There doesn’t seem to be any Rockstar portfolio managers these days. Gone are the days where the city was littered with household names, Antony Bolton, Neil Woodford, John Templeton. Active management is dying. Everyone’s shifting to passive and the ETFs are winning out. Yet there seems to be only one Rockstar portfolio manager left these days; Terry Smith.
For those in the know Terry Smith needs no introduction. But for the benefit of others, I hash over his background here.
Terry smith graduated from University College Cardiff with a degree in history (it’s strange how many successfull portfolio managers have a degree in the arts!). From there he worked at Barclays Bank before moving to UBS. It is while working for the bank he released his highly controversial book Accounting For Growth which lead to him being fired from the bank. It is this controversy that lead Terry Smith to becoming a beacon in the city – he put the interest for customers before his own employer! You don’t get many people like Terry Smith these days.
Since then he has become most famous for running the Fundsmith Equity Income Fund. The fund has achieved returns of 440% over the past decade leaving many rivals in the dust. That is close to 20% annualised. Simply breath taking. £100,000 invested with Smith in 2010 has grown to £440,000 now! No wonder Fundsmith is one of the only mutual funds I invest in.
Terry Smith’s writing are must reads. If Warren Buffets writing are number one any investors must read lists, Terry Smith would undoubtedly be number 2. His annual letters are eye opening and I can’t wait to read them every year.
So when I first heard that Terry Smith was to come out with a new book in October 2020, I was excited beyond belief. But when I learnt it was an anthology, I was kind of disappointed. For those that don’t know, an anthology is just a collection of literary works chosen by the compiler.
This new Investing For Growth Book is not a book in the ordinary sense, instead it is a collection of letters Smith had written over the years. From the point of there is nothing new in the book it was a real disappointment.
But then again Terry’s writing is timeless. Reading his writing is a good reminder of the key investment principles: Buy Good companies, Don’t overpay, Do Nothing.
I guess from his point of view nothing has really changed in the world of investing. The key is to focus on quality firms – those with high returns on invested capital.
Buy Good Companies
From Terry point of view, this is by far the most important factor to consider when investing. Quality companies get better over time and allow the compounding process to get a strangle hold and really increase investment returns over time.
So what makes a quality company? Quality companies are those with the following attributes:
- Avantages that are difficult to replicate
- Resilience to change (particularly technological innovation)
- Low leverage (debt)
- A high return on operating capital employed that is sustainable
- A high degree of certainty of growth from reinvestment of cash flows.
He is also a big believer that certain sectors are better than others when it comes to investing. He is an advocate for sectors such as such as technology, consumer staples, and healthcare. On the other hand he avoids certain sectors such as financials, and heavily cyclical sectors such as construction, utilities, resources, and transport.
Just look at the companies in his Fundsmith portfolio to see this strategy in action
Once you find quality companies, you then need the patience to buy them at attractive valuations. Attractive doesn’t necessarily mean cheap. Throughout his writing, Smith keeps returning to this point often quoting Charlie Munger. Quality companies are often expensively rated but there is good reason for them before so – and in the long run these ‘expensive shares’ can be cheap. His examples of the high valuations one could have paid for good companies while still beating the index are compelling. But as he says, it’s really just mathematically inevitable that a high growth rate compounded beats a low growth rate even if the latter is seriously undervalued. Smith’s preferred metric for judging a high quality company is Return On Capital Employed (ROCE).
This is perhaps the hardest part. People always want to be seen to be doing something. Investors are their own worst nightmares. Smith is very much a long-term investor and he specifically states on the Fundsmith website that the fund “will not adopt short-term trading strategies.” Moreover, he also states that the fund will not use derivatives, shorting strategies or market timing tactics. In other words, he keeps things very simple, as investing should be.
So overall, there’s nothing too complicated about Terry Smith’s investment strategy. There’s nothing that private investors couldn’t do themselves. I feel the key is to keep things simple, invest in high-quality businesses, diversify and invest for the long term. It’s as simple as that. The book just rehashes these ideas. And for that it is worth it. But for those who don’t want to fork out for the book, just head over to the Fundsmith website and you can find Terry Smiths writings for free!