Polar Capital

Polar to be taken to the next level by new Chief Executive

Simon Kerr
Originally published in the September 2005 issue

Polar Capital was created in 2001 by the former Henderson technology investment specialists Brian Ashford-Russell and Tim Woolley with backing from Caledonia Investments Plc. In structure Polar Capital Partners Limited is a 8119 majority partner in the venture with Caledonia. Over the four years since its' founding, the investment capabilities within Polar have been broadened by the addition of teams and talented individuals in a range of equity-related investment specialities – see Table 1. for the current range across long-only and hedge fund products. Polar Capital has come quite a long way in that time: gathering $2bn of assets, and a total of 39 employees. Despite this growth the founders and senior management Charles Hale (Executive Chairman) and John Mansell (Chief Operating Officer) recognised that they were not matching their own expectations for growth recently. So it is that they have brought in Mark Kary as the first Chief Executive of Polar Capital Partners to ensure that they can seize the moment commercially. The Hedge Fund Journal went along to find out what impact the new Chief Executive is out to achieve, and how the group is faring at the moment.

The New Chief Executive
Mark Kary was a Managing Director and 19 year veteran of the Private Wealth Management business of Morgan Stanley, for the last four years "running the sales and marketing side of the Northern European business," as he put it himself. So one could probably read what Polar Capital were looking for in selecting to work with Kary, but what did the new CEO see in his new bailiwick to attract him? "Polar was set up by well-recognised portfolio managers with whom I shared a business philosophy, and there was great appeal in getting involved in the further growth of a boutique asset management business. He sees the company as having had a firm base before he came: "There is an impressive platform here, and that had already been created prior to my arrival, so I'm not here to re-engineer anything. My mantra is evolution not revolution."

Kary has a role with three areas to work on. He has been brought aboard to refine the existing growth strategy and implement it, to manage the existing lines of business and people, and to enhance the recruitment process at Polar Capital in order further to be able to grow and diversify the business. His first big impact has been in the last area. "We have 39 employees here, and may eventually have around 65. As we grow we are all very keen to retain the current culture and spirit of Polar, and I'm sure that my experience of building and managing the human resources at Morgan Stanley will hold me in good stead. We are extremely fussy about who is hired here. On the investment side it is essential that anyone that comes in is a good fit with the talent we already have," says the 47 year-old CEO. In particular the firm is keen to avoid hiring someone that is capable of turning into a prima donna manager.

Development of Talent
Medium-term Kary wants Polar to be known to be a place that is associated with the development of talent. He describes two sorts of potential hires. "We want senior analysts or junior portfolio managers in their late 20's or early 30's that are capable of growing into a successful fund manager." It is intended to balance that newer talent with a leavening of more experienced managers that want to work in the sort of environment that has been created at Polar. Kary explains "we have 10 senior portfolio managers here and we want to build that to initially around 20, and both through the recruitment of some additional recognised fund managers and the grooming of younger talent within the various teams"

As much as anything else the CEO of 5 months standing has introduced more process in recruitment. The time taken for thorough recruitment is well-spent as Kary looks at it. "I see this as very much an investment for the future, "he says. "We take the recruitment process very seriously, and once we have identified a compelling candidate, and as part of the process of helping the potential recruit better understand the opportunity at Polar and to ensure a strong cultural fit, we are keen that the investment professionals here also contribute in the discussions." Unusually for a boutique asset management business Kary has introduced the use of search consultants to help identify investment staff. For example he has recently put out a search for a natural resources team. "I'm trying to change the idea that talent just emerges from the ether – that we will somehow happen upon the sort of team we want. I'm a big believer in some recruitment process – first determine the investment strategy we are recruiting for, initiate discussions with a longer list of candidates, from that identify and interview more thoroughly say 5 or10 people – as a result we are hopefully better able to understand the potential options and make the best decision for the business Through search you are outsourcing to a professional in the specific task," maintains the bright-eyed CEO.

Kary is very clear about the sorts of people he expects to attract. "We want talented investment people, those that are going to thrive within a best-of-breed environment," he maintains. But there has to be more to the incomers than investment insight. "They have to fit in here culturally," explains Kary, "plus they have to buy into the business model that we have." The model is based on matching median City salaries as a basic, and then each management team are effectively virtual companies that are joint ventures with Polar Capital. The pay-outs are based on the management fee and the performance fee – an arrangement that is not seen in every asset management boutique. Additionally and importantly Polar has a model that permits management teams after a period of time to convert ownership of their own business into the more liquid shares of the parent company. "We are looking to add from 3 to 5 teams in the next say 18 months," says Kary." It is thought that Polar Capital will securitise the enhanced earnings stream at some point.

Entrepreneurial Managers Welcome
To make the model truly work requires the investment teams that join Polar Capital have to have an extra ingredient. "They must have something entrepreneurial about them to come here," demands Kary. "Whoever comes in with us has to have some interest in developing their business line, and the drive to carry it through." He states that incoming managers should recognise that Polar have never been about maximising cashflows from a single fund, and are willing and able to support new team ventures. "We are prepared to invest in the business even if it means that it suppresses the short-term profitability" declares Kary: "we are building for the long term."

Kary is quick to hand out the plaudits to his marketers director James Brandt, Kate Haslett and Iain Evans: "Sales and marketing have done a fantastic job to get us where we are now." But it doesn't stop there. "My arrival is about taking the business to the next level," affirms the Chief Executive. "For the sales and marketing effort here that means adding to what has already been achieved, and broadening our network of clients into for instance the family office and endowment spaces while developing more strategic and deeper relationships with specific clients. Longer term we may consider further diversifying the client base so that we have pension fund clients and retail clients," he says. "But whatever the source of the capital our attitude here is to be very protective of the margin on which we do business. This is important as all the funds are capped, and we are proud that the business has been profitable from day one."

Looking further ahead, Mark Kary can see Polar going beyond the historic focus on equity, although the firm will continue its focus on fundamental research driven strategies.. He says "although we have historically been in equity strategies in the future we could add funds in FX, or fixed income or commodities. Though having said that, we have not participated in the bull market in credit and fixed income so at this stage of the cycle I don't see us making bond management an immediate priority. We are however intrigued by distressed debt." The more immediate gaps in equity are seen geographically in Europe and the emerging market. "Sectorally I'd like to make the technology expertise here a precedent," propounds the Chief Executive. "I can see us making an effort to add, say, a global consumer specialist fund, or a healthcare specialist fund capability and a Natural Resources Fund."

Growing Earnings and Putting a Multiple on Them
Mark Kary has been brought in to affect change at Polar Capital Partners, but seemingly not a tear . "The owners will be able to assess me after a year, and they will know whether I am succeeding after two years here. For my part I always work in 5-year periods, and ultimately I will be appraised on two measures. My first major target is to grow the earnings of Polar Capital and ensure an attractive multiple on those earnings for the owners. My second target is to ensure that the culture and philosophy that has been achieved here, and that I fiercely believe in, is retained as the business grows to its potential"

As the new Chief Executive sees it the long-only assets are potentially the stickier assets, and can contribute to a higher multiple for a boutique asset management business. As a result, in addition to growing the hedge fund side from its current level of around 40% of total assets, he is keen to continue to grow the long-only business. For example, according to Kary, the Japan funds could operate at twice the current assets under management without jeopardising performance. But Kary is not after out-and-out growth. "While our plans are ambitious, we want our growth to be structured, understandable to the outside world, and not to come at the expense of the culture that has been so successful."

Japanese Equities at Polar Capital
James Salter was the first money manager to join Polar Capital after the founders. His background was managing Japanese equities for mainstream houses (Schroders and Martin Currie), and he joined Polar from Bonfield Asset Management, bringing with him the a long-only Japan fund. Salter has worked closely with portfolio manager Celia Farnon to build up the assets to the current level of over half a billion Dollars in Japanese equities.

The accretion of long-only assets has been fairly steady through the life of the Polar Capital Funds Plc Japan Fund – putting on over $100m of assets for each year after launch in October 2001. The story for the hedge fund is different. It took over a year to reach $50m, then, like the opening of a spigot asstets went up 8-fold in ten months. Assets in the Japan hedge fund stayed above the $230m level until April this year when they dropped $43m in a month to $189m through redemptions (assets peaked at $274m in August last year). There have been net redemptions in each month since. The reason is quite straight-forward. "Investors in hedge funds wanted absolute return, " says James Salter, " and our performance was flatlining in 2004."

The Competitive Environment for Japan Hedge Funds Impacts
The key difference between the period when the Polar Capital Japan Absolute Return Fund was launched and the last year is the competitive background. At the turn of the Millenium there were possibly a dozen hedge funds dedicated to Japanese equities, a year ago there were 90 and there are over a hundred and twenty today. James Salter thinks that part of the fund's return compared to peers is because of style factors. "Our sub-styles were not in favour in the market in the last year or so – we have a mid cap/large cap . bias and we are in the category of having a slightly smaller net-long bias amongst long/short funds. The winners over that time were those with a larger net exposure (larger balance sheet) and those with a solely small cap bias." Salter suspects that the pressures being exerted on funds of funds to improve their own returns to investors would have left the fund of funds managers compelled to weed out even marginal under-performers.

The relative under-performance of the Japanese equity hedge fund has give Salter a reason to pause and re-consider both tactics and the strategic approach. "Tactically we can improve," he says. "Last year we allowed ourselves to be panicked out of positions. We have learned our lessons. So when United Arrows (7606) the retailer was down 10% in a day recently for no real news, before we may have felt forced to close some of our long. Now we might consider adding to it if we still liked it fundamentally."

Beefing Up the Japan Team
The changes are quite significant in other areas. Like a good investor should, Salter has been trying to structure things to allow him to contribute to the team what he does best. His team think that his best contribution is in well-researched long ideas. Such a concentration of activity can only be possible if he passes on some responsibilities, and he hopes to enhance the team in the process. Rupert Kimber joins this month to add 19 years investment experience to the team, and he will also bring a broader universe than Salter has tracked. "I've brought Rupert in to be a heavyweight intellect in the team, a co-manager. He will specialise in a few sectors improving our depth of coverage, but more importantly he will police our research. So for example I downgraded some financials yesterday, and Rupert has the job of making sure all our portfolios properly reflect the long ideas I focus on."

As for Celia Farnon, she is not interested in running a team and she will retain "sole responsibility for long/short portfolio management". This means that she selects and sizes the short positions, but the long positions are chosen and sized by the long only team. James Salter dictates the size of the balance sheet and the net market exposure for the hedge fund, as well as significantly contributing to the Polar Equity List (of stock selections).

The analytical effort is also being stepped up within the Japanese team. Currently there are two analysts, Gerard Cawley in London and Tomomi Morita in Tokyo. Salter's intention is to add two more analysts in the Japanese capital. In common with most Japanese equity hedge fund managers, the thinking is that that there is a lot of room to add value in mid-caps through direct company contact. "We run a research-driven bottom-up process across the firm," says Salter, "and as we want to grow the Japanese side of the business significantly, we think it makes sense for us to put more resource into out research side. This fits in with my observation that the Japanese equity market has become more efficient over the 17 years I have been watching it. It used to be that just under-owning the banks could be worth 3% a year relative performance. Plus there used to be a significant valuation gap between small caps and the rest of the market that is no longer there, so it was a lot easier to make money in the 1990s. We're looking increasingly for under-researched companies where through our understanding of the company we can get a pay-off." It used to be that 15% of ideas were generated in-house, but that is up to 50% now, and Salter sees it as necessary to take it up further still. "I expect us to be coming up with 80-85% of the stock ideas in future. We don't want to have the same ideas as everyone else and we are taking initiatives to bring that about, " he says. "For example we are rapidly getting rid of the brokerage coverage we get from U.S.-owned houses and turning to the middle tier Japanese brokers instead."

Playing the Bull Market in Japan
Salter is of the opinion that it may well be unrewarding to stay in the mindset that served well in the prolonged bear market experienced by investors in Japanese securities since the market peak of 1989. "I remember being told by the old hands when I started in Japan that I should avoid the smokestack sectors, the steel and shipping companies – that these were dying industries. Well they may have been that then and for most of the time since, but like many Japanese sectors they have been through tough times and come out as substantially different companies all these years later. So amongst our biggest challenges in my opinion is to adapt to bull market conditions."

This is not a meremarket view that changes with the wind. Salter is acting on this precept. The addition of analysts is related – "for the market to come you're better off surrounding yourself with untainted analysts; people who have not been drained by the bear market," he says. He also sees the market acting differently to the way it has for the last 15 years. He sees the market as "gently bullish" and described it's progress as "grinding higher." This has implications for hedge funds investing in Japan long/short according to Salter. "Investors are going to have to learn to live with bigger drawdowns from Japanese hedge funds," he predicts. As he sees it, hedge funds should be a volatility play on a market, and the winners in Japan will be those who crank up their model. That is those managers who can successfully vary their net exposure will be among the long term winners as well as those that can generate stock selection alpha in the new environment.

Having in recent months looked hard at resources and process for the Japanese side of Polar Capital James Salter is philosophical about the changes he saw as necessary. "A sense of the long term is important to be a good money manager," he opined. "One of the keys is adaptability. You have to keep evolving to be a top tier portfolio manager – refining your skills. You have to keep on reinventing yourself so you can be effective even as the market changes. Occasionally you have to take the blinkers off and take a good hard look at what you are doing. As I see it you have to look forward 90% of the time in investment management. That is not trying to be two steps ahead. It is important to be just the one stop ahead, because one mustn't be overly intellectual about this business," he cautions. "The important thing is to be rewarded for ideas on a timely basis."

The Next Hedge Fund to Emerge at Polar Capital
The latest hedge fund to be launched under the Polar umbrella is unusual for the firm. Previously the portfolio managers of the funds have been not been the lead managers on a long/short fund. That is not the case for the Polar Capital Global Utilities Absolute Return Fund that starts trading November 1st. Kurt Holmes and Bruce Bromley were both involved in running the Ecofin Global Utilities Fund in London. Indeed Holmes's experience with the hedge fund format goes back further than most of the managers now running hedge funds in London as he has experience at three New York-based utility hedge funds (Angelo, Gordon & Co, Jemmco Capital, and Tiedemann Investment Group).

The second unusual feature, and a mark of the new leadership of Polar Capital under Mark Kary, is that Holmes and Bromley were recruited to Polar through the use of headhunters. Kary is taking a structured and pro-active approach to expanding the strategists operating under the Polar name. For their part Holmes and Bromley liked what they saw at Polar. "The infrastructure here is second to none," says Bruce Bromley, "and I'm pleased to say that it is a lot better operating here than we were expecting." Holmes concurs, "Everyone here is very professional at what they do – the platform for business is very solid."

He enthuses further, "Polar has addressed very well the problems of single manager hedge funds. Very few hedge fund companies have got beyond the point where it is just the original principals of the firm in place. The business model here is good: everyone has the same percentage deal, and everyone has the same degree of control over their business. We, along with all the other teams here, are incentivized on a share option basis. Our own company P&L can be converted into shares in Polar Capital after three years. We share the potential of the Group as well as our own upside." Kurt Holmes felt this quite quickly after arriving in the Westminster-based offices of Polar Capital. "I was shocked that within a few weeks of getting here I received the financial statements (the operating accounts) for each of the teams at Polar as well as for our team. We know what is going on commercially right through the company," he declares contentedly.

The strategy that Holmes and Bromley are implementing, long/short utility shares, is well established in the United States, having started as long ago as 1985. There are at least 15 American hedge funds operating long/short in utility company shares, but the Polar Capital Global Utilities Absolute Return Fund is only the second to have a large non-US component. Bruce Bromley will help Holmes manage the European investments that will typically be half the fund's capital. For those that think that Holmes's tongue-in-cheek description that utility shares are only a low-beta group that "trade in slow-motion" think again. One of the longer standing and larger utility hedge funds (ZLP in New York ) has a track record of a 32% annualised annual return since Sept 1997. The Polar product will be run with significantly less leverage than this successful outlier in the peer group – the target returns are 12-15% with less than 10% volatility. The scope is wide as the companies have the usual drivers of strategy and implementation, but the world of utilities also has the sometimes quixotic element of regulatory oversight. There are 45 different jurisdictions in the U.S. alone, and there is all the state level oversight in the United States as well as the effects of federal energy/power policy to throw into the mix. The managers see this mixture of commercial and statutory operating environment as providing rich pickings for sector experts as they separate the winners from the losers through a thorough a fundamentally-based screening and ranking process.

What Do You Want to Be?
Polar Capital Partners got to a point in its life cycle last year that gave a chance for a re-think of what it wanted to be next. The answer seemed to be mostly the same as it was but larger. New CEO Mark Kary has had an early success in bringing in a seasoned hedge fund management team to manage a long/short utilities hedge fund. The strategy from here is to bring in more teams to bring diversification of mandates, and to develop internal talent into full-blown leading managers. This plan for growth has to be managed whilst keeping an investment culture that eschews extravagant displays of ego. It will be interesting to observe whether the prospect of the mooted securitisation of Polar Capital changes either the pace of change, the ethos of "no big stars here", or the determinedly long-term planning approach.

Polar's Rising Stars in the Next Generation of Portfolio Managers
Mark Kary is hopeful that Polar Capital can become known as an investment house that allows talent to develop and prosper. This is for very good reason: Polar has had some great success giving the chance to the next generation below the founders to run money, particularly in the hedge fund format.

The prime example is that of Julian Barnett who works with Philip Hardy on the Paragon Fund , a long/short fund that invests mostly in UK equities. The fund is a focussed, higher-risk fund run off the same stock-selection process as the Polar Capital Market Neutral Absolute Return Fund. The management cadre at Polar see the way the Paragon Fund has come about and is operated as a great template for younger investment talent that comes in to Polar. Barnett (29 years old) has worked with Hardy (41 years old ) for 3 12 years and he helped run the successful Market Neutral Fund before being given the chance to be the lead manager (working in tandem with Hardy) on the Paragon Fund.

The lead manager of the $157m European Smaller Companies Fund, Rob Gurner, is 32 years old, so confirming that the ascent of Barnett is not an isolated example. Further, the technology gurus Ashford-Russell and Woolley have given a chance to the Asian tech specialist Craig Mercer (30 yearsolds) to shine by giving him sole responsibility to pilot the four year old Polar Capital Technology Absolute Return Fund. The tech long/short fund has become dedicated to Asian stocks to best take advantage of the specific knowledge of the new manager. Mercer took control of the fund on 1st July this year, and has a high degree of confidence invested in him by his seniors.

Q & A with the Founding Investment Specialists of the Technology Team
Brian Ashford-Russell (BA-R) and Tim Woolley (TW) were founders of Polar Capital and run the well-regarded technology investing group at the firm. The Hedge Fund Journal conducted a Q&A session with the pair on their experience as managers of the business.

Did you have any ambitions for Polar Capital when you started?
BA-R: We had idealistic aspirations. We wanted to build a business that people would be proud of working in. We also wanted to remain open-minded about how to run this business, including being willing to listen to the ideas of those that joined us. We knew we didn't want Polar Capital to be dominated by a single person running it, or by the founders. We were very keen for Polar to have a partnership culture. I'd say the four members of the executive (the technology specialist founders plus Executive Chairman Charles Hale and COO John Mansell) have done a reasonable job up to the point where Mark Kary joined us. We started this off not just for monetary reasons. We want to build a real business and create a working environment that we and like-minded people can enjoy.

Why have you brought in a CEO from outside?
BA-R: We had fallen behind on our plan to add two business legs a year. We were about two or three legs behind on that basis. We were operating by carrying out projects in sequence and we needed to be able to carry then out in parallel, and that takes resource that we didn't have. Mark has come in and made a massive difference on the recruitment side. We are now holding more discussions with outside managers and teams than at any stage in the last 4 years.

TW: We were under no illusions about our capabilities of running the company between us with the Management Committee we had. But once you get beyond 30 staff members there is an issue about the internal management of people – you have to have a lot more personnel process, and recruitment was very time consuming for us and we wanted to get back to running money. I'd say you can run with light management up to 20 people in an organisation and after that you get all the issues of internal communication and so on.

Has Polar Capital developed as you expected?
BA-R: You may have an idea at the outset of what investment strategies you want to add, but the availability of talent is the factor which determines what you can do. So our first addition was a Japan specialist (James Salter). The mix of long-only and long/short was what we wanted from the start. One of the surprises of the last four years has been the sources of capital that we have tapped. Far more of our money has come from the United States than I would have expected, and from family offices particularly. The other surprise to me has been the way investing institutions have reacted to the threat of losing staff to hedge funds. They have responded by setting up vehicles with performance-related fee structures that incentivise the managers where they are.

TW: For me the surprise has been that the recruiting process has been a lot more time consuming. We take recruitment very seriously here as the creation of a strong culture is so important to the success of the business. For example, so we first started talking to Mark Kary last Summer but he only joined us in April. We think it is right to spend the time to get the people that fit; the mix of people defines what you are as a business. We have created an exciting place to work, and it is just much more pleasant than being part of a large City organisation.

What have been the positive surprises on how it has gone?
BA-R: I'd say that the people we have got on board has been a big positive: the breadth of talent we have been able to bring in has been very good, and that they have melded together so well. We still have no office politics here. Another area which has gone far better than we feared at the outset has been the operational side of the business. As fund managers, you always tend to be most concerned when moving about those aspects of the investment management business about which you know least. For Tim and I, that meant operations but John Mansell who joined us from Lazard has put together a great team and a very robust platform. We have had absolutely no major problems even though we were all new to the hedge fund part of the business. I think that one of the other big positives for me has been the way in which individuals, given their head, have risen to the challenge. Our Sales and Marketing team have done a wonderful job for us and younger managers such as Julian Barnett (who with Philip Hardy runs the Paragon Fund) have achieved great things with new funds

How has the business model changed here?
BA-R: It has barely been tweaked. It is the same as it was when we started. Given the stage we have got to, the business is not just about investment performance anymore, though obviously you need that. We also need to have a good client servicing capability and to have a robust operational infrastructure, and we have both of those. It is in these areas that the bar has been raised since we started the business.

How do you view sharing equity in Polar Capital?
TW: Because we had specialised in the technology sector we had always looked at entrepreneurial companies, and we definitely wanted to have that element in our own company. It was part of our vision to have an equity culture, like a partnership, that encourages sharing across the teams.

BA-R: I think it is hard to create that "partnership culture" unless you do share equity. It allows us to explicitly recognise the contributions not just of those running money, but also those that bring the money in. So our marketers James Brandt and Kate Haslett have done a job that merited their getting some of our equity, for example.

And a couple of questions on your own area of investment expertise: first, has technology investing become easier or more difficult post-Bubble?
BA-R: Definitely easier: the market is now discerning. At the time of the Bubble technology investing was like throwing darts at a dartboard, and there was not enough rationality. It probably helps that a lot of people have left the arena of technology investing now that the easy money has gone.