Buying and owning the right companies is one of the best ways to preserve capital in the long run, argues Troy Asset Management’s Charlotte Yonge.
Troy is known for its defensive approach to investing and for placing capital reservation at the heart of its process, so there is no surprise that its flagship £5.4bn Trojan fund holds roughly 40 per cent in inflation-linked bonds, 10 per cent in gold related investments and 5 per cent in cash.
However, Charlotte Yonge, who serves as assistant manager for the fund and lead manager for the £261m Trojan Ethical fund, believes one of the most important aspects of capital preservation is actually in owning equities, where over 40 per cent of both portfolios are invested.
This is especially the case in an environment such as March 2020 where the sell-off saw all asset class corelations seemingly moved towards one and there was nowhere to hide for investors.
Historically, bonds and equities have performed inversely, so when equities fall, bonds tended to protected portfolios. But as Yonge explained: “Central bank intervention has lifted all boats at the same time, so when markets fall and there's a liquidity event, all of those asset classes tend to fall commensurately.”
In such a situation, while it is important to hold cash to be able to invest more when valuations are cheaper, she said investors also need to own the “right kind of companies” and avoid declining ones.
She said investors should look for companies that are “exceptional businesses” and which are “on the right side of technological change”.
“Either they are at the vanguard and then themselves quite disruptive, or highly adaptive to the change that's going on,” she added. “And you need to buy them at reasonable prices.
“It's just very, very important to avoid those businesses that are frankly going to be disrupted and see their business models challenged in the years to come.”
Although Yonge manages a multi asset strategy, she takes very bottom-up approach to looking at companies to invest in for the portfolio. It often comes down to how recurring a company’s revenue stream is and how defensible its profitability is.
“We place a huge value on a recurring nature of revenues,” she said. “Microsoft is actually a very good example of a very defensive company, because of that subscription element to a lot of its software.
“That's a one-way street in terms of digitalization, and it’s a secular trend that in this case has taken a leap forward in spite of Covid.”
Share price performance of Microsoft over 1 year
Source: Google Finance
When the coronavirus crisis struck markets, the Trojan ethical fund was adding to its stake in Microsoft, which now makes up 5.2 per cent of the portfolio.
Yonge believes the latest earnings out of the company have corroborated the fact that tech spend is going to become a lot bigger in the next decade.
Indeed, Microsoft chief executive Satya Nadella told investors that he anticipates tech spend to grow from 5 per cent to 10 per cent of global GDP.
“Microsoft is set for really strong growth across a very long time horizon thanks to the fact that it is helping businesses move to digital working and ultimately leveraging their cloud infrastructure,” Yonge explained.
She said Azure’s business is growing very quickly despite its size and there is still “a huge runway” before all workloads are shifted to the cloud.
“We are probably only around a fifth of the way there,” she said. “It's still very early days.”
Another company that the fund owns and has very defensible with recurring revenues is Swiss multinational food and drink processing conglomerate Nestlé S.A, which makes up 3.4 per cent of the Trojan portfolio.
Share price performance of Nestle over 1yr
Source: Google Finance
Yonge praised the company’s “recurring stream of low-ticket repeat purchase items” and highlighted its pet food business in particular.
She said: “Pet foods is the business that we can think about as kind of most essential when people are prioritising their pets above themselves and a lot of people have become first time pet owners during this crisis.
“Their pet business was CHF14bn in sales before the crisis and it will be more now because it's been growing double digits over the last year. It's not going to be the thing that you cut in a downturn, but it's also branded and it has that pricing power that garners a huge amount of loyalty.”
Yonge said that owners often look for a trusted brand and ultimately are prepared to pay a very small amount extra for it, on a very recurring basis. She believes that this is the beginning of a multi-year trend where pet owners will be paying more for higher quality dog and cat food, and that Nestle is well positioned for it.
“The fact that it's small ticket items and tends to be a sort of non-discretionary part of the grocery budget, but also something that people want - a very trusted credible brand - I think that really makes it defensive,” she explained.
“We've seen just fantastic results from Nestle over the past year and I think that that's what you're looking for when you talk about defensive equities.”
Yonge said that there is a list of around 60 companies that the Trojan fund “would really like to own at right price” of which the fund currently owns around at third.
Performance of the fund versus sector & benchmark since inception
Source: FE Analytics
Since inception in 2001, the Trojan fund has delivered a 288.44 per cent total return versus 162 per cent from the average peer in the IA Flexible Investment sector and 69.58 per cent from its UK Retail price index benchmark. It has ongoing charges figure (OCF) of 1.01 per cent.