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Alternative Market Briefing

Welton set to launch ESG quant strategy

Thursday, May 28, 2020

Basil Williams
B. G., Opalesque Geneva:

Basil Williams talks to Opalesque about Welton's new quantitative hedge fund, Welton ESG Advantage fund, due to launch in June 2020. The fund has a core active ESG equity strategy as well as a diversifying trend strategy as an overlay.

Williams joined Welton Investment Partners as president in March 2019, after more than 30 years of experience both as an investment manager and an allocator at Concordia Advisors, Mariner Investment Group and PAAMCO.

He will be one of the speakers in the upcoming webinar: How Quants Achieve Material Improvements in ESG Investment Performance, on June 18th.

Opalesque: What is the rationale behind the fund?

Basil Williams: To me, the asset management industry has grown in a bunch of silos of product offerings. In the equity space, you had value equity, growth equity, emerging market equity; in the fixed income space, you had high yield, investment grade, and bridge loans. Everyone tries to perfect their silos. Investors trying to build portfolios were selecting from these various building blocks.

I have learned from experience that investors want outcomes. And the ideal outcome is, when the markets are in a bull phase, their returns keep up with the bullish returns. And when the markets go into a bear phase, their assets are protected. They want to have that switch: run with the bulls and hide from the bears. That type of product is the holy grail, or the killer app of investments.

Welton has a long history of building portfolios that do very well during a crisis. They use multi-asset classes to provide absolute asset return, with key downside protection, low correlation with equities and credit, and negative correlation during periods of contraction.

The question I asked myself is, can we improve upon this, can we take this into the equity market, such that not only do we have absolute returns but we also have equity-like returns. And then, can we use technology based on my time at Mariner Investment Group (one of the first hedge funds to provide ESG ratings), feed it in, and filter our portfolio based upon the preferences that ESG investors would typically have.

At the end of the second quarter of 2019, I started looking into integrating Welton's stock selection and trend-following capabilities in a single product. We started working on this in the summer and found the results very interesting.

That was initially the rationale: can we take a responsible portfolio and produce better outcomes with it. Many investors like ESG but need better returns. So here we look at, can we both do right and do well.

Opalesque: This is also good timing. ESG is the future of investment.

Basil Williams: ESG investing does mitigate some equity risks.

There are companies that are bad actors and that go through an event, whether it's environmental, labour, or governance-related, which tags them as being a bad actor and affects their stock price. If you have a diversified portfolio of stocks, and because of their low ESG ratings, they may have such so-called idiosyncratic events.

Within the ESG space, the problem is that most ESG funds are long-equity funds and therefore, while they may be reducing idiosyncratic risks, they are still left with the systemic market risks.

We did research and found 62 responsible funds either in mutual or ETF form, with more than $100m in assets and more than a 10-year track record. We compared their returns to the S&P's. Of those 62 funds, only five matched or exceeded the returns of the S&P over the last 10 years. Most were long-only equity, some active, some passive. During the global financial crisis, during the 2018 market volatility, and during the first quarter of 2020, these five funds did beat the S&P by 100 to 200 b.p. But broadly speaking, during these crises, the portfolios were down 20%.

Opalesque: And the systemic risks are what Welton is targeting in the new fund?

Basil Williams: The question we asked was, can we integrate Welton's technology into an ESG-filtered equity portfolio that would use the same quantitative engines to select, put together and create a portfolio that produces the alpha in the stock selection and helps modulate the risks based upon the market environment, both from quantitative signaling on the equities side and from the integration of these diversifying systematic trend programs that form the basis of our flagship.

That is the product's design. It speaks to a need in the market: returns are not beating the markets and we're still taking a lot of systemic risks in the building of these portfolios.

Opalesque: What tools do you use in the strategy?

Basil Williams: We're using three things: (1) a quantitative stock selection on a filtered portfolio of ESG-preferred equities; (2) return forecasts to help modulate through time the market exposure the equity portfolio takes; (3) we integrate a momentum-based diversifying strategy, which in this case is the Welton Trend Strategy, to create the uplifts in absolute return and more importantly to provide downside protection during selloffs.

Opalesque: What about your ESG selection criteria?

Basil Williams: We use third-party ESG data. Our primary data provider is Arabesque, a London-based ESG alternative data house. They will participate in the June webinar. They have a very integrated approach: they take non-financial data from companies, data from NGOs, and they use natural language processing AI to search over 30,000 media sources globally for corporate activity with respect to any of their environmental, sustainable, or governance metrics. The data is assessed for its relevance, then put in a metric for scoring. Then they create a score for more than 7,000 companies, updated on a daily basis.

Opalesque: What is your universe?

Basil Williams: We have a US universe and a European universe. Each starts with 500 companies, the largest and most liquid ones. Then we screen them using the Arabesque analysis. We also feed data from another group called ISS. We screen data down to a target portfolio of 300 to 350 names. We do not provide independent checks to the Arabesque analysis.

Opalesque: How will you manage the current investment landscape?

Basil Williams: We are obviously launching during a high volatile market where the economic outlook is highly uncertain. The beauty of the portfolio we are building is that it's not just passive long-only. It is assessing the economic outlook and the company forecasts on the one hand, using our technical factors, and then we are also integrating the diversifying hedge strategy that's built into the portfolio. So if we get into an environment where we have another downturn in the markets, the hedging strategy will protect the equity side of the portfolio.

Given the current momentum signals that we are getting from the market, the equity portfolio won't be fully invested from day one.

Opalesque: What are the assets under management? And your expected returns?

Basil Williams: We will be launching in June with a minimum of $25m. The program's back-test, using the models that we have, has annualised more than 12% over 15 years, with a 14% volatility. We are targeting 10-12% returns.

Welton Investment Partners is a privately-owned, alternative asset management firm that uses advancing quantitative investment techniques, co-founded by Dr. Patrick Welton in 1988. It has $846 AuM and offices in Carmel, CA and New York City.

Don't miss Opalesque's webinar on Thursday, June 18th, at 10 am EST: How Quants Achieve Material Improvements in ESG Investment Performance.

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