Threadneedle American Crescendo Fund

A different way of looking at ideas

Originally published in the July 2007 issue

“Our portfolio’s kind of boring,” says Threadneedle’s US hedge fund manager Mike Corcell. Working New York hours in London, he is spending his lunch break with The Hedge Fund Journal just as most of the City is emptying for the day, but it is something he thinks is an essential part of the hedge fund culture within Threadneedle, particularly if the firm’s US long/short capability is going to be taken seriously by investors.

“Our portfolio’s kind of boring,” says Threadneedle’s US hedge fund manager Mike Corcell. Working New York hours in London, he is spending his lunch break with The Hedge Fund Journal just as most of the City is emptying for the day, but it is something he thinks is an essential part of the hedge fund culture within Threadneedle, particularly if the firm’s US long/short capability is going to be taken seriously by investors.

In 2003 Corcell arrived at Threadneedle with a view to helping the UK fund manager to launch a long/short US equity product. He was well-qualified for the job, having previously worked at $2.5 billion Karsch Capital Management. He brought a very different approach to fund management with him. “Previously at Threadneedle they had taken an existing manager on their existing team, and given that person a hedge fund to manage,” he says. “I was the first person they had hired to come in with the aim of starting a hedge fund.”

When he first sat down at his desk, the Threadneedle US team was following a very traditional approach to money management. It tended to stick within UK trading hours, for example. “There’s a certain intensity level of hedge funds that is different from traditional money management,” Corcell points out. “We had to make some changes.”

Corcell is very specific about the differences between running a long-only portfolio versus a hedge fund. Yes, there’s the short side of the equation to worry about, but the clients can also be very different as well. There’s more of a focus on day-to-day and monthly performance, for example. It’s not something Corcell himself necessarily enjoys, and like many other fund managers, he would prefer investors let the money managers get on with their job.

“A different way of looking at ideas”

“Unfortunately people want no down months, low volatility, double digit returns, and to have it be in a very, very smooth, straight line, which is very difficult to do,” Corcell explains. “There are outside forces from the client perspective that are very, very different and involve a lot more pressure than traditional long-only money management. We saw it at Threadneedle with our European fund and our UK fund: when you drop a hedge fund into a long-only environment, there’s a little bit of a turnover on the headcount side, a step up in intensity in the day-to-day management of money, as well as a focus on the short side and absolute returns. It is a different way of looking at ideas rather than simply asking whether something is the best thing to own in the market.”

One of the most basic tasks facing Corcell’s team every day is the management of the net position. For 99% of long-only funds, that decision never needs to be made. The changes Threadneedle underwent in order to build its European hedge fund capability were replicated when Corcell came about with the intention of launching a US fund. “It’s very important for the client to know that we made a lot of changes when we started this fund,” he says.

Having launched the fund and built the internal US long/short capability, Corcell still had to prove his credentials in the market. Certainly, his Karsh pedigree helped (working for Michael Karsch, himself a Soros veteran), but one big question still had to be answered. Why was Threadneedle managing its US hedge fund in London? “A lot of people who tried it before, I’m not sure they dedicated the time, the resources and had a similar level of intensity to make it work,” says Corcell.

Threadneedle seeded Corcell’s US Crescendo Fund with $15 million of company money, and was able to withdraw that seed capital after three months. Subsequent growth of the fund has been slow and steady, rising from $5 million to near the $250 million mark today. Still, part of the challenge back in 2004 was convincing the investment community that what was at issue was process, not location.

Corcell’s team now boasts eight people, including a trader dedicated to the US market, and one of Corcell’s former Karsch colleagues, analyst Sam Morley. Gone are the UK hours – now every day half the team works US hours. Corcell thinks the change in culture has made a big difference, and does not feel he is conceding anything by not sitting in an office in Wall Street, or Greenwich CT for that matter.

“We are by virtue of where we sit in Threadneedle, a very important player in the London money management community,” he explains. “We get tremendous access to managements and analysts here. The team on average has someone in the States once a week visiting companies. In terms of companies, we see a lot – it’s the best place I’ve been in 12 years on the buy-side, in terms of one-on-one access to the management. Clearly if you want to see a lot of companies just doing a presentation at the Plaza Hotel, and read their annual report, New York’s a better place.”

From a firm perspective, Threadneedle runs over $130 billion out of its London headquarters, and its US equities team is considered one of the more important in the City. It represents over half of the EBITDA of parent group Ameriprise, for example. “To the extent that resources are available on the sell-side, they’re available to us,” Corcell comments.

But it’s also nice to be an arm’s length away from New York and Connecticut, and the so-called hedge fund mafia crowd that seem to get involved in each other’s trades.

With the markets so much more inter-connected than ever before, the Threadneedle team has an overnight advantage versus US-based competitors. When they get into the office in the morning, they have more time to evaluate overnight events before US markets open: it gives them time to react in detail to news coming out of Asia.

“It’s not as much about putting on trades before the market opens,” says Corcell. “Even at our size, there’s not that much advantage being taken before markets open, but it’s more about if something that happens overnight in China is moving markets, or big news on the energy front.”

He cites an example of a ‘wobble’ coming out of Europe when Morgan Stanley issued a call to its retail investors to sell Europe across the board on the basis that the markets were looking over-bought. Managers waking up in the US had less time to react to that than the Threadneedle team, who had been watching it happen all morning in London.

Investment strategy

Corcell says he treats investors’ money the same as his own. With 90% of his net worth invested in his own fund, he can’t be accused of not putting his capital where his mouth is. He knows that different allocators have different views about the extent to which a manager should be invested in his own fund, but he hails from the school of thought that considers it absolutely critical. “I treat all my investors the same way as I’d want my money treated – making sure it’s all still there at the end of the time period.”

Corcell’s team takes a fairly defensive stance towards investing. “First and foremost, my view on a hedge fund is you should always have a call on your capital,” he says. “We have a one year duration, so hopefully you’d be able to take your capital out whole after one year [in the fund]. On top of that we’re trying to deliver a double digit return, hopefully something that will be better than the alternatives.”

Trading frequency on the portfolio tends to go up in periods of time where performance is faltering. In the short run, Corcell and his team give the market credit for being correct. His process is to try to be right more often than wrong over time, a percentage game based on probabilities of making good money rather than focusing on significant trades. The emphasis is on ensuring one trade or theme does not dominate thinking on the desk, as this will give it the potential to undermine performance if it goes against the manager.

When the fund started, there was a bigger impact from hot issues and IPOs, leading to a 19% annualised return historically, although Corcell figures 15-16% net is a better estimate based on how the portfolio is currently being invested. Most of his clients are more comfortable with returns in the mid-teens, he says. “One more year like this, and we’ll have doubled investors’ money in four years, which has always been a goal for me. We’ve got a return which is 500 plus basis points ahead of the S&P with a seven vol and…statistically speaking we have almost no correlation to the market, take on less than a third of the volatility, and have a better return than the market.”

Another unusual aspect of the Threadneedle fund is the number of short positions it runs. When we spoke with Corcell he had 30 long positions, and 50 short. He likes to think he runs a real short book: it is very labour intensive, but he considers it a core part of his strategy. For starters, it allows the US Crescendo fund to provide more linear returns on a monthly basis. With the markets flat to down over four months, the fund has still been able to make money. It has been more challenging to keep this up over the past nine months, due to the high level of activity private equity funds have brought to the market, but it is not something Corcell sees himself giving up on. He considers it a core part of what a hedge fund should be able to offer its client base – it is not simply about good and consistent returns, it’s about making money when the market is down.

“Underlying, there is probably slightly less in actual themes [in the short book], but with private equity activity in the last nine months we’ve taken more of a basket-type approach to our short book simply because there is so much single stock-specific risk from take-outs,” he explains.

For example, the fund has been short the casual dining sector at different price points for the past two years: back in 2005 it might have had two names short at 200 bps each, now it will have four at 100 bps each in an effort to manage the volatility and the take-out risk.

On a sector basis, Corcell likes to think he understands his limitations and those of his team, and consequently has steered clear of healthcare and biotech. He recognises that funds need specific scientific expertise to really make capital work in these sectors. The hiring of Alex Robarts by Threadneedle 15 months ago has allowed Corcell to start investing in the financial services sector. “It’s taking me a lot of time to get comfortable with him in order to put capital to work, but he’s done a good job,” he says. “We really are only smart enough to know all the things we don’tknow, and have no edge on, and are just not comfortable in putting shareholder capital in those areas. It takes a lot of pressure off from a style perspective – we don’t feel much pressure to diversify, to get involved in areas we don’t know enough about.”

The strategy will avoid anything in the small and micro cap markets, really focusing research activities in the mid to large cap space. Even with $250m invested, there are liquidity constraints to bear in mind.

Getting it right

“What’s typical of a lot of our investments is that we have valuation as a back-stop, where we feel really good about the business, and understand where the cash flows are coming from,” says Corcell. “Hopefully we’re not paying much for a few different ways to win in the investment. It’s a microcosm of the way we view the hedge fund world: if we don’t get it right, hopefully we’re not going to lose too much money, and if we do get it right, there’s a clear path to good returns in that individual investment and for the fund as a whole.”