Investors should be careful not to assume Terry Smith and Nick Train have “cracked” markets, according to Charlie Parker, managing director of Albemarle Street Partners, who warns their habit of consistent outperformance is soon likely to be tested.
Smith and Train have been among the most consistent high achievers of the past decade – Train’s LF Lindsell Train UK Equity fund has beaten the IA UK All Companies sector average in every one of the past 11 years, while Smith’s Fundsmith Equity fund has outperformed its IA Global peer group in every full calendar year since inception in November 2010.
Performance of funds vs sectors since Nov 2010
Source: FE Analytics
However, while Parker (pictured) has exposure to both managers in his client portfolios, he has recently begun to trim his exposure to their funds in anticipation of a value revival.
“Every academic study shows quality adds value over the long term. I’m not arguing against that,” he explained.
“It’s just about whether it’s the only show in town. And at the moment when you go to IFAs, almost everything they own is quality growth, which removes a lot of earnings risk from those portfolios.
“But earnings risk isn’t the only thing that matters, price risk also matters, and a hell of a lot at that.
“All we are doing is saying have a bit of balance in your portfolios. We are not knocking Terry Smith or Nick Train or anyone else – they are fantastic managers – but they’re not the only people in the world who have suddenly worked out how markets work.”
Parker is not concerned about the liquidity in the portfolios run by Train or Smith and said it is unlikely they will make the same mistakes as Neil Woodford. Instead, he is more worried about the impact of a rise in long bond yields, pointing out the performance of these managers has correlated closely with the price of the instruments. He also pointed out that they are unlikely to change their process to accommodate a change in the backdrop.
“They won’t think like this at all,” he continued. “They will say, ‘just look at our companies and the strength of our companies’ and say everything else is noise. That’s fine. That’s how they think, that’s their process. Fund managers have got to have a framework for how they operate.
“But when I look at it, I can see the correlation. I can see the bond yields moving up, so I just want to provide some balance in portfolios.
“We’ll have to wait and see what the weather does. Nick Train is quite honest, he says, ‘yeah, it won’t carry on like this, but I still think it’s worth sticking with it’, which is not an unreasonable argument at all.”
Parker is playing the value theme through the Schroder Recovery, Jupiter UK Special Situations and Man GLG UK Income funds. While the disconnect between growth and value is wider in regions such as Europe, the managing director said a UK slant helps to dampen the risk in this trade due to the tailwind from greater political certainty – important because “value has been a graveyard of champions over the last five years”.
Performance of funds vs index over 3yrs
Source: FE Analytics
In a recent article published on Trustnet, the managers of the Scottish Mortgage Investment Trust rubbished the idea of a mean reversion from growth to value, with Tom Slater referring to disruption as “a more enduring and powerful force than people believe”.
Meanwhile, his co-manager James Anderson warned many of the companies and sectors investors are backing to benefit from a ‘value’ resurgence are more likely to be “physically destroyed”.
Parker said he has some sympathy with this view, pointing out that one of the biggest drawbacks of value investing in the investment environment of the past decade has been that it fails to account for the exponential growth in the take-up of new technology.
However, he said the problem now is that while quality growth and tech stocks have continued to get more expensive, every sector containing any value has been labelled “redundant”.
“A good starting off point for that analysis is the banks,” he continued. “If you’re saying that value will be disrupted out of all existence, you’re also saying you’re going to bet against Société Générale to maintain its foothold in French banking at a time where it’s got enough cash to buy pretty much any disruptive technology out there.
“This is the problem – I think every company has the opportunity to not be disrupted out of existence when it has cash.”