distribution or publication and must be retained in a confidential manner. Information contained herein consists of confidential proprietary information constituting the sole property of Hyperion and its investment activities; its use is restricted accordingly. All such information should be maintained in a strictly confidential manner. Unauthorised use, copying, distribution, replication, posting, transmitting, publication, display, or reproduction in whole or in part of the information contained in this communication is prohibited without obtaining prior written permission from Hyperion.
This note is for general informational purposes only and is only intended to provide a summary of the subject matter covered. It does not purport to be comprehensive or to give advice. The views expressed are the views of the writer at the time of preparation and presenting and may change over time. This is not an offer document and does not constitute an offer or invitation of investment recommendation to distribute or purchase securities, shares, units or other interests to enter into an investment agreement. No person should rely on the content and/or act on the basis of any material contained in this document. Any potential investor should consider the relevant PDS before deciding whether to acquire, or continue to hold units in, a fund.
Past performance is for illustrative purposes only and is not indicative of future performance.
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