Finlabo SIM illustrates how a boutique investment manager, based in the Marches region of Italy far from any major financial centre, can outperform global firms with large teams on the ground in financial hubs.
Finlabo’s daily dealing UCITS emerging market equity long/short strategy, Finlabo Investments Sicav – Dynamic Emerging Markets, made 17.2% in 2021 and received The Hedge Fund Journal’s UCITS Hedge performance award for best risk-adjusted returns in 2021, in the emerging markets (long/short equity) category.
We believe that we are exiting a ‘growth bubble’ in stock markets, which was like the one that happened in 1999-2000.
Alessandro Guzzini, CEO and Founder, Finlabo
Over longer periods, the strategy has also outperformed indices such as HFRX Emerging Markets, and long only emerging market equity indices, of which the Hong Kong ‘H’ Share index is probably the closest fit for the long exposure. The long book outperformed the global MSCI Emerging Markets Index by an average of 2.3% per year between June 2012 and December 2021, while maintaining a much lower volatility.
Finlabo’s emerging markets and Finlabo’s US equity long/short strategies, were both launched in 2010, building on the success of the firm’s flagship long/short equity fund, Finlabo Dynamic Equity. With a track record of over 15 years focused on European markets, Finlabo Dynamic Equity is also widely recognized as a leading performer in its category, receiving many awards since its inception.
There is also a dynamic allocation strategy that allocates across both long/short equity and corporate and sovereign debt. All four compartments are housed in a UCITS V Umbrella SICAV structure overseen by the Luxembourg regulator. Finlabo itself is authorized and regulated by Banca d’Italia and CONSOB.
Finlabo’s daily dealing UCITS emerging market equity long/short strategy, Finlabo Investments Sicav – Dynamic Emerging Markets, made 17.2% in 2021
The firm’s two key investment professionals deploy their 20 years of experience to build quantitative models and apply limited discretion to the investment process. CEO, Alessandro Guzzini, who founded Finlabo in 2005, has an engineering background and is also an adjunct professor of finance at Polytechnic Marche University. He is a member of the Guzzini family, which has owned for many decades an industrial group spanning lighting appliances to household products. CIO, Maurizio Scataglini, who joined in 2010, previously worked as a financial analyst at UniCredit Corporate Banking.
Finlabo’s three equity long/short strategies share a common investment process, which picks single stocks for the long book, uses variable amounts of equity index hedges on the short book, and takes some active views on the degree of currency hedging. The objective is to maximize alpha while controlling volatility.
Finlabo’s proprietary quantitative models and software employ a blend of fundamental and technical inputs to select stocks, based on absolute and relative measures from financial statements, earnings momentum and share price momentum. The Fundamental Score rating between one and ten is based on financial ratios that gauge quality, financial strength, earnings momentum, analyst earnings estimates and profitability ratios. The Technical Stock rating, also between one and ten, is based on the relative strength of technical variables such as trends, relative strength, and overbought/oversold indicators. Taken together, this mix of fundamental and technical analysis feeds into a score of up to 20, which is updated daily. “The models have been fairly stable over Finlabo’s 15 years, though there have sometimes been refinements to factor weights and the investment universe based on internal research,” says Guzzini.
In general, the fund invests in stocks that are fundamentally undervalued and that show a positive price momentum. The key metrics of the long book were a PE ratio below 6 and a dividend yield above 6% as of December 2021. The largest sector exposures in early 2022 are the often value oriented sectors of financials, basic materials and industrials, while the more often growth-oriented sectors of technology, telecoms and healthcare are much smaller. “We believe that we are exiting a “growth bubble” in stock markets, which was like the one that happened in 1999-2000. This is the reason why we prefer sectors like financials, energy, materials, which are still quite undervalued,” says Guzzini. Technology exposure remains limited even after the deep selloff in Chinese mega-cap technology names.
The long book outperformed the global MSCI Emerging Markets Index by an average of 2.3% per year between June 2012 and December 2021, while maintaining a much lower volatility.
Risk management includes liquidity and diversification limits that are in some cases stricter than the minimum required by the UCITS rules. Stocks need a market capitalization of at least $150 million and average daily trading volume of EUR300,000. Single stocks are capped at 1.5% (versus 10% for UCITS rules) while industrial sectors and single country exposures are each up to a maximum of 30%. “In March 2022 the fund had very small exposure of about 0.5% to two Russian equities: Gazprom, which is valued at the last price since suspension, and Qiwi, which is valued at a 50% discount to its last price before suspension,” says Guzzini. “Actually, we think that the real value of these stocks could be much higher, but we prefer to be on the safe side in such cases,” he adds.
The alpha comes from stock-picking and the strategy aims to control volatility through a mix of dynamic beta hedging, varying gross exposure and partial currency hedging. Volatility has stayed below 11%, which is well below the highest volatility seen in emerging or developed market equities.
The degree of net exposure is determined by a trend-following model, which includes momentum, contrarian and volatility indicators, and is used to adjust the size of short index hedges. Short exposure will be smaller in bull markets and greater in bear markets. Net exposure can range from 100% net long to 25% net short. In practice, the range of net exposure has been between a rare and brief spell of 25% net short, and 85% net long, having averaged at 43%.
Currency hedging varies and on average 50-70% is hedged back to Euros. “Some currencies such as the HK Dollar are fully hedged while other such as the South African Rand are 50% hedged as of March 2022. Indeed, in managing currency exposure we aim to control risk while also trying to exploit some market trends. The instruments used are liquid FX forwards and futures,” says Guzzini.
Finlabo estimate that their overall process is 80-90% quantitative and 10-20% discretionary, with some discretion applied to both stock picking and gross exposure management. Sometimes the portfolio is deleveraged to take account of specific events or general market volatility, and this occurred in February 2020 around the Covid crisis.
The Finstation software complex not only manages quantitative models but also carries out performance analysis, technical analysis, compliance and other functions. These models and software are under copyright and are only utilized internally for asset management and for clients. Finlabo research is however available to third parties through different platforms such as Reuters, S&P Global, Il Sole 24 Ore, and FactSet.
Finlabo trades stocks listed locally in emerging markets, including Hong Kong ‘H’ shares, South African stocks in Johannesburg, as well as American Depositary Receipts (ADRs) on the NYSE and Nasdaq, and Global Depositary Receipts (GDRs) in London. The largest country exposures in Asia have recently been China, Hong Kong, Singapore and Indonesia, while Brazil and Mexico were the biggest country weights in South America. “These countries show economic growth and importantly also have well developed financial markets with liquid futures available for hedging,” says Guzzini.
At the moment, Finlabo maintains a positive view for emerging equity as prices are currently discounting a significant risk primarily due to current geopolitical tensions.
The flagship European equity long/short fund, Finlabo Dynamic Equity, has since 2021 obtained the Nummus.info certification, based on the criteria of the Italian Episcopal Conference, which aims to invest in line with the teachings of the Catholic Church. Its inclusion criteria cover social compatibility, ecology and equity while its exclusion criteria cover protecting life; supporting human dignity; supporting economic justice; environmental protection; protecting animals and sustainability of investments. The exclusions are in some sectors quite typical of ESG “negative screening” and indeed, thanks to the Nummus certification, the Finlabo Dynamic Equity is now under article 8 of the EU SFDR (Sustainable Finance Disclosure Regime).
“We do not reject the idea that in the near future we could extend the certification to the rest of our funds,” says Guzzini.