Prepare yourself for an unusually gushing assessment (for the Guardian) of a super-rich, money manager currently ensconced in a luxury home in an Indian Ocean island paradise. Terry Smith has become the most successful fund manager of his generation, amassing £17bn in his Fundsmith fund, much of it on behalf of small investors. He has repaid their trust by giving them quite extraordinary returns. Some people compare him to the great Warren Buffett. But Smith is probably better.
Anyone who invested on day one of Fundsmith’s launch in November 2010 - and Guardian Money featured it strongly -has made a gain of 309%. Over the same period Warren Buffett has seen a rather more pedestrian 154% increase in the value of shares in his Berkshire Hathaway vehicle (although reinvested dividends would boost that figure). Time and again, the naysayers have forecast that Smith is due for a crash, that his investments are overpriced ‘bond proxies’ and heading for a fall. But whether the market has been in a bull (rising) phase, whether the fad is for ‘value’ or for ‘growth’ stocks, ‘momentum-driven’ or ‘defensive’, his portfolio has consistently outperformed.
So what’s he doing? Not much, is the answer. Crucially, he trades very rarely, with the turnover of shares in his fund almost invisible for long periods of time. He sums up his strategy in three short and simple phrases: “Buy good companies. Don’t overpay. Do nothing.”
Maybe you’re thinking he shoved all his cash in the so-called “Faangs”: Facebook, Amazon, Apple, Netflix and Google. But his biggest tech holdings are rather more mundane: PayPal, Microsoft and Amadeus. Microsoft may sound like yesterday’s company, but its share price is up 248% compared with 228% at Facebook (which he also holds) over the past five years. And Amadeus, used by most airlines as their booking system, is up 280% compared with Google’s 168%.
Apart from tech, he likes consumer businesses that produce safe, repeatable profits – the likes of Reckitt Benckiser, makers of Harpic, Cillit Bang and Durex – and, oddly enough, Domino’s Pizzas. Domino’s was under $15 a share when he first invested in 2010 – now it’s at $288. Who knew pepperoni pizzas would work out a better investment than even Apple?
Smith did, for a while, sell out of Domino’s because it just looked like it had gone up too much. He admits that was a mistake, and says fund managers have to know when they’re wrong and eat humble pizza.
Just as important is what not to buy. He has never bought shares in a bank, and says he never will. His long list of no-go areas includes insurance companies, real estate, chemicals, heavy industry, construction, utilities, resource extraction and airlines. “That’s actually most of the world. I’m very happy to use their products, and happy for others to invest in them. But they’re not for my portfolio,” he says. Mind you, he sold out of Swedish Match, and in the last year the shares have doubled. He doesn’t really understand why, and won’t be going back in.
After the bull run on Wall Street, the tottering Trump presidency and Brexit, shouldn’t we now be selling out of overpriced shares? Smith, much of whose personal fortune of about £250m is in his own funds, never makes “macro” calls about the direction of the economy or markets. He says he can predict the future no better than you or I. He does admit to a certain level of discomfort around current share valuations, but makes this point: where would you put your money instead? Toilet cleaning products are still likely to be bought, whatever recession or crash we end up having.
Indeed, he’s chosen now to launch a new fund investing in mid-size companies. It’s called Smithson and, given his record, (Fundsmith Equity is the best selling fund in the UK, and has been for years) his £250m fundraising target will be a breeze.
But he says this about the current US bull market: “In the lead-up [to a market crash] bull markets don’t broaden, they narrow. You could have bought almost anything in 2009 and it would have gone up. Then it narrowed to just US stocks. Then it narrowed to tech. Now it’s just the Faang stocks. And at sometime or another they will fall over.”
The problem is, you’re a mug if you try to predict when a crash comes, and time yourself to come in and out at the right time. No one manages it. “If you owned stocks between 2002 and 2017, you would have been through a bull market, the financial crash, a bear market and then another bull market. You would have made an overall 9.9% annual return. But if you had been out of the market for the best 10 days, your returns would have halved. If you had been out for the best 20 days, your return would fall to 2.1%. And if you missed the best 30 days, your return would have been negative.”
Effectively he’s saying that if you are a long-term investor, you should hold your nose, stick with his existing fund despite its enormous gains, and perhaps buy into his new fund as well.
Is this all hubris? “I don’t do hubris,” says Smith who then quotes from a film about the life of General Patton. In the movie, Patton’s voice is heard relating that a returning hero of ancient Rome was honoured with a “triumph,” a victory parade in which “a slave stood behind the conqueror, holding a golden crown, and whispering in his ear a warning: that all glory ... is fleeting.”
And as we all know, when it comes to the triumphs of investment management, past performance should not be used as a guide to the future. When Standard & Poor’s analysed 703 funds that were in the top quartile of performance in March 2011, just 2.4% of the big funds maintained even a top-half performance for the following five years. Even on a random basis, it says 6.25% should have.
Should you invest in Smithson? Will it make the sort of money coined by Fundsmith Equity? Maybe Smith will indeed be in the 2.4% and carry on outperforming. But for now I’ll take a line out of the Smith playbook and cover my backside. As he says time and again, no one can predict the future.
p.collinson@theguardian.com