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Fundsmith Review

Topic: Fund Manager Reviews Fundsmith 27 August 2020

  • The Fundsmith Equity fund is the largest fund in the UK with over £20 billion of investor assets under management.
  • An investment of £10,000 in the Fundsmith Equity fund when it launched in November 2010 would be valued at £50,866 on 31st July 2020.
  • Since its launch in October 2017, Smithson has returned growth of 48.20%. To put this performance into context, the Fundsmith Equity fund returned growth of 31.29% for the same period.
  • In the 5 year period up to 31st July 2020, the Fundsmith Emerging Equities Trust returned growth of 9.07%, which fell well below the 30.63% averaged by other investment trusts within the same sector.

Since the fall of Neil Woodford, Terry Smith has taken the mantle as the UK’s most recognisable fund manager with his straight talking, no nonsense approach proving popular with investors. His strong opinions have not been as endearing with his peers though, which isn’t surprising as he has described most as “fat and complacent” as well as criticised how little value they provided investors by saying that most of the funds on offer to UK investors are ‘dire’.

“If you want to have a better performance than the crowd, you must do things differently from the crowd.” This popular axiom from John Templeton is how Terry Smith approaches fund management. 

Smith started his Fundsmith brand in 2010 with the launch of his flagship Fundsmith Equity fund, with the objective of providing investors with access to products that he believes offered superior returns. In the 10 years since their launch Fundsmith have introduced 3 other funds to their portfolio and although each have attracted a huge influx of investor money have they been able to deliver better performance than the funds and fund managers Smith had openly slated?

In this report we analyse the performance and ranking of each Fundsmith fund and identify just how competitive each has been. 

 

Terry Smiths Investment Strategy 

Fundsmith’s success is built on a simple investment strategy, which involves taking bold bets on a small number of companies and holding them for the long term, without paying attention to the quirks of a macroeconomy. This is rooted in Mr Smith’s belief that “nobody is capable of consistently predicting macro events” and that it is more worthwhile to identify good companies, a skill he honed over decades working as an analyst. “You might think every fund manager tries to invest in good companies, but I can assure you they don’t,” he says. “At Fundsmith we have spent a lot of time coming up with a definition of what is a good company.” 

Fundsmith invests in mature companies with strong balance sheets and established brands, which are capable of reinvesting their profits and compounding value for investors over time, while excluding cyclical sectors, such as mining and financials. 

He avoids companies that require leverage to generate profits, which is why he won’t invest in companies which require borrowed money to function or survive – such as banks. 

Terry Smith says that his philosophy of investing in good companies is easier said than done, but he believes most other fund managers don’t do this. “Very few investment managers boast about the fact that they invest in low-quality businesses, but most of them do, often because they consider such businesses as ‘cheap’. They buy these companies because they believe the price to be too low relative to their assets or earnings and then wait for the market to revalue them upwards. This is logical; however, the revaluation will depend on the whim of the market or events which are difficult to predict, such as the business cycle, takeovers, restructuring or management change. So the revaluation might happen quickly, it might take a long time, or it may never happen at all. None of these are particularly good for an investor.”

 

Fundsmith Equity Fund

91% of Global Equity Funds available for sale in the UK have either underperformed the benchmark or have failed to survive.

Terry Smith’s strategy is to own between 20 and 30 stocks. He believes a more concentrated portfolio of high-quality companies is more efficient. 

Mr Smith believes a contributing factor to this is that most fund managers own too many stocks. He said, “How much can you know about the 80th company in your portfolio?”. Terry Smith’s strategy is to own between 20 and 30 stocks. He believes a more concentrated portfolio of high-quality companies is more efficient. 

This has certainly proven to be the case for the Fundsmith Equity fund as it has consistently ranked among the best performing funds in the market. Over the past 5 years alone this fund has managed to return growth of 139.18%, which was better than 98% of all other funds in the IA Global sector and well above the 68.61% sector average. The fund has ranked 6 out of 257 funds over the last 5 years, topped only by funds such as the Baillie Gifford Global Discovery Fund (achieving 160.06% over the last 5 years, and the top sector fund 'Morgan Stanley Global Opportunities' which achieved 193.03% over the last 5 years.

 

Fundsmith Equity Performance

 

Fundsmith Equity Performance Dampened By The Coronavirus Pandemic

The market crash in March this year hit many markets hard with the IA Global sector averaging a drop of 24.19% in the period between 21st February and 23rd March 2020.  The Fundsmith Equity fund also sits within the IA Global sector but withstood the crash better than most of its competitors experiencing a drop of 19.08%. However as demonstrated by the table above, since the peak of the crash on 23rd March to 1st August, the Fundsmith Equity fund hasn't been able to match the performance of its peers and returned 1.37% below the sector average. 

Over the past year, Fundsmith Equity has had its worst sector ranking since it launched with 1 year returns up to 31st July of 6.27% ranking 108th out of 326 funds in the IA Global sector. In contrast, the top ranked fund in the IA Global sector over the past 12 months was the Baillie Gifford Long Term Global Growth Investment fund which returned growth of 63.49% for the period.

 

Over The Past Decade, The Fundsmith Equity Fund Has Few Equals

The past 12 months aside, the Fundsmith Equity fund has had a stellar performance history which has helped it become an investor favourite. It is currently the largest of all 3,000 plus unit trust and OEIC funds available to UK investors, with funds under management now topping £20.6 billion; and since its launch almost 10 years ago it has managed to return growth of 408.66% compared to the 133.24% averaged by the IA Global sector. 

The only other fund within the IA Global sector to top this growth was the Baillie Gifford Global Discovery fund. This fund has consistently been the top performing fund in the sector and over the same 10 year period it managed to return growth 474.99%.

Although the fund has a Global approach 65% is invested in US equities, Mr Smith has said this is not deliberate. “We have no bias towards any country, including the US, and are simply looking for the best companies to invest in. We are looking for a combination of high quality and reasonable value, wherever they may be incorporated, headquartered or listed in the world.”

 

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Is The Fundsmith Equity Fund Too Big?

Last year the investment industry was left reeling after the collapse of Neil Woodford’s investment empire. 

Once known as a ‘star fund manager’ and a favourite with many investors Woodford's troubles came to a head in June of last year when, after two years of poor performance, he ran out of cash reserves to return to investors who were fleeing his Equity Income fund in their droves. It was a remarkable fall from grace for Woodford who had hoped to build an investment brand to rival the industry giants.

The Woodford story has left many private investors weary of such large fund managers that attract such attention. However it is important to note that Woodford was a big advocate of investing in smaller mid cap opportunities, resulting in liquidity issues. Fundsmith's approach is different in the sense he invests in more established larger stocks, which would not lock him in should he require more liquidity.

 

Fundsmith Sustainable Equity Fund Review

Despite previously saying that ethical funds perform poorly, Terry Smith entered the sustainable investment market in November 2017, by launching his Fundsmith Sustainable Equity fund.

The Fundsmith Sustainable Equity Fund follows the same Global strategy as the highly successful Fundsmith Equity Fund but as an ethical themed fund it has a number of key differences. The fund excludes sectors that do not fit sustainability categories of environmental, social, governance and innovation.

Sectors excluded from the Fundsmith Sustainable Equity fund

  • No Aerospace and Defence 
  • No Brewers, Distillers and Vintners 
  • No Casinos and Gaming 
  • No Gas and Electric Utilities 
  • No Metals and Mining 
  • No Oil, Gas and Consumable Fuels 
  • No Pornography 
  • No Tobacco

The sustainable investment industry is of growing importance to investors. The fund currently manages £372 million of client assets, which although small in comparison to their flagship equity fund it is still a sizeable share of the ethical investment market.

Since its launch in November 2017, this fund has returned growth of 40.15% up to 31st July 2020, which is slightly below the 42.17% returned by the Fundsmith Equity fund during the same period. 

However, over the last 12 months the fund performed worse than 55% of competing funds within the IA Global sector with returns of just 3.97%. In contrast, another ethical fund within the same sector, the consistently top performing Liontrust Sustainable Future Global Growth fund, returned growth of 15.73% for the period.

 

Fundsmith Sustainable Equity Performance

 

Fundsmith Emerging Equities Trust (FEET)

Fundsmith launched FEET as a variation on their existing investment strategy with the Fundsmith Equity fund but with one added dimension: the companies invested in by FEET will have the majority of their operations in, or revenue derived from, Developing Economies and will provide direct exposure to the rise of the consumer classes in those countries.

Since its launch in June 2014, the performance of the Fundsmith Emerging Equities Trust has yet to come close to that returned by the Fundsmith Equity fund. For the 5 year period up to 31st July 2020, the trust has only managed to return growth of 9.07%, which pales in comparison to the 139.18% returned by the Fundsmith Equity fund over the same period. It’s performance also fell well below the 30.63% averaged by other investment trusts within the same sector, which further highlights its disappointing performance.

Disappointed by the trusts performance, Terry Smith last year apologised to his investors and announced that he was handing over the day to day control of the trust. At the time Smith said, ‘Every human being, including me, has a limit to the amount of things they can focus on,’ he said. ‘Having people who are actually full time working on the trust as portfolio managers is more of a necessity than I thought it was.’ 

 

Fundsmith Emerging Equities Trust Performance

 

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Smithson Investment Trust

When Smithson launched in October 2018, it received unprecedented demand that saw it break the record for raising the greatest amount ever by a UK domiciled trust in its initial public offering (IPO). 

Investors trust in Smithson has been well rewarded. In the period since its launch up to 31st July 2020, Smithson has returned very strong growth of 48.20%. 

Terry Smith launched Smithson based on his belief that small and medium sized companies outperform large companies. Smith points out that small and mid cap companies have fewer research analysts studying them than larger ones and as such, it stands to reason that there may be less known about the mid cap stocks and consequently more discrepancies between price and value that Smithson can take advantage of.

Fundsmith's philosophy for Smithson is to look at companies within industries which have a history of delivering long-term value and avoid the temptation of looking at companies in industries that do not. Fundsmith believes there are many fads in investing which come and go: “the Dotcom boom; the mining “super cycle” (which turned out to be just a plain old cycle); the credit bubble; and most recently the cryptocurrency craze, are all examples in a continuous stream of ‘new’ ways to make money. "There are no new ways to make money. It is now a subject over which people have obsessed for centuries and so radical discoveries are unlikely.” he says.

 

Fundsmith's Performance Is Hard To Ignore

With the exception of the Fundsmith Emerging Equities trust, Terry Smith and his Fundsmith brand have proven their ability to develop and effectively manage funds which deliver superior risk adjusted return to investors.

Terry Smith is often outspoken and not afraid to ruffle industry feathers but as a fund manager his results have been exceptional. His strategies are built for the long term and despite the troubles experienced by his Fundsmith Emerging Equities Trust, Smith is as confident as ever that his strategies will deliver.

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