3 Questions: Federated Hermes Global Small Cap Fund
“3 Questions” delves into the investment approach used by Federated Investors strategists. This installment features Hamish Galpin, lead manager of the Federated Hermes Global Small Cap Fund.
Q: What is the Federated Hermes Global Small Cap Fund’s strategy?
It’s better to first consider our philosophy, which is that a steadfast focus on a business’ quality leads to outperformance. While the fund invests in smaller companies in developed markets, we do not mandate that a particular country be in the portfolio or do we take significant industry or sector bets. We instead find that searching for companies that fit our high standards is an excellent way to narrow the global small-cap universe (of about 4,200 stocks) using our bottom-up selection process. This allows our experienced professionals in local markets to discover companies we identify as having enduring competitive advantages, a key to generating alpha. The result is a concentrated portfolio of about 50-70 stocks we think will generate above market returns with below market risk.
Our strategy is deliberately long-term, with a typical holding period of three to five years. We aim to capture successful smaller businesses beginning to gain market-share, taking advantage of short-termism.
Q: How do you determine a quality company?
It is a multi-factor approach. As you know, many fund managers describe their products as such, but we systematically evaluate firms on no less than nine separate criteria. Some are standard, such as stability of returns, strong balance sheets, capital and cash flow discipline, and diversity of earnings. Others draw on our proprietary process that weighs and rates a company’s environmental, social and governance (ESG) factors we view as critical to its sustainable growth and competitive advantage in the long run. We achieve this with our team of analysts who meet with hundreds of firms every year—not waiting for ideas or concerns to present themselves.
It is not necessary for any one investment to satisfy all the criteria, but it must come close. We derive a score to balance the quantitative and qualitative elements of the appraisal process, which helps us construct the portfolio.
Q: What is the outlook and positioning for the strategy for the next three to six months?
While we watch trends as closely as any managers, near-term market conditions rarely affect our investment decisions. With the goal of exceeding the return of the MSCI World Small Cap Index on a 3-year rolling basis, our positioning typically doesn’t change to reflect fluctuations or to react to weekly, monthly or even quarterly anxiety-inducing developments. Also, the very nature of investing in different regions (North America, Europe, Australia, New Zealand, Japan, Hong Kong and Singapore) restricts the impacts of events in any single market. Instead, we tend to view volatility—which may well return this year if a global slowdown leads to investor anxiety—as a time to consider new purchases at reduced prices.