British asset manager Fundsmith follows a simple strategy: invest in strong companies, don’t pay too much and then keep them in the portfolio, preferably forever.
Fundsmith is one of Britain’s most notable asset managers. It was founded in 2010 by Terry Smith (photo), now 69, who was primarily looking for a way to invest his own assets. Since its launch, the global equity fund has delivered an average annual return of around 16 percent. Terry Smith, who is still CIO of the asset manager, has been described as “the Warren Buffett of Britain”.
Fundsmith manages assets of around 40 billion euro and has offices in the UK, the US and Mauritius. The paradise island has been Terry Smith’s base of operations since 2014. “That’s not just because he loves to lie in the sun every day. He also strongly believes in staying far away from all the noise in the market,” said Fundsmith partner Conrad Rey.
Rey recently visited Belgium to explain Fundsmith’s investment vision at the invitation of insurance company OneLife. “Our strategy is dead simple: we try to invest only in good companies, we don’t overpay and then we simply do nothing. That last one is the hardest,” said Rey.
75 companies
Fundsmith’s first preference is for companies with a high return on their cash. Then they also have to be resilient companies. The 29 companies in the portfolio have existed since 1929 on average. They are survivors that we sincerely believe will still be around in 100 years.
And Fundsmith picks out the companies that get their revenue from a large number of predictable transactions. Not companies whose turnover depends on very large orders, but rather a company like Visa that processes 24,000 transactions every second.
In addition, the companies must also be able to shield their revenue from the competition. ‘Globally, there are only 75 companies that cross our barriers. That may seem few. But we very much believe in identifying very special companies and then not letting them go.’
Around 80 to 85 per cent of its portfolio, Fundsmith’s equity fund invests in three specific sectors: consumer staples, technology and healthcare. Some of the largest holdings are Microsoft, Novo Nordisk, Philip Morris, L’Oréal and Estée Lauder.
Cashflow
At Fundsmith, they do not attach too much importance to the price/earnings ratio. With a few small interventions on the balance sheet, this ratio is relatively easy to manipulate. Cash flow, on the other hand, does not lie. The asset manager therefore attaches much more importance to the free cash flow yield. For our portfolio this currently amounts to approximately 3.5 per cent.
“That is slightly more expensive than the market average, but our companies are of better quality. Over the past ten years, the free cash flow yield of investment portfolios has grown by an average of 10 per cent. Last year it was even 19 per cent, but with corona year 2021 as a starting point, it was no trick for most companies to realise growth.”
Doing nothing
Of the 22 companies that were included at the start of the fund in 2010, seven are still in the portfolio. “We would like to keep all our companies forever. Especially given the current situation in the markets, it is crucial not to panic if the markets go down.”
“We just keep concentrating on the figures and the fundamentals of the company. And that is the hardest part. Because of course we know how the markets will evolve in the coming months. But that doesn’t matter either. It is much better to stay in the market for a long time than to try to determine the best entry and exit moments. That strategy does not work anyway. Then you miss the best trading days and they make or break your return.”
At Fundsmith they are not too worried about rising interest rates and inflation. “The scarcity of raw materials is nothing new. It was already there before the Russian invasion of Ukraine. Companies have long been forced to find a solution to that challenge. Moreover, the companies in our portfolio are very resilient and also have strong pricing power, because their products are sufficiently unique or their brand names very strong. The companies in our portfolio are well armed against inflation.”
This article originally appeared in Dutch on InvestmentOfficer.be.
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