After a year of turmoil across the global economy following the impact of Covid-19, Scottish Mortgage Investment Trust’s Tom Slater believes investors should think about which companies are going to be the key players in the economy of the future.
Tom Slater – co-manager of the £15bn, five FEfundinfo Crown Rated Scottish Mortgage Investment Trust – said that while its investment style favours “exceptional companies”, it doesn’t always lead to the smoothest of rides.
He said: “Over the long run, stock market returns are driven by a small number of exceptional companies. The progress of such companies is rarely smooth and linear – they have breakthroughs and they have setbacks.”
Slater said the market sentiment can exaggerate the peaks and troughs that such companies experience, increasing price volatility which is then mistaken for risk.
“When we believe we have identified an exceptional company that is pursuing a large opportunity, we look beyond this cycle of feast and famine,” he explained.
“With a longer timeframe, such oscillations matter less and the picture of compounding growth becomes clearer.”
He continued: “Many, if not most, investments won’t turn out as we hope. However, for the companies that do succeed, the returns are transformational and they have a disproportionate impact on the portfolio.”
As such, Slater said the team behind Scottish Mortgage approach investing with optimism, aiming to identify the factors that allow a company to prosper, which has driven its long-term returns.
Indeed, the trust’s net asset value having risen by 312.16 per cent over five years compared with a total return of 85.94 per cent for the FTSE All World benchmark.
NAV performance of trust over 5yrs
Source: FE Analytics
Nevertheless, Slater said such performance hasn’t been easy nor has the trust’s preference for what it regards as “exceptional” companies been an obvious explanation for recent performance.
He explained: “The global pandemic has, for sure, has big short-term impacts but a company’s stock price incorporates an estimate of all future cashflows and is not simply a measure of relative success at this unusual time.”
The Baillie Gifford manager said although the impact of Covid-19 will fade in time, some long-running structural trends have been accelerated while the stresses of the pandemic will spark new waves of innovation.
Moreover, the pandemic has seen some of the Scottish Mortgage holdings make considerable progress and provided greater clarity on the size of their opportunities and ability to execute, according to Slater.
For Tesla, Scottish Mortgage Investment Trust’s largest holding at 12 per cent of the portfolio, the increase in share price has had a “dramatic impact” on its returns.
Slater said: “Whilst the company and its colourful founder attract an unusually high degree of attention, emotion and noise, the underlying return picture is far from an aberration
“Its success has been earned over a period of ownership extending back to 2013 and, as with most successful investments, we have ensured large drawdowns in its stock price on the way to the current position.
“Demand for its products is strong and the response from its traditional competitors remains muted.”
Elsewhere in the portfolio, investments in UK furniture retailer Wayfair and food delivery companies Meituan and Delivery Hero have been beneficiaries of Covid trends.
“Wayfair has benefited from a surge in demand as people have spent more time at home and invested in upgrading their living environment,” said the manager.
“Whilst this may be a temporary, Covid-related phenomenon, the company has also moved decisively into profitability after an extended investment phase.
“The long-term profitability of Wayfair’s business model has been hotly debated and the demonstration of a clear ability to make money is much more important for the company’s value than a temporary spike in demand.”
He continued: “Food delivery companies Meituan and Delivery Hero have also answered important questions about their future.”
Meituan has become the dominant food delivery company in China, with demand for its other up delivery services for groceries and general merchandise has grown.
Meanwhile, Delivery Hero has restructured the geography of its business and now dominates many of the world’s most attractive growth markets.
Slater said: “The examples of Wayfair, Delivery Hero and Meituan serve to illustrate the growing number of opportunities we have to invest in digital businesses of scale beyond the giant western platforms.
“This becomes more important as our views on the platform companies are less differentiated than was once the case.”
Indeed, in the six months to end-September, Scottish Mortgage sold its remaining holding in Facebook and made the first reduction to our Amazon holding, moves that were not driven by diversification concerns.
The manager said: “Whilst we have huge respect for Amazon’s vision and ability to execute, its starting capitalisation of over $1.5trn makes the path to large future returns more challenging.”
He concluded: “It is challenging to predict the impact of such change on the complex system that is the global economy. We eschew prediction and prefer to partner with the entrepreneurs that are driving change.
“A clear lesson from this year’s events is that we should treat confident pronouncements about the future with scepticism.
“Rather than engage in such speculation, we prefer to back the companies building the future of our economy with the capital and patience they require.”
Performance of trust vs sector & benchmark over 5 years
Source: FE Analytics
Scottish Mortgage Investment Trust delivered a 320.23 per cent total return over the last five years, compared with a 90.36 per cent gain for the average peer in the IT Global sector, and 85.94 per cent from the FTSE All World benchmark.
It has ongoing charges of 0.36 per cent, is 5 per cent geared, and is currently trading at a 2.4 per cent premium to net asset value (NAV), as at 10 November.