Our Approach

BACKGROUND

In many education facilities around the world, academics teach the EFT (the efficient market theory) suggesting markets are totally efficient at all times. Our experience suggests that markets are often inefficient (particularly in small cap stocks). The fact is, human beings are emotional creatures and that we all have different perspectives on the world, on top of that, information does not always move efficiently nor is it always processed correctly.

Every time two people trade a stock, there is a conflict of views. Someone buys a stock because they think (simply) that it’s going up but the person who sold it didn’t sell it because they thought it was going up they thought (simply) that it was going down or at least NOT going up.  We have two willing share traders with opposing views and this goes on every day…they can’t both be right, indeed they can both be wrong.

In late 2012 I bought shares in Fairfax. While the newspaper business was struggling, FXJ possesed some very valuable businesses including Domain and Trade me. Despite this, the market had chosen to focus on the problems for newspapers and taken an (it seemed) irrationally negative view pricing the stock under 40c. Well below what I considered break up value.  As sentiment normalised the stock rebounded to over $1 with no material change to the business. Emotionally charged market sentiment often provides low risk, compelling value opportunities for patient, rational investors.

Nigel Littlewood (Chief Investment Officer)

 

Our experience suggests that markets are not efficient at all times and that people’s perspectives play a big role in how stocks are priced. Harness attempts to be more rational than the majority when these emotional extremes are influencing share prices.

FLEXIBLE MANDATE

Harness employs a flexible mandate and believes this is critical to support our long term objectives of capital preservation and portfolio out-performance. A flexible mandate allows the portfolio to own cash when compelling value is unavailable, this is usually prevalent in a mature bull market. It also provides the freedom to move within the market to where compelling opportunities can be identified.

The flexible mandate Harness employs, also results in an index agnostic approach. Harness will not buy or sell a stock due to its position in an index, indeed many companies we own, may not be represented in any index.

WHY SMALL COMPANIES?

It is our experience that small companies as a group provide better investment returns over time than their large cap counterparts. Due to the much larger universe of stocks and their lower levels of liquidity, small cap stocks are more likely to be priced inefficiently. They are also more likely to grow faster, get taken over and enjoy significant re-rating by the market. Combined with effective stock selection, we believe small cap stocks provide a good arena for generating investment out-performance.

 FEE STRUCTURE

Please refer to Information Memorandum for full fee structure details but simply, it is intended to align the interests of the manager with those of the client. Too often in this day and age we see structural incentivisation that does not align the interests of an organisation with those of its clients. We have chosen a fee structure that results in the manager profiting when clients make money and creates a disincentive for the manager to grow the fund aggressively via inflows. We see such a structure, as a direct conflict to the interests of clients as we believe the smaller the fund the better its chances of out-performing.

Therefore, we have attempted to choose a fee structure that provides structural incentive for the manager to preserve capital and grow the fund via performance rather than via inflows.

As an added incentive, the manager is the largest investor in the fund (Nov 2014).

HUNTING FOR PINEAPPLES

A Summary

Picture yourself as an early explorer, you have just arrived in a new and strange land. You go ashore to explore and apart from surviving the ordeal, you have one thing on your mind: Fresh food.

Your small group ventures through forests and past exotic plants never seen before. The group eyes a rather dangerous looking fruit with rough skin and spiky leaves. The unappealing outside of the fruit is considered by most as a warning to stay away. Most are dissapointed but one contrarian not influenced by the group, takes a closer look and ventures to crack it open only to find a wonderful sweet rich fruit inside. The person calls it a Pineapple.

The Pineapple is a symbol for the investments we hunt for: shunned by many, our pineapples at first, appear un-appealing but on closer investigation actually represent compelling value.

The four ideal ingredients to a pineapple investment are:

a) Attractive price (Buying on Sale),

b) Great management (Backing Winners) and

C) A compelling business model (Choosing Quality) and finally

D) Identifiable sentiment drivers that can be considered and contradicted.

Not every investment we make may be a perfect “Pineapple”, sometimes we make compromises. However, we do not compromise on our core objective of capital preservation. Nor do we alter our disciplined, long-term value approach to our investing in order to generate out-performance.