The £1.2bn, five crown-rated Liontrust Special Situations fund has been one of the best performing and most consistent portfolios in the IMA UK All Companies sector since its launch in November 2005.
However, it fell into the bottom quartile in 2013 with returns of 19.97 per cent, which was the first time it underperformed on an annual basis since 2007.
FE Alpha Manager Cross says that while last year was frustrating, he expects the high quality companies he holds to continue to deliver market-beating returns over the longer-term. “It’s a relative thing really, isn’t it, because 20 per cent in a year isn’t bad,” Cross (pictured) said.
“There is so much logic and common sense about the way we run money. We have a precise style as we look for companies with intellectual property, strong distribution channels, high barriers to entry and high returns on invested capital.”
“We are not chasing any themes or sectors within the portfolio. The businesses we own are great long-term holdings, but no style will always outperform and last year was a period where investors favoured different types of companies.”
According to FE Analytics, Liontrust Special Sits ranked 221 out of a possible 267 funds last year and also marginally underperformed against its FTSE All Share benchmark.
Performance of fund vs sector and index in 2013
Source: FE Analytics
That marked the end of an extended period of outperformance. Our data shows that Liontrust Special Sits was one of only two funds in the sector to deliver top-quartile returns in 2008, 2009, 2010, 2011 and 2012; the only other one was FE Alpha Manager Nick Train’s CF Lindsell Train UK Equity fund.
As Julian Fosh told FE Trustnet in January, last year’s market was largely driven by mid caps and lower-quality areas and Cross says there were clear signs that investors were getting ahead of themselves.
“Cyclicals had one hell of a run and last year companies with the lowest returns on capital had their best returns in 22 years. That had to come to an end at some stage,” Cross explained.
“If investors are hungry for risk, the stock market will provide equity and a lot of companies have been floated recently. In many ways you’ve got to question whether we have learnt any of the lessons from the past, as some of the companies that have come to market, at punchy valuations, have been very low-quality businesses.”
“Some of them have been the types of companies people wouldn’t have dreamt of buying a few years ago.”
Cross was particularly bemused by the IPO of convenience store chain McColl's. Our data shows it has lost more than 7 per cent since its first day of trading in February 2014. Its share price floated at 191p, but is currently trading below 170p.
“They are higher risk and the problem with these 'jam tomorrow' companies is that when the wind changes, valuations tumble,” Cross said. “That sort of environment is very good for us as we aren’t chasing returns. Now people are becoming more circumspect about the quality of companies they are buying.”
Liontrust Special Situations' returns of 2.6 per cent so far this year mean it is once again sitting in the top quartile.
This reinforces the fund’s long-term outperformance. Its returns of 203.85 per cent since launch make it the fourth best-performing portfolio in its sector over this time and mean it has more than doubled the gains of its FTSE All Share benchmark.
Performance of fund vs sector and index since Nov 2005
Source: FE Analytics
Fosh and Cross, who also run the Liontrust UK Growth and UK Smaller Companies funds, look for an “economic advantage” in the companies they hold.
The main three intangible assets that they look for are a company’s intellectual property, distribution channels and repeat business, although they also consider its culture and brand power.
This process has helped the fund’s capital preservation characteristics: our data shows it has been top decile for its downside risk, maximum drawdown and annualised volatility since launch. It also has the best Sharpe ratio in the sector over that time.
The managers invest across the market-cap spectrum. They currently hold 39.11 per cent in the FTSE 100, 29 per cent in the FTSE 250 and 26 per cent in the FTSE Small Cap and AIM indices.
Their top-10 holdings include AstraZeneca, BP, Unilever and Emis, an AIM-listed software and computer services company.
Liontrust Special Situations has grown considerably in recent years, and stood at just £114m this time in 2011. However, Cross says he and Fosh have no capacity constraints.
“It depends on the speed of inflows. One of the by-products of underperforming against the sector is that the rate of inflows does slow and we have had some time to consolidate the building blocks of the fund,” Cross explained.
The manager says he has been able to increase his small cap exposure from 22 per cent to 27 per cent over recent months, for example.
He added: “One of the joys of our style is that we have low turnover. We are not trying to change 80 per cent of the fund in a year; that’s when you run into liquidity problems.”
“We are very disciplined in the way we invest and we are not taking on low-margin business. That’s not being arrogant, but as I think about everything in life, we recognise it is better to take a ‘slowly, slowly, catchy monkey’ approach.”
“We are not just running around trying to get as much money as possible and we aren’t courting fund of funds managers.”
Liontrust Special Situations has an ongoing charges figure (OCF) of 0.88 per cent.
