About Us
Investment Strategy
Hotchkiss Associates employs a top down investment approach based on the development of investment themes. The firm identifies business sectors which are likely to grow faster than the overall economy over a five year period due to economic, demographic, or other reasons. The firm identifies industry leaders based on market share, the quality of management, return on equity, and a solid balance sheet.
The firm believes that overvaluation and undervaluation of securities stems largely from investor misconception regarding growth prospects and competitive forces within a sector, industry, or product area. Our holistic worldview incorporating macroeconomic analysis and industry specific metrics provides the most efficient platform from which to identify and exploit these misconceptions.
Screening Process
Hotchkiss Associates investment team is responsible for securities selection. The team divides the equities universe into sectors and each sector is assigned to a member of the investment team. To analyze a new security, a team member will perform extensive research and due diligence and will report findings to the full investment team. The investment team members will share their thoughts regarding key growth drivers, competitive advantages, and investment risks. Following the analysis and discussion, the investment team will vote on whether to purchase a security. The industry analyst responsible for the sector will break a tie.
Portfolio Construction Methodology
Having identified a stable of companies across diversified industries, a portfolio manager works with the client to construct an appropriate portfolio responsive to the client's objectives and constraints containing between 25 - 35 equities, representing approximately 10 industries. Cash reserves are a function of investment opportunities and client needs; at most times, portfolios will be fully invested. Portfolio managers regularly review and re-balance portfolios based on the conclusions of the investment team and changes in client objectives.
Buy and Sell Discipline
The team uses valuation models including the dividend discount model and compares pertinent financial ratios. In the end, the firm's discipline emphasizes investing in profitable businesses at prices that are justified by the growth potential. The firm has identified criteria in which a material change would cause the sale of an investment. Those are:
1. The appraisal of the quality of the company's management
2. The market for the company's products
3. The competitive landscape
4. Negative changes in the outlook of the industry
In addition, the investment committee will review and re-vote on any stock where:
1. The PEG ratio is greater than 1.5x industry peers
2. The stock has declined by more than 10% from the prior month's investment committee meeting
Investment Strategy: An Example
Identification of high growth sectors that have been under-researched by other investment managers
In early 2007 we analyzed the alternative energy space because we believed that traditional energy prices would rise due to the combination of industrialization in the developing world, global population growth, inelastic demand, and a dearth of new discoveries and that the growing global consensus on the need for stricter emissions controls would further increase the cost of traditional energy sources. Moreover, we concluded that the alternative energy space was not well understood by either the buy side or sell side community because there had historically been very few publicly held companies whose primary business was in an area of alternative energy.
Industry Analysis
We divided the alternative energy universe into three sectors, biofuels, wind, and solar, and produced a study of each sector using research from government agencies, industry trade groups, the academic community, and securities filings from the small universe of publicly-held companies in each sector.
Sub-Sector Identification
We concluded that the market had significantly underestimated the rate of growth in the solar sector broadly and in particular had underestimated the competitive advantages of the low cost producers.
Company Discovery
We focused our analysis on the lowest cost solar producer because we believed that its proprietary manufacturing process provided a competitive advantage with high barriers to entry, allowing the company to expand margins and gain share over the long term.
Company Analysis
At the time we began our analysis in the spring of 2007, the company was generating de minimis earnings with the result that multiples of forward earnings and EBITDA were ineffective as valuation metrics. Therefore, we built a discounted cash flow model that took price and cost per watt of modules produced, volume of modules sold, and other industry and company specific metrics as inputs. Using these metrics, we estimated a three year revenue CAGR and a five year EBITDA margin expansion supported by our primary research.
Conclusion
Our primary research, comprised of an extensive review of documents from a variety of sources, allowed us to segment the sector, identify the drivers of growth and competitive advantage in the space, determine how each company was positioned with respect to these drivers of growth and competitive advantage, and recognize a company that was trading at a discount to its intrinsic value.
Portfolio Diversification Strategies
Through United Capital, Hotchkiss has access to best in class outside managers across a broad range of asset classes including equity and fixed income investments in international developed and emerging markets, market neutral strategies, commodities, non publicly traded REITs, and structured products. United Capital's investment committee includes CFA™s, CFP™s, and other advanced degree professionals with over 100 years of combined industry experience. This team uses an extensive due diligence process to select, monitor, and replace outside managers.
Financial Planning Process
Setting the Right Course
Every endowment, foundation or pension fund has a Master Plan that includes their trustees' best assumptions about contributions, spending and risk. We believe in a similar approach for individuals and families. At Hotchkiss Associates a Master Plan is a living document that changes and adapts over time, providing you with a financial snapshot encompassing the most current asset values, risk assumptions and funding status of your plan. In simple terms, our goal is to determine whether you are currently on track to meet your future financial aspirations and obligations. Every review meeting begins with an analysis of the plan, and every major financial decision or unexpected change prompts a review of the plan. Your Master Plan becomes the starting point for all other investment and financial decisions.
Step 1. Identifying Your Financial Life Goals
Every one of us wants to meet our financial obligations without compromise, but we also have aspirations beyond our current commitments. Together we'll identify not just your needs but your dreams, and work to establish the spending and savings framework that will let you achieve both.
Step 2. Understanding Your Priorities
For most investors, both institutions and individuals, there are only 5 aspects of their financial life that they truly control. These five levers can also be called the plan assumptions. They are:
- How much you spend
- How much you save
- The timing of major distributions
- How much risk you are willing to take
- How much of a legacy you want to leave for the people or institutions you care about
Step 3. Measuring the Probability of Success
We work with you to balance your priorities, applying these five factors in the process of creating your plan. We examine your ideal lifestyle against your acceptable lifestyle, and guide you in making the right tradeoffs for you, while staying on track to live your One Best Financial Life™.
We use an advanced scenario analysis system to measure the probability of your plan working. This is a scientific discipline which analyzes 1,000 simulations or financial lifetimes using actual market performance dating back to 1929. Included in the simulations are all of the actual bad markets of the last century, as well as scenarios, both optimistic and pessimistic, that have never occurred in market history- but might. The resulting Financial Control Scorecard™ (FCS™) gives you exact historical probabilities of how often in your anticipated lifespan you would have exceeded or failed to reach your financial goals. This analysis gives us a sense of your funding status.
Step 4. Making Adjustments Along the Way
For better or worse, unforeseen events drive the majority of financial decisions that individuals and families make. These events could be external factors like tax code changes or personal factors like an unforeseen illness or inheritance. Using your Master Plan as a guide, you and your adviser can choose to balance and adjust your control factors over time to address the impact of these events. We start every meeting by reviewing your plan assumptions with you to assure we are still on course.
Implementing Your Master Plan
Once we have established your plan, there are three key steps for implementation:
- Identifying the right custodian
- Deciding on the most appropriate investment solutions
- Applying those solutions
As part of United Capital we have an open architecture investment philosophy, meaning, in plain English, that we will always recommend the best managers and investment vehicles our research team can identify- no matter who offers them. The United Capital analysts are constantly reviewing fund managers, ETFS and other investment vehicles to find the best solution available for a given strategy or market sector. We utilize that information and the access to outside managers United Capital provides to complement our traditional strength in the US equity and bonds markets to create diversified investment strategies that fit your life's goals. With your Master Plan as a foundation, we build your Investment Policy Statement (IPS). The IPS outlines your current targeted overall asset allocation, the overall target risk profile and any specific investment areas you would like to include or exclude. Whenever there is a change to your overall risk profile or goals, your IPS is adjusted.
Step 1. Asset Allocation
Working with your target asset allocation, which would typically include bonds and stocks from the US and around the world, we determine what role alternative investments like emerging market equities, High Yield bonds, commodities, or market neutral strategies should play (if any) in diversifying risk and return. As your Master Plan evolves over time your allocation should shift as well, and our process is designed to be flexible enough to implement those changes as seamlessly as possible.
Step 2. Implementing the Allocation
The allocation can be implemented with Separate Accounts, Hedge Funds, Mutual Funds or Exchange Traded Funds (ETFs), and we work with you to determine which combination of managers and investment vehicles is most appropriate for you. We objectively allocate across asset classes including non-traditional or alternative investments to manage your risk and try to invest in a way that keeps you well diversified for all market conditions. The combined research team of Hotchkiss and United Capital analysts screen and research the universe of available investment alternatives to find the best way to implement your personally tailored asset allocation.
Step 3. Oversight and Reporting
Keeping you on top of what is happening and understanding what your portfolios are doing is crucial to giving you the comfort and control you need. We have state of the art reporting that consolidates all of your holdings into one simple statement no matter where those assets are managed. That information is updated daily and is available to you at any time.
Client Scenarios
Scattered Assets
Our client came to us with a dispersed collection of stock brokerage accounts, an IRA at a mutual fund company and bank investment accounts. It was becoming difficult for the client to manage their assets and how much risk they were taking overall.
The Hotchkiss Solution: A Hotchkiss investment manager was able to combine the various reports into a single customized combined portfolio that he and the client use to discuss the client's real overall wealth and market exposure.
Market Volatility
Short term concerns were making a client increasingly uncomfortable. Diversification was the answer, but the client did not want to realize capital gains from selling some concentrated low-cost stock positions in order to reinvest.
The Hotchkiss Solution: A Hotchkiss investment manager worked around the low-cost positions to create a more diversified equity portfolio, and used index funds and exchange traded funds (ETFs) to add even more asset diversification, addressing the client's concerns about volatility while still providing potential growth in retirement savings.
Trust
The client was uncomfortable with the constant turnover of personnel and questioned the independence of the adviser's investment offerings. The firm also charged complicated layers of fees with little explanation, regardless of their personal situation.
The Hotchkiss Solution: The client was able to share her goals, needs and concerns and develop a long-standing relationship with her new Hotchkiss investment manager. Hotchkiss offered her independent investment advice free from any conflicts of interest. She also appreciated Hotchkiss' straightforward fee schedule which clearly aligns the interests of the firm with that of the client.
We take the time to craft the financial solutions that are right for you.
Since 1970 Hotchkiss Associates has provided professional, confidential investment advice to individuals and families, charitable organizations, and the retirement plans of privately held companies. Our goal is to develop long-term personal relationships with our clients to best understand their investment needs.
From our offices in Chicago, our advisors manage portfolios for clients in 19 states and 3 countries. We currently manage or advise clients on over $1.0 billion in financial assets in over 250 separate portfolios.
Finances change. Families change. Life changes. At Hotchkiss Associates, we'll keep listening.