Investors worried by the impact of potential faster interest rate hikes on stocks such as Unilever, RELX or Diageo should instead be taking a long-term investment approach, according to Lindsell Train’s Nick Train. 
FE Alpha Manager Train (pictured) said he was often asked by investors whether they should sell certain stocks when interest rates rise.
More recently, questions have focused on international consumer goods company Unilever, which is the largest holding in his £4.8bn LF Lindsell Train UK Equity fund, although names such as Diageo, Heineken, Mondelez, Kao, Pepsi and RELX fall into the same bracket.
However, he said only traders and short-term speculators should sell out of a stock – given that it had fallen by around 10 per cent since the market was spooked by higher inflation – and had in fact added to his Unilever holding after switching out of US peer Kraft.
He said: “Kraft’s shares had held up better and the dividend yields on the two were just about the same. When we think about Unilever’s growth opportunity, particularly in the emerging markets, that just seems wrong.”
Performance of stocks YTD
Source: Google Finance
The manager said that investors should avoid conflating growth companies with so-called ‘bond proxies’ – stocks offering bond-like qualities of dependable income.
He said: “Unilever – and the best others of its type – has compounded its dividends by 8 per cent per annum since 1952.
“Government bonds do not do this – indeed very few quoted companies have been able to do it either.
“We do not invest in regulated utilities or highly levered property vehicles, which might more truly be described or dismissed as interest rate sensitive.”
Train said because Unilever had risen to higher valuations in recent years it did not mean the stock was expensive.
He said valuations in the sector clustered around a price-to-earnings multiple of 20x, which equates to an earnings yield of 5 per cent.
“I know how trite that observation reads,” he noted. “But an earnings yield of 5 per cent, with the earnings highly likely to grow in real terms for the foreseeable future, is an attractive proposition for serious investors, we believe.
“It is attractive in absolute terms, but still so, it seems to us, when compared to the returns available on index-linked government bonds and even to the likely peak yield on conventional ones.”
Indeed, the manager said that US economist Jeremy Siegel had suggested companies that can compound steadily for decades can readily justify P/E multiples of 30x or more.
More cyclical, capital-intensive companies are the ones that get “especially killed by inflation over time”, said Train.
As noted by Berkshire Hathaway veteran investors Warren Buffett and Charlie Munger, branded-goods companies usually had superior inflation-adjusted cash performance during periods of rising and persistent inflation.
“They have the pricing power,” he explained. “Why would you sell Unilever – or its peers – if you really believed in a prolonged period of problem inflation?
“Do you really want to fund a stream of rights issues from cash-strapped coal miners, engineers, insurance companies and banks? Because, in my recollection of the 1980s, that is what you will be required to do.”
UK CPI over 10yrs
Source: Office for National Statistics
While the recent sell-off in markets has been stoked by the fear of rising inflation and fast rate hikes, it may not be a problem, particularly given the deflationary impact of disruptive technology in almost all industries.
“Who says inflation is going to be a problem over the next 10 years, anyway?” he said. “It seems possible there could be years more ‘good’ deflation to come, as technology-driven price finding unravels the unjustified price premiums.”
Indeed, the question of whether to sell out of Unilever and other quality-growth stocks also revived the debate over quality versus value, which Train said shouldn’t be a concern of investors in the 21st century.
He said: “The more relevant one for 2018 is – ‘Will my company be a beneficiary or a victim of digital technology?’
“It’s the answer to that that will determine whether you preserve the real value of your savings or not.”
The FE Alpha Manager added: “Unilever – and its peers – may be losing pricing power as consumer habits and preferences change.
“We take the view that there are mitigations for Unilever. But we’re sure it is far more relevant to worry about this issue, than whether bond yields are set to go up a bit.”
Finally, Train highlighted the lesson of the spin out of Dr Pepper from Cadbury in 2008. Having spun out at around $15 per share, the latest bid valued it at around $130 with the stock market failing to value the business appropriately initially.
“Unilever is now trading below the value of Kraft’s opening shot from last year,” he added. “Do you really feel justified in selling it in this light?”
Unilever represents a 9.6 per cent position in the high conviction five FE Crown-rated fund, its largest individual position. Diageo, RELX, Heineken and Mondelez are also top 10 holdings in the portfolio.
Since launch in 2006, the £4.8bn LF Lindsell Train UK Equity fund has returned 271.46 per cent compared with a 100.33 per cent gain for the FTSE All Share index and a return of 101.92 per cent for the average IA UK All Companies fund.
Performance of fund vs sector & benchmark since launch
Source: FE Analytics
The FE Invest analysts, who have the fund on their Approved List, highlighted the low turnover of the portfolio and Train’s stock picking ability, noting that the manager will only sell a stock if it is not able to maintain its market-dominant position.
“Achieving this impressive performance track-record with the low portfolio turnover highlights his stock picking skills,” they noted. “We like the consistency of his strategy, which will not vary depending on the economic conditions.”
LF Lindsell Train UK Equity has an ongoing charges figure (OCF) of 0.72 per cent.