Notebook: random thoughts this week

I spent a helpful hour this week with Jo Oliver, who leads the team that manages the Octopus Titan VCT, the UK’s largest generalist venture capital trust. At the end of our conversation, which will feature as an interview in the forthcoming Investment Trusts handbook I am editing, I asked how the 50 or so entrepreneurs whose companies make up the VCT’s portfolio were thinking about Brexit. His answer, in brief, was ’bring it on!”.

The reason is that whereas big business naturally fears change and uncertainty, the typical start up company by definition is optimistic – you don’t have to be crazy to be an entrepreneur, but it helps – and sees uncertainty as a great opportunity. The one big concern about the Brexit negotiations they have, Oliver notes, is the fear that they may lose access to the talented and motivated people, many of them from the EU, on whom they rely to drive their businesses forward.

But that concern is tempered by the view that there will be greater opportunities to disrupt existing business models, by the likely continued weakness of sterling and by the flow of inward investment that could flow in its wake. I found this a useful and encouraging corrective to the handwringing of corporate UK. We all need to look through the the predictably tendentious negotiations between David Davis and Michel Barnier to the new world – good or bad – that lies beyond it when an agreement is finally reached. Even if we end up with a hard Brexit, which I continue to think possible but unlikely, entrepreneurs will still be relishing the challenge that the change in external trading regime stands to create.

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Speaking this week at the annual general meeting of the Lindsell Train investment trust, a core holding in the Investment Reader portfolio, co-founder Nick Train made a startling announcement – startling anyway to seasoned followers. (That may be why he made a show of whispering the news sotto voce from behind a cupped hand). Lindsell Train are notorious for having embraced the principles of Warren Buffett – buy shares in companies with strong business moats at fair prices and hold them for years – and taken those ideas to their logical conclusion.

That is, to run a high conviction portfolio whose constituents rarely if ever change, although the weightings in each company can and do. It is startling news therefore that the trust has made its first investment in a new company for four years. Train has been buying shares in the French champagne house Laurent Perrier. Admittedly it currently only accounts for 1% of the trust’s portfolio to date – the shares are illiquid and hard to find – but it seemed clear he will be buying more if and when the opportunity arises.

What are the attractions? Train listed four: 1. It is another family-controlled drinks business with a long heritage, like two others of his portfolio stalwarts (Heineken, A.G.Barr); 2. Although sales are volatile, premium beverages tend to be proxies for global growth; 3. Laurent-Perrier has the highest percentage of premium sales by volume of any champagne house;  4. It is (less seriously) also the favourite drink of the trust’s chairman Julian Cazalet.

Given that Lindsell Train’s open-ended fund also added its first stock for several years last year (another drinks company, Remy Cointreau), could this be the start of a trend? Train remains bullish about the markets, but continues to warn about the level of premium at which the investment trust trades. It is down from the remarkable peak of 75% it reached in 2016 to around 25% now, where it looks good value to me once more, despite the obvious key man risk. The Lindsell Train management company, which accounts for at least a third of LTI’s net asset value, pulled in new money for its open-ended funds and growth has continued at a very healthy rate into the current year.

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Are the Best Buy lists that feature on many online platforms a useful source of value for investors in funds? This question is one that has been exercising the industry regulator, the Financial Conduct Authority. In its recent Asset Management Review, the FCA touched on this issue and said it would be launching a formal review of the way in which online platforms research, rate and recommend funds. In its report the FCA reported that it had tried to test the proposition with performance data from Morningstar.

Although it gave no further details, the FCA grudgingly conceded that the preliminary conclusions of its study were that platform “best buy” lists did indeed have some value, in the sense that on average they outperformed funds that were not on those lists. But the FCA also said that on average best buy lists did not outperform the style or focus categories into which Morningstar chose to place them. (So what you may say? I suspect that says more about the value of Morningstar’s notoriously rigid style categories than it does about the individual funds).

In response to this, and no doubt with one eye on the platform review, Hargreaves Lansdown, the UK’s largest stock and fund broker, has taken the pre-emptive step of publishing its own assessment of how well the funds on its best buy list, the Wealth 150, have performed. It measured the performance against three criteria – the funds’ benchmark index, their peer group’s performance, and where available, the average performance of equivalent tracker funds.

The results, on any objective analysis, are mixed. While Wealth 150 funds in some sectors have done well, in others they have not. The best results were achieved with the UK equity fund picks (both mainstream and small cap), with bond funds and with European funds. They did particularly poorly in the specialist, flexible investment and North American sectors and had mixed fortunes in Asia Pacific, Japan and the rest.

Discussing these findings with me this week in my latest Money Makers podcast, Hargreaves Lansdown’s Chief Investment Officer Lee Gardhouse made the valid point that the firm has been changing its selection criteria in recent years in the light of experience. It no longer has any specialist funds on its best buy list – specialist funds tend to do well when their sector does well, Gardhouse observes, but the managers display little evidence of stockpicking ability – and the same goes for North American funds – where UK fund managers have famously struggled for years to add any value and the only really good ones (such as Findlay Park) are no longer open to new investors. HL now openly advises clients to opt for a low cost tracker fund if they want US stock market exposure.

As a result of this and other changes, the Wealth 150 has shrunk to the point where it no longer has more than about 85 names on it.  Cynics will no doubt point out that these changes merely reflect the realities of the post-RDR world, in which trail commission no longer is available to influence brokers’ choice of funds. You would be very naïve to doubt the existence of a link between commissions and fund selection before RDR – a conscious link for the majority of advisers, I would say, and a subconscious factor for almost all the rest.

Nevertheless in its apparent determination to stick the boot into all forms of active management, the FCA seems to be pushing too hard in the opposite direction. The fact that actively managed funds remain on a broker’s best buy list does not automatically mean that they have no more merit than any other fund, as my own experience will attest.

Several of the funds I own in the Investment Reader core fund portfolio are run by managers who feature on HL’s Wealth 150 list (and other broker lists too). I don’t own them for that reason, of course, but because I too have concluded, like Gardhouse and his well-regarded team, that they are among the small minority of actively managed funds which are capable of more than earning back their fees over the full market cycle. The other point of course is that individual funds can be good or bad, but it is how you combine them in a portfolio that really determines how well you are going to do.

It is only fair to acknowledge that HL’s two longest running multi-manager funds, Special Situations and Income and Growth, both have delivered above benchmark returns over their decade-plus long history. Their UK funds selections in particular have done exceptionally well, although not as well, I am happy to say, as the Investment Reader core fund portfolio.