Terry Smith, The Warren Buffet Of The UK, Reveals His Strategy
In 2010, Terry Smith started a new investment firm, Fundsmith, funded with only £39 million ($52 million) assets under management ($33 million of his own and $22 million from close clients). By 2020 Fundsmith Equity fund had amassed £23 billion ($30 billion) assets under management and returned 440% to investors over that timeframe.
"How does it feel to be a legend? Pleasing, obviously, but I never take anything for granted," said Smith.
How did Smith amass such wealth and returns, he sticks to a 3-step core investment strategy.
Invest in good companies
Do nothing else.
Smith started his career at Barclays in 1974 then became a banking analyst at UBS Phillips & Drew in London before releasing his best-selling book. The book resulted in his dismissal from UBS. After UBS he became chief executive of Tullet Prebon (one of the world's biggest money brokers).
Smith has released a 2nd book called Investing for Growth to celebrate Fundsmith's 10-year anniversary.
"I have been inspired by many investment practitioners and authors," said Smith. "I started reading the now legendary Berkshire Hathaway annual chairman's letter in the 1980s. I have read literally hundreds of books and studied the investment process of many investors, ranging across almost every style of investment when I was an analyst and head of research. I knew many of the most famous investors, because I provided research to them. To be a success, I think you need to synthesize a lot of sources."
"We developed and refined our investment strategy over decades before we started Fundsmith," Smith said. "We didn't start the business, raise a fund and then think 'how shall we run the fund, and what shall we invest in?' We already knew."
"We launched a strategy which we knew worked in the sense of delivering superior risk adjusted returns, and we knew we could deliver it," Smith said. "We didn't think 'Ah, there's a lot of demand for BRIC, FAANG, ESG (insert current fad) funds, so let's launch one'."
"We work hard," Smith said. "I think success is less about having great ideas and far more about good execution, and we work very hard every day at unglamorous tasks like analysing results, attending conferences, reading trade publications, and updating models."
"And last but by no means least, I have help from some fine colleagues without whom this would not be possible. It's invidious to single out one, but I am going to. Julian Robins, our head of research and I, first worked together 34 years ago and he's the greatest combination of integrity and ability that I have ever encountered."
For young investors looking to get ahead in the world of investing, Smith re-emphasizes working hard.
"Study the subject before you invest," Smith said. "You probably need to study for several years and see at least one full business and market cycle before you can be competent to invest."
10 pieces of investing wisdom
If you don't understand a company, don't invest
Be cautious of jargon
"At Fundsmith, we keep a banned word count for the companies we analyze, because we think they provide an insight into their management … but when we do listen to management, the straight talkers get our vote and our money."
Have a watch list
Investors should track what they consider "good companies" to buy into them at good prices, Smith said.
One example in the book was when Bloomberg published a story about a strike at Fresh Del Monte Produce Inc, which is an entirely different company from Del Monte Foods. However, the news story caused the share price to drop, creating an opportunity for Smith to buy into the company more cheaply.
Get comfortable with selling a company
"Domino's shares rose in price by 113% during the year and had reached a point at which they no longer represent good value. Domino's also has refinancing of debt due by 2014. There is nothing in the performance of Domino's which causes us the slightest concern about this, but there is plenty wrong with a banking system, which will be required to provide the refinancing. As a result we hope to have the opportunity to become investors in Domino's again."
Question share buybacks
"Share buybacks only create value if the shares repurchased are trading below intrinsic value and there is no better use for the cash which would generate a higher return."
"We regard the greatest risk to our investors — after the obvious potential for us to buy the wrong shares, or to pay too much for shares in the right companies — as being reinvestment risk: we seek to buy companies which deliver high returns on capital in cash. What the management then does with these cash returns is one of the major factors affecting futures returns on the portfolio."
"If you are going to own a portfolio of good companies with high returns, which compound in value over time, you can't play 'greater fool theory', in which you knowingly overpay for the shares, hoping that a greater fool will buy them off you at an even egregious valuation, as you intend to hold on to them."
"Fees paid to fund managers and advisers are a drag on investment performance. The average UK investor who invests via an adviser, uses a platform and then invests via an adviser, uses a platform and then invests in mutual funds incur total charges of about 3% each year. This is higher than the yield on equities and most government bonds. So all and more of income from his or her investments is being consumed by fees."
Stop trying to predict the economy and market
"When it comes to so-called market timing there are only two sorts of people: those who can't do it and those who know they can't do it. It's safer and more profitable to be in the later camp."
"I am amazed by how much time and effort people waste trying to guess what will happen to known unknowns . Brexit, China, commodities, interest rates, oil price, quantitative easing, and the US presidential election are all known unknowns."
Wait it out
"We never tire of reminding people that we remain critical of attempts to measure performance over short periods of time, such as a year."
"Rather than seeking superior portfolio performance by chasing high-risk stocks ("return-free risk"), investors should seek out "boring" quality companies, which have predictable returns and superior financial performance and that advantage of their persistent undervaluation relative to those returns to buy and hold them."
The same mantra of "wait it out" holds true for finding fund managers.
"Too often, investors seek to find fund managers who can outperform all the time and in all market conditions. The trouble is that no such person exists. But the attempt to find this mythical creature leads to some investors moving their assets between managers, incurring costs and most frequently ditching a manager whose investment style is out of step with the current market in favour one with recent good performance just as they are about to switch positions."
Be cautious of shareholder activism
"All very exciting, but not much use to long-term shareholders like us, who are left with holdings in fragmented businesses, often with new management teams and strained management teams. Then, their accountants and others, followed by financial statements that contain so many adjustments that they border incomprehensible."
"In our experience, a dialogue which you seek to change behaviour is best at least started in private. Seeking a public spat at the outset, seems to us to be more closely aligned with a desire to seek a certain public profile, rather than to effect corporate change."
"However, whilst we question the motivation and methods of activists, and how companies respond to them, we do not always disagree with them."
Admit when you are wrong
"Domino's proved us comprehensively wrong. Not only did it manage to refinance, but it did so on terms which enabled it to pay a $3 per share special dividend. So, I did what you should always do when you get it wrong (but which all of us rarely manage to):
Admit this (most importantly to yourself) and reverse the decision
"So Dominos was repurchased"
Smith recommends the following reads:
Berkshire Hathaway's annual chairman's letter
The Warren Buffett Way by Robert Hagstrom
Liar's Poker, The Big Short, Flash Boys and Moneyball - All by Michael Lewis