by Mark Dampier
The two largest funds that Neil managed at Invesco Perpetual, both income funds, were so successful over the years that they led him to having more than £33 billion in aggregate to manage by the time he left the firm. That was comfortably more than any other UK equity fund manager17 has ever had to look after, and the surprise in some ways was that his performance never seemed to suffer as a result, contrary to the conventional industry wisdom that most funds can become too big to manage.
Although I had owned one of Neil’s funds at Invesco Perpetual, I was more than happy to switch all my holding into his first new fund, the Woodford Equity Income fund. What I like about Neil’s approach is his refusal to obsess over short-term performance or to tinker with his investments all the time, two of the afflictions that go a long way to explain why the majority of funds disappoint and fail to beat their relevant benchmarks.
One of the sectors Neil has been most positive on in recent years is healthcare and pharmaceuticals. At the time of writing, around a third of the portfolio is invested in this area, including in large companies such as AstraZeneca and GlaxoSmithKline. They are held both for their potential to pay attractive dividends and ability to discover new drugs, which could boost future profits. He has also been a big investor in the tobacco sector for many years. Imperial Tobacco and British American Tobacco both feature among his top ten investments. The fund yields around 4%.
While the majority of the fund is invested in larger companies, Neil has also demonstrated his commitment to long-term investing by holding a number of smaller companies that need funding to grow. He is particularly interested in the drugs and technology businesses that are spun out of ground-breaking university research labs. These companies are the main focus of his second fund, the Woodford Patient Capital investment trust, launched in April 2015.
RIT Capital Partners
RIT Capital Partners is an investment trust, rather than an open-ended fund. There is no equivalent unit trust or OEIC. RIT was set up by Lord (then plain Jacob) Rothschild in 1988, after he split from the famous family firm. Its investment trust has one of the best performance records of all investment trusts over that period. It is a multi-asset vehicle that is managed in the careful, relatively conservative way that you would expect from someone with Rothschild’s wealth, wisdom and experience.
The portfolio is split between listed, unquoted and other types of asset. Specialist analysts and fund managers look after the different components, but Lord Rothschild himself takes an active role in overseeing the balance of the portfolio. As an investment trust, the price of the shares does not always trade in line with the net asset value. In fact, RIT usually trades at a small premium, but if you are patient you may be lucky enough to buy in when it is trading at a discount, as it does from time to time. (In 2014 I was able to take advantage of the shares drifting to a 10% discount to top up my holding.) The dividend yield hovers around 2%, so this is primarily a capital-growth fund.
I regard it as a core holding that offers both long-term growth and some measure of protection during market downturns. I don’t own many investment trusts, but they are particularly valuable when they offer something that you cannot replicate so easily through an open-ended fund. They are also particularly suitable for managers pursuing a strategy of investing in relatively illiquid assets. Property investment trusts are a good example, and RIT another.
Lindsell Train Global Equity
Lindsell Train Global Equity is a highly concentrated fund run by Nick Train and Michael Lindsell, a management pair we as a firm rate highly. The duo adopts a unique investment approach which has led to a long history of outperformance. I believe Nick Train and Michael Lindsell are exceptional stock-pickers and I view owning this fund as an excellent way to access their best ideas. Their company, in which they continue to hold the majority of the shares, also manages standalone UK and Japanese funds, although there is considerable overlap in their holdings.
My analysis suggests that stock selection has been the key driver of their returns. The Global Equity Fund was launched in 2011 and performance has been helped by a healthy weighting to the consumer goods sector, one of the strongest performing sectors over recent years. As value investors, the fund managers have a relatively conservative investment approach, which tends to come into its own in falling markets. Historically, tough market conditions have been where they have tended to add the most value.
What I like about the Lindsell Train approach is that they very much aim to run their clients’ money as they would run their own. They also adopt a long-term, low-turnover investment strategy, which my experience suggests is one of the keys to sustained strong performance. They particularly like companies with wonderful brands, franchises and unique market positions, which can reward investors handsomely over the long term. This is essentially the same approach as that favoured by the legendary American investor Warren Buffett.
The fund looks for conservatively financed companies that produce a high and stable return on capital, and with a higher-than-average operating margin. Out of the MSCI World universe of 1,700 companies, only 180 of them qualify on their criteria as great companies, and are mostly to be found in industries such as consumer goods, asset management, packaged foods and specialised finance. Nick likes to point out that people will probably still be drinking beer made by Heineken, one of his favourite companies, in 300 years’ time. That is not something you can yet say about Facebook or in fact any of the relatively new technology companies. The fund itself has a highly concentrated portfolio of 25–30 stocks, a third of which come from Japan.
My ISA investments
The biggest investment in my ISA – around 40% – is made up of the shares I own in Hargreaves Lansdown. Next is the Woodford Patient Capital Trust, two Marlborough small-cap funds, then the M&G Optimal Income, Newton Asian Income and shares in Provident Financial. The HL shares have been gradually accumulated through the company’s save-as-you-earn schemes and have since matured. This highlights two important points: (1) the value of regular savings, especially in schemes such as save-as-you-earn schemes, which allow you to accumulate shares in your company at attractive prices and in reality very little in the way of risk; and (2) using an ISA to shelter both capital gains and income really does work well over the years. If I had owned my HL shares outside an ISA wrapper, I would be facing a huge capital gains tax bill if I ever sold them.
Too many people dismiss the annual allowance for save-as-you-earn schemes as being too small. Yet, as this example shows, the cumulative effects of using it can be huge, especially if the shares rise strongly in the meantime. Have I too much in one company? The answer an academic would give you is yes, but my defence is that in this case it is a company I know a lot about!
After this, my next largest holding is Woodford Patient Capital Trust which I bought at the time of its flotation. Neil Woodford is a fund manager I have known for over 20 years, and his Equity Income fund is a big holding in my SIPP. He has always had a huge enthusiasm for early-stage companies that may be little known and need help in financing and long-term capital. It is an area in which surprisingly few fund managers participate. This fund has no obligation to pay out any income, which does not make it a natural fit with my general preference for income generation. However, I am hoping for some great long-term capital gains from this holding. As for the other largest holdings, the Marlborough small-cap funds and Newton Asian Income also feature in my SIPP, and the only other holding I would highlight is M&G Optimal Income. This is a popular strategic bond fund where the manager Richard Woolnough makes calls on the direction of interest rates, currencies and bond yields.
Recent changes to the portfolio
It is important not to weigh down your portfolio with the costs of excessive trading. My philosophy in any event is to buy and hold the majority of my fund holdings for the long term. Although there will be periods of disappointing performance from some of the funds I own, I tak
e the view that the best fund managers, if you can find them, will always make back more in the future than anything they may lose in the short term. So I can afford to be reasonably phlegmatic about the need to make changes. Sticking with your favourite funds also reduces the impact of charges and trading costs on your fund’s value.
There are exceptions to my general minimal changes rule, of course. When a fund manager like Neil Woodford leaves his current firm, although this does not often happen, I have few qualms about following them to another home. In other cases there may be cause for concern about a particular fund manager’s form and appetite for the job, which justifies phasing out their funds from the portfolio. Although it is very well-paid, managing a fund is also a demanding job, as the pressure to perform can be intense.
The key question then is: has the fund manager still got the appetite for the hard work involved? Has he become the victim of his own success and perhaps begun to believe his own propaganda about how good he is? I can think of a couple of examples in the last few years that have prompted me to sell out of a fund completely on these sorts of grounds, but in general it is a rare occurrence – as indeed it should be if you have put the effort into doing your homework at the outset.
I am more inclined, as I mentioned before, to make more gradual shifts in the funds I own in my SIPP and ISA. This is typically done by using the income from existing holdings to build up positions in other funds that I either think have potential at the time, or which fit better with my changing objectives. So, with the need to generate income for retirement more in my mind now, I have been adding to my holdings in the HL Multi-Manager Income Growth Trust. I also added some more units in the Marlborough Multi-Cap Income Fund after a temporary dip in its performance. And I invested in Giles Hargreave’s Marlborough Nano-Cap Growth Fund when it was launched.
Spending time on the portfolio
How much time should you spend looking over your portfolio and measuring its performance? That is a good question. Personally I don’t spend a lot of time analysing the performance of my portfolio in great detail. That is partly because I live with the business every day of the week. Keeping an eye on the way the markets move, and seeing regular updates from my team on which funds are doing well, by now I have a pretty good feel for how well I am doing without having to measure it precisely. I know how much money I put in to my ISA and SIPP as the year goes by, so it is fairly easy, just by looking at the total value of each portfolio, and mentally deducting the amount I have put in, to get a rough idea of how well I am doing.
Another factor is that with a relatively mature pot of savings, I am now pretty well-diversified and I am not expecting spectacular gains from one year to the next. My primary aim is to generate future income, not to shoot the lights out with capital appreciation, happy though I am to take it when it occurs. I have already mentioned my regret at not cashing in on the gains that I did achieve for a while with specialist funds such as gold. Now I don’t spend so much time looking for those kind of things. I am getting more risk-averse as I get older.
Nor do I spend much time thinking about what my target asset allocation should be, on the general principle that once you have decided on your broad asset-allocation framework, you should not spend a lot of time tinkering with it. These days, most good websites will have tools that enable you to drill down through your holdings to analyse what you own – and how well you have done – in huge detail. I certainly wouldn’t want to stop you doing that once in a while, but I question how much added value you will get in return for the time it takes. The danger is that you end up with so much information that it paralyses you, stopping you from making any decisions.
Provided you are broadly happy with the overall mix of your portfolio, I prefer to focus more on the funds that I already own – are they doing what they promised to do? If so, I can’t see the urgent need to change anything, unless they have become a disproportionately large part of what I have. What should I do with the income that they are producing? Are there new opportunities out there that I could be missing? The answer is of course that there are always tempting new opportunities to consider, but I simply caution that if you are happy with what you have, you don’t need to be rushed into action.
My own bias has always been to stick with funds where the fund manager has a huge amount of experience and a proven track record over more than one economic and market cycle. I rarely invest in funds where the manager has less than a ten-year performance record for that reason (although that track record could have begun at another firm). While tomorrow’s star fund managers will be starting out on their careers today, my experience is that it is rarely too late to catch them when they have proved themselves. The important thing is to be comfortable that you understand what the fund manager is trying to do, and have a high degree of conviction that he or she is the right person for your particular needs.
I don’t spend a lot of time analysing the regional breakdown of the funds I own. The reason is that it matters very little these days where in the world a company is listed. Many companies whose shares are listed in the UK are multinational businesses whose revenues come from all over the globe. Only a tiny percentage of their business is actually done in the UK. Shell and Glaxo would be good examples. A fund that only picks shares from the FTSE 100 index, therefore, is not in reality investing only in the UK. (In a more extreme example, one of the companies in the S&P 500 index, the main measure of US stock market performance, does not do any business at all in the United States!)
It is true that the further down the size rankings you go in the UK stock market, the more UK-centric the companies tend to be. That is a factor to bear in mind, certainly. The good news is that there are a lot of very good UK companies at that level. However, some analysis we did recently at the firm showed that of all the main market indices around the world, the one that has most closely tracked the world index is the UK market. Even if you only held UK funds, in other words, you should expect pretty much the same outcome as you would get if you bought the world index, at least over the longer term.18 To put this another way, there is a lot of correlation these days between many of the largest global stock markets, so if one suffers, so too in general do the others.
The same goes for the world’s bond markets. In recent years, the trend in all the big developed markets, which includes the US, the UK, Europe and Japan, has been all one way – yields down, prices up. If I was being critical about the shape of my portfolio, I could say that I have not had enough exposure to the fixed-interest market in the last few years, when bonds of almost all kinds – government, corporate and junk – have all performed exceptionally well.
I have not been against the bond market in the last few years; I have been less worried about it than most commentators, mainly because even if interest rates do start to rise, I do not expect them to rise very far or very fast. But even though bonds have done well, my stock market investments have done even better. There may well come a time when bonds once more look more attractive and I will increase my exposure to them, but for now I am not holding my breath.
I can’t emphasise enough when reviewing the progress of your portfolio the importance of being able to take a bird’s eye view of everything that you own. Many investors have pots of money all over the place – a bit here, a bit there, some shares here, a fund or two there. That makes it much harder to keep track of what is going on with your investments. It also creates a lot of extra work and headaches when it comes to filling in your tax return and keeping on top of any day-to-day decisions that need to be made. You will find it so much easier to monitor your holdings if you can consolidate most or all of your holdings onto a single platform. That way you can easily keep an eye on what is happening to all your investments. A good platform should also give you a complete record of all your transactions and a single consolidated tax certificate to add to your tax return.
Funds I have sold
It is
rare for me to sell funds that I have held for a long time. Once you have decided that you have found a manager of real and rare talent, it makes no sense to jettison them without good reason. My holding period for funds typically runs to several years. When I do sell, it is as often as not because I have other portfolio considerations in mind, not because I have changed my mind about the quality of the fund or the talent of its manager. That said, there are occasions – for example, when a manger moves company or simply retires – when you have to say goodbye to an old favourite. Here are two examples of funds that I have recently sold.
Old Mutual UK Dynamic
The Old Mutual UK Dynamic fund was a favourite of mine for a long time. Old Mutual has historically specialised in small and mid-cap shares (although two years ago they recruited the outstanding large-cap specialist Richard Buxton from Schroders to round out their range). I have always thought that the Old Mutual team deserved to be running more money than they do, and as a firm we have been happy to back them from the beginning. This fund is run by a talented young fund manager called Luke Kerr.
Old Mutual’s small and medium-sized companies research team is renowned for its high-quality research and stockpicking ability. What Luke Kerr does with the UK Dynamic fund now is blend the whole team’s best ideas into a concentrated portfolio. He invests in companies of all sizes, with a tendency to increase exposure to larger companies when he is more cautious in his economic outlook. On the flipside, as his confidence grows, he will often increase exposure to higher-risk smaller and medium-sized companies. He runs a portfolio of around 80 stocks. I think the fund will do well, and Luke has the potential to become even better over the years. But for now, this fund no longer fits the bill for my needs and I sold it down as I started to build up the income component in my portfolio.
