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John Armitage and William Bollinger co-founded London-based Egerton Capital Limited in May 1994

John Armitage and William Bollinger co-founded London-based Egerton Capital Limited in May 1994. Since then, the European equity hedge fund management firm has known an unusual success and, after attracting over $400 million in capital within eighteen months, the principals have decided not to take on new assets after January 2nd, 1996. John Armitage, Chief Investment Officer, joined Morgan Grenfell in 1981, became Head of European Research in 1986 and ran the firm's highly successful European Growth Trust from 1988 to 1994. William Bollinger, Chief Operating Officer, started his career in 1980 as an oil services analyst with Goldman Sachs & Co. in New York, worked at Tiger Management from 1984 to 1987 before running his own hedge fund in New York between 1987 and 1992. Egerton Capital runs a US$ and a DM denominated offshore fund as well as a U.S. limited partnership and institutional accounts. For the ten months ending October 31st, 1995, the funds are up approximately 31% net of fees in US$ as well as in DM. The returns are similar because currency exposure is hedged back to each fund's base currency. John Armitage and William Bollinger talked to Antoine Bernheim at the beginning of November, 1995.

Profile of John Armitage

Profile of John Armitage

Born: December 20, 1959 in London
Citizenship: British
Education: Eton (1977), Cambridge (1981)
Languages spoken: English, French
Family: Single but attached
Last vacation: Turkey
Last book read: The Life of Curzon by David Gilmour
Hobby: Reading annual reports
Favorite quote: "If you can fill the unforgiving minute..." by Rudyard Kipling
How he best describes himself: "I have never thought about it"

Q. You are having a great year in a rather mixed European environment with the FT European Index up 6%. Could you tell us where your returns have come from this year?

A. From the beginning of the year through mid-March, we were running relatively low net long exposure (below 70%) and we were flat while the European markets in DM were down 8%. From mid-March through mid-September, we raised our net long exposure and have made money in the market rally when our stock picking paid off. We have had some decent winners in each of the equity markets in which we have been active, on the long side in the UK and in the geographic periphery of Europe, from airlines stocks in Scandinavia to cellular phone companies in Southern Europe. In France, we have tended to make more money on the short side but we have also owned non-institutional names such as Bic or M6, a private television station and Guilbert, a distributor of office supplies.

Q. Could you give us a broad picture on how you view the economic and monetary picture in Europe over the next year and which groups you like?

A. It is important to understand that the macro view is not a driving force in our business. The only reason we look at macro factors is to assess the risk in the overall market environment. If something happens that we do not like, such as currency volatility or interest rate rises, we can react and try to side-step the down period on a tactical basis, to preserve capital. Having said that, we think that in the hard currency markets such as Germany, Switzerland and France, it is going to be tough for businesses to compete with the soft currency-based companies. We see very limited inflation and we think interest rates should be lower. There is more earnings risk now than a year ago due to the recent slowdown and companies we talk to are a lot less confident than a few months ago. As far as industry groups are concerned, there is no particular theme in our portfolio.

Q. How are European companies going to be able to compete with the substantially restructured U.S. corporations?

A. Some of them make products that the world wants, like Gucci which is in our portfolio. There are European companies which have done very well on a global stage, such as Nokia, Christian Dior and Bic. But European companies will have to restructure themselves which many have already started to do as part of a global phenomenon. One of the reasons unemployment is high in Europe is not only that Europe is bad at creating jobs but also that there has already been a lot of restructuring at companies like Philips. We don't particularly want to invest in companies that are cutting costs since we prefer companies with products and services where demand is not just a function of price.

Q. What companies do you find attractive?

A. Our biggest holding is a bank, Standard Chartered, which has interests in Asia, Africa and the UK. We also have large positions in Misys, an insurance and banking software company growing very rapidly on a global basis, British Airways, Invesco, a fund management company, Tybring Gjedde, a Scandinavian distributor of office supply products, Next, a British clothing retailer, Bic, Brembo, an Italian auto parts company, Telecom Italia Mobile and Sandoz. On the short side, we are not interested in shorting good companies which are high because they can always go higher. Our shorts are well diversified and withoutgoing into individual names, they include a utility, a food company, a broad line technology group and a clothing retailer.

Q. How do you pick stocks and could you describe how the research process is conducted differently in Europe vs. the U.S.?

A. I believe that if you are investing with a stock picker, the name of the game is research. I don't believe in accepting money from people and then letting someone else do the numbers and ask the questions. Research is what I want to do myself and what I have always done. I have some inherited knowledge having done this for a dozen years but I rely on the same sources as everyone else such as brokerage houses. I also visit a lot of companies. The key is deciding what to exclude when you structure a portfolio and not deal in shares that are going to generate a mediocre return. A lot of what we do is defensive research work and constant monitoring of companies. The only differences with the U.S. are accessibility and differences in reporting standards. As a result, the European markets are a lot more inefficient which creates opportunities.

Q. Could you describe the typical structure of your portfolio?

A. We are involved in 90 to 100 names. Over time, the gross long exposure ranges between 80% and 130%. Currently, it is about 90% with 75 names. The top 20 names fairly consistently account for 75% to 80% of the equity. Three or four months ago, a few of those 20 names represented 8% or 9% of our equity vs. 4% or 5% today. Our philosophy is to draw from a large sampling but to try to bet on the winners. The short side ranges between 10% and 25% of the equity. Currently, it is about 10%. Even though we are concerned about the earnings environment, we have been taking off some shorts because several of them have already declined significantly. The individual shorts tend to be smaller and represent no more than 2.5% of the equity. We use futures on the short side only, to reduce the net exposure and to lower the volatility of the portfolio.

Q. How do you control risk in your portfolio and what is your approach to cutting losses?

A. I think risk comes primarily from having a non-diversified portfolio and from bad fundamentals at the micro level. The danger with stock selection is to fall in love with your positions. If we lose money on a stock, we call the company and if there is an actual earnings disappointment or some fundamental event, we would rather sell a position and then buy it back if we think we made a mistake. On the other hand, Europe is too volatile a market to follow a pre-set rule for cutting losses. If we are losing money in the aggregate portfolio and we think our stock selection is good because the companies are producing the numbers we expect, we cut the exposure and shrink the whole portfolio.

Q. How is your administration set up?

A. Our administration has been well ahead of the curve in the growth of our business. We are very particular on accuracy and automation. We have three people in the back office, a Chief Financial Officer and two assistants who are very quantitatively oriented. Helen Avery, our CFO, studied physics. One of her assistants studied actuarial sciences and just graduated from the London School of Economics and the other one has an accounting background. We have tried to design the best possible systems with minimum human intervention from trade entry to settlement. We are not traders and are not interested in systems that allow us to value the portfolio throughout the day. What we do want to have is a settlement and reporting system that operates flawlessly. This is particularly important in Europe where settlement dates can range from three days to a month or more across many different currencies. Every time a trade is entered, computer files are created and are sent at the end of the day to our prime broker, Morgan Stanley. Our administrator, Daiwa Europe Bank plc in Dublin also receives our trading details. Daiwa reconciles and values the portfolio every day. We do not do our own P&L or provide pricing input to the administrator. Independent valuation is critical to the confidence our investors place in us. Daiwa and Morgan Stanley have done an excellent job and made an important contribution to our success in administration.

Q. Why did you decide not to take any more clients?

A. We have turned down six accounts in the last year because we wanted to have the most focused, simple business devoting the maximum amount of time to managing the money and the minimum amount of time to managing the business. We decided to close our funds at year-end, for a minimum of six months, because we think it would be good to consolidate at our current asset size and have a business which does not change from month to month. Our goal is performance, not asset growth.

Q. Unlike in the U.S., there have been few very successful European hedge fund managers. Why do you think that is so?

A. People in Europe tend to be less entrepreneurial. Also, U.S. money managers who have set up hedge funds have generally made more money within institutions than their European counterparts and can, therefore, afford to go into business for themselves. In addition, there is more of a barrier to entry here because of tighter regulatory controls. In the UK, in order to run a money management business, you have to become a member of a self-regulatory organization with minimum capital requirements and greater oversight than in the U.S.u

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