Scott Welch might just be the best-connected gatekeeper around. His list of former colleagues reads like a wholesaler’s fantasy team.
There’s Evan Ratnow, head of fixed income selection at Citi Private Bank. Jonathan Barbato, head of manager selection at Geller Family Office Services. Dmitriy Katsnelson, director of investment research at Bronfman E.L Rothschild. Dan Trosch, who recently joined United Bank Wealth Management as a senior portfolio manager and Chris Maxey, senior portfolio manager at Steben & Company.
And those are just the guys he trained.
Welch’s role in shaping a generation of professional buyers dates back to before his current firm – the aptly named Dynasty Financial Partners, where he is chief investment officer (CIO) – to a small Washington D.C-based Registered Investment Advisor (RIA) called CMS Financial Services, which he joined in 1998.
When he arrived it had $350 million of assets. Just 10 years later, renamed Lydian Wealth Management and then Convergent Wealth Advisors, it had $8 billion.
But it was not just its assets that had grown. During this time, the firm had gained a reputation within the RIA community for the quality and depth of its manager research, technology and reporting and in 2006 this part of the business split from the advice side to become an outsourced services firm for RIAs, called Fortigent.
Welch was head of investment research and strategy at Lydian and then CIO at Fortigent. He oversaw a team, many of whom have gone on to head manager research functions elsewhere.
Although clearly proud of what this group achieved, Welch claims no credit for their current success.
‘I was fortunate to work with an amazing group of people, both in the whole firm and specifically within my research group,’ he says. ‘We punched way above our weight in the terms of the quality and the quantity of the work we did, relative to our size. That wasn’t me, that was them.
‘And one of the things I am most proud of is that every one of those guys who has worked for me over the years has gone onto very successful careers at other shops. That is primarily about them. It is something I am very proud of.’
He is also keen to point out the work of those he joined at CMS, Steve Lockshin, Jamie McIntyre, Nathan Sonnenberg and Matthew Peterson.
But that was then. Having served two years of a three-year contract following Fortigent’s sale to LPL in 2012, Welch decided it was time for a change. After a period of gardening leave, in which he took cooking classes, indulged his love of Shakespeare and watched his daughter complete her senior year and son his freshman year in high school, Welch returned to his roots at outsourced services firm Dynasty.
He says of his time out: ‘I was able to watch my daughter dance and my son play lacrosse and soccer. It’s a beautiful thing. I was able to be there for those very important times in their lives.’
Dynasty has 40 teams of advisors using its services, who collectively have $20 billion in assets under management.
As CIO, Welch oversees the firm’s recommended list of around 120 managers, its model portfolio proposition, its investment committee and will work with advisors on individual client strategies if asked to.
‘My role as CIO is to make sure advisors have the tools and resources they need to run their portfolios however they chose.'
Dynasty by numbers
*Assets belong to Dynasty member firms not Dynasty.
The four Ps
The firm practices what it preaches in terms of outsourcing and uses three strategic partners to assist with fund due diligence. It uses Callan Associates for long only research, Atrato Advisors for hedge funds and limited partnerships and iCapital Network for private investments.
But final sign off remains with Welch.
‘When we run our model portfolios, we are picking managers and making allocation decisions. Regardless of who our strategic partners recommend, any manager that goes into a Dynasty model portfolio also has to be reviewed and approved by the Dynasty investment committee,’ he says.
The firm runs four main model portfolios:
- capital growth;
- fixed income;
- real assets;
- volatility managed (alternatives).
There are then four or five risk categories clients will fall into that decide the level of exposure they may have to any the asset class-based models. However, the firm can also tailor portfolios to use specific vehicles depending on clients. For example, it can create a portfolio of passives for less wealthy clients and one including separately managed accounts and limited partnerships for the more wealthy.
Although Welch says the firm does not think there is a right or wrong to active versus passive, acknowledging that they can work together and that each will perform better in certain cycles, he says it does have a predisposition to truly active management.
‘Active management is hard and it’s really hard to do consistently. Given the proliferation of passive strategies in the marketplace, managers whose performance tends to track plus or minus the benchmark over time are probably not worth paying active management fees for,’ he says.
‘So our predisposition, if we can find it, is for managers who tend to run more concentrated higher-conviction portfolios. They are probably going to be a little more benchmark agnostic. So, you might see fairly large deviations from the benchmark over short periods of time, but over full market cycles those managers have shown they can generate significant outperformance because they have shown they know how to pick stocks.’
An example of a fund that has these qualities is the Polen Large Cap Growth strategy, which Dynasty added to portfolios after changes to the management team at a US large-cap fund previously used by the firm.
‘Polen runs a momentum-oriented, very concentrated portfolio of 25-30 stocks. Although this sometimes causes short-term volatility relative to its benchmark, over full market cycles it has performed very well,’ Welch says.
He adds: ‘There are some asset classes where we are just not crazy about the exchange-traded funds. So, even if it is hard to find great managers, we would prefer to use an active manager. Emerging markets and high yield would be examples.’
The firm follows the four Ps of manager selection: people, philosophy, process and performance. Very much in that order.
‘If you don’t like the people then the analysis stops there,’ Welch says. ‘If we are comfortable with the people, the philosophy and the process, then the performance will follow.
‘No strategy works all the time. There will also be certain market regimes where a given manager’s philosophy is not working or is out of favor, but if you remain confident in the people, in their philosophy and process, you can be fairly patient with performance in periodic downturns.’
An active future
Given many active managers, especially those running large-cap US equity funds, have experienced a continued downturn in performance as they fail to beat a bull market more cheaply captured by passive offerings, how patient are Welch and Dynasty prepared to be?
Not only does he back the firm to have found an active large-cap fund, very concentrated with just 30 stocks, which will outperform over full cycles, but Welch also believes the equity bull run may be running out of steam and that active managers may yet shine again.
Having said that, he kicks off with a big old caveat.
‘I have been wrong about this for almost two years now,’ he laughs. ‘My opinion is that there’s a growing disconnect between equity market valuations and underlying fundamentals. A big part of what is driving the increase in prices of equities is that there is no alternatives so flows keep coming in. I am not saying that the equity rally is not real, I’m just saying there is a growing disconnect between values and fundamentals.
‘We’ve had an earnings decline for a while and the earnings growth that is happening is in many cases a function of financial engineering. Prices are heavily influenced by stock buybacks and increased dividend payouts, and while those are perfectly legitimate tools, at some point there needs to be growth in revenues.
‘If I’m right, and I’ve been wrong for a while, then at some point we will have reversion to the mean and if and when that day comes, that is when you would expect to see active managers drive outperformance again.’