From the June 2011 issue of Investment Advisor • Subscribe!

June 1, 2011

Viva la Middlemen

Could the missing piece of the independent advisory model be institutional sub-advisors?

One of best things about being around this industry longer than I care to admit is watching good people succeed and prosper. The folks at Aston Funds certainly fall into that category for me. I first met Stu Bilton, CEO, and Ken Anderson, president, back in the mid-‘90s, when I visited their offices at what was then called Chicago Trust.

At that time, I was very much impressed not only with the matter-of-fact, down-to-earth demeanor that I’ve found to be typical of competent professionals, but also with their corresponding approach of bringing institutional-grade analysis to identifying and monitoring managers for their retail mutual funds. It seemed to me they offered a level of research that the majority of independent advisors don’t have the training or the time to do, at virtually no cost.

Fast forward to a couple of weeks ago, and three iterations from Chicago Trust Funds to Allegheny Funds to Aston Funds, when I had a chance to catch up with Stu and Ken again, to see how things had turned out for them and their novel approach to creating mutual funds for independent advisors. I quickly realized that with many advisors rethinking their traditional approach to managing client portfolios these days, Aston’s funds were more timely than ever—offering advisors a sophisticated, institutional alternative to the buy-and-hold allocation and to the “tactical allocation” which is currently attracting so much attention lately.

Apparently, many advisors have come to the same conclusion: Assets under management in Aston’s 24 funds have more than tripled since November 2008, from $3 billion to some $9.3 billion at the beginning of this year. Their reasoning isn’t hard to understand. Of the 20 Aston funds with enough tenure to be rated by Morningstar, five are five-star funds, and another four funds have earned four stars. Their returns are even more impressive: The ASTON/Optimum Mid Cap Fund posted a yearly 13.13% since ‘94; The ASTON/TAMRO Diversified Equity Fund’s annual returns are 5.77% since 2001; ASTON/Montag & Caldwell Growth Fund has returned an average annual 8.70% since 1994. Even the ASTON/Montag & Caldwell Balanced Fund has returned 7.64% a year since ‘94; and the ASTON/TCH Fixed Income Fund has managed 6.30% annually since 1993.

Rather than the typical mutual fund approach of hiring fund managers and branding their funds, Aston seeks out independent managers to sub-advise their funds. That way, rather then being limited to investment professionals they can actually hire, Aston has a much broader universe of fund managers and institutional managers from which to select “best of breed” partners. Consequently, their fund lineup reads as a Who’s Who of institutional and fund managers. In addition to the sub-advisors mentioned above, Aston also offers funds managed by River Road Asset Management, Cardinal Capital Management, MD Sass Investor Services and Barings Asset Management, to name a few. “We didn’t want to own the managers,” says Bilton. “Then you have to buy into them. You lose your objectivity.”

It’s that arms-length objectivity that enables Aston to make rational decisions regarding their sub-advisors. It’s a perspective that advisors who manage their clients’ portfolios would do well to emulate. For instance, as Bilton and Anderson see it, the most crucial decision in investment management isn’t when to fire a manager; it’s when to stick with him or her.

Aston very rarely “fire” their sub-advisors. “The biggest mistake we see people make is dropping fund managers from their portfolios prematurely,” says Bilton. “They almost always fire the manager at exactly the wrong time. Then the investors get whipsawed: The new manager, who was picked for high recent performance hits the downside of his cycle, while the ‘fired’ manager finally recovers. If you believe in your manager’s investment discipline, his or her performance will eventually come back. Remember how much criticism [Warren] Buffet took during the tech bubble?”

Consequently, Aston sees its relationship with their sub-advisors as a long-term commitment. When they add a new sub-advisor, it’s a partnership that’s intended to last forever, and as you can see from their track record, most of their relationships have been very long-standing. “In addition to a great track record, we also look for a cultural fit with our partners,” says Bilton. “That means they have to have high business standards, and be good people. It’s very much like a marriage: We don’t get divorced much.”

For Aston, believing in their sub-advisors is the key to investing success. Like a good wine, that belief can take a long time to mature. “We look at managers over long periods of time,” says Anderson. “It takes at least 10 years to judge a manager; one or two years is meaningless. Ideally, we want to see how a manager does over a couple of business cycles.”

To gauge potential sub-advisors, Aston’s seven-member investment committee keeps a list of prospective advisors whom they constantly monitor. They also dissect their track records, meet with them multiple times, and talk to people who know them: other managers, advisors, or institutional portfolio managers. “By the time we partner with a manager,” says Anderson, “we’ve known them for years; we’ve watched them, talked to people about them.” At most, two or three funds a year make the Aston grade.

I asked Stu Bilton, after all these years trying to predict who will make a good fund manager and who won’t, how he would boil down the key elements of successful asset management. “The first thing is lots of experience: You cannot learn to manage money from a book. Then, you need to be a student of the business; you need to think about this stuff all the time. You have to live it and breath it. Third, you have to have a disciplined approach. You have to believe in it, and stick to it. And finally, you need the ability to explain your strategy, so advisors can understand it, and will stick with you during the down parts of the cycles.”

Another aspect of Aston’s “institutional” strategy that sets it apart is their support for their sub-advisors (to the point of almost encouraging them)to decide it’s time to close their funds to new investors. Sometimes Aston’s RIA clients aren’t very happy about a decision to close, but according to Anderson, they always come around to accepting it. “Our sub-advisors decide when their funds reach a size that’s beginning to impair their ability to manage them,” he says. “Many of our managers also have large institutional portfolios, so they are acutely aware of the danger of taking on too much money. Our job is to support them in doing the right thing to protect the existing shareholders.”

But despite all the years and expertise required to execute their strategy for identifying good asset managers, both Bilton and Anderson firmly believe the greatest value they add to the investment process is as a conduit for information: Making sure that independent advisors understand exactly what each sub-advisor does—and why—and that they get all the information they need to communicate with their clients.

To my mind, this is the piece of the portfolio puzzle that’s missing in the independent advisory model for managing client portfolios: Experts whose sole job it is to spend 24/7 understanding and collecting information about the folks who are actually managing clients’ money. It’s the level of confidence created by a complete understanding of the managers that enables independent advisors, and through them their clients, to remain invested at the bottom of each cycle, when everyone around them is bailing out—at exactly the wrong time. I can’t help but think how many client dollars would have been saved if Stu Bilton and Ken Anderson had been on the other end of a lot more phone calls during those dark days of 2008 and 2009.

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