Foreword
By Annabel Brodie-Smith
Welcome back after a long hot summer - I hope you enjoyed it. I have eaten croissants and drunk rosé in the South of France and have survived a drastic move from central London to Oxfordshire. It’s great to look out of the kitchen window and see the squirrels playing in the garden but the commute will take some getting used to!
You have the opportunity to win £3,000 to invest in an investment company of your choice just by filling in our short survey on saving for children. Please do participate as we’d like to get across the message of the benefits of long-term saving to parents and their children as part of our 150th anniversary celebrations.
This week Amazon become the second public company to be worth $1 trillion joining Apple which hit the trillion-dollar milestone in early August. This demonstrates the increasing influence of technology, so it’s an appropriate time to look at how some of the global investment companies are incorporating technology in their portfolios. We gather views from Scottish Mortgage, Bankers, Brunner and Mid Wynd International.
There’s some interesting facts. Alex Crooke of Bankers thinks online shopping is still in its early days: “In the US, e-commerce accounts for just 13% of retail sales and its growth rate has actually been increasing in the last two years.”
Far away from Oxfordshire, Alasdair McKinnon, who manages the Scottish Investment Trust, has been living it up in New York. He identifies some ‘fads’ “because where New York leads, the rest of the world very often follows”. However, Alasdair makes the point that fresh dog food in special fridges in New York supermarkets is evidence that it’s been way too easy for businesses to raise cash because of cheap money and this is coming to an end.
"You could have the opportunity to win £3,000 to invest in an investment company of your choice just by filling in our short survey on saving for children"
Annabel Brodie-Smith, AIC
However, two views make a market, so it’s fascinating to hear his contrarian view that traditional retailers in Manhattan were doing better than expected when facing online competition.
Finally, linking fads, fashion and technology Ian Cowie looks at the popularity of different styles and sectors in investment considering the current popularity of the FAANG stocks – Facebook, Apple, Amazon, Netflix and Google – listed as Alphabet. He reminds us not to get too carried away with FAANGs or any investment trend and revisits the tech bubble bursting in 2000. His sensible view is: “The simplest and surest way for investors to cope with these uncertainties is diversification; or spreading our investment exposure over a range of assets rather than relying too heavily on a single company or country.”
Wishing you a good autumn. I’m about to embrace country life by going blackberry picking this weekend.
Annabel Brodie-Smith
Communications Director, AIC
Technology: the summit or the start?
Investment companies comment on the technology sector's opportunities and outlook
This week Amazon joined Apple to become the first public companies in history to reach market capitalisations of $1 trillion. This is symbolic of the rapid expansion of technology in the twenty-first century and the strong returns that have been achieved. But with technology companies hitting record highs and making up a growing portion of indices, how are investment companies approaching this theme in their portfolios?
The AIC has collated comments from investment companies investing in technological innovation and disruption including Scottish Mortgage, Bankers, Brunner and Mid Wynd International.
Why technology?
Simon Edelsten, fund manager of Mid Wynd International Investment Trust said: “Investing in technology is key for Mid Wynd as innovation drives growth and keeps companies competitive. We seem to be going through a period of particularly rapid change from developments in the internet and further adaptations of cheap computing power such as artificial intelligence and data processing. These changes challenge many established business models – such as high street retailing – while opening new investment opportunities.”
Catharine Flood, client service director of Scottish Mortgage Investment Trust said: “It is a common misconception that Scottish Mortgage invests in ‘technology’. We don’t. We simply look for any and all companies with sufficient potential to be the standout growth companies of the coming decade. The large platform companies such as Amazon, Google and Facebook in the US and Chinese giants Alibaba, Tencent and Baidu, have created a paradigm shift in the global economy to a ubiquitously mobile, digitally interconnected world. Gene sequencing company Illumina’s technology dovetails with this and is underpinning a global drive towards a personalised genomic-based revolution in healthcare. Tesla is facing the challenge of driving a shift away from fossil fuels.
“We do tend to invest in companies which create or utilise new technologies to develop deep, long-term competitive advantages in addressing large opportunity sets, though we will invest in any business which has this strong asymmetry to their potential long-run returns. Often therefore what we are really doing for Scottish Mortgage is investing in those businesses which are driving progress.”
Alex Crooke, manager of The Bankers Investment Trust said: “As a general rule, we are looking to invest in undervalued companies which have an enduring franchise in a structurally growing end market. The technology sector contains many well-run global leaders which are increasingly taking share from other areas of the economy.”
Where are the opportunities?
Lucy Macdonald, portfolio manager of The Brunner Investment Trust said: “Brunner has a dual objective of real income and capital growth. The broad technology universe offers opportunities for fulfilling both objectives, offering long-term capital growth and some growing dividend yields. IT budgets across the corporate sector are growing strongly, fuelled by robust corporate profits and the urgent threat of disruptive change. End markets favoured for spending, and where we have active exposure, are digital transformation, cloud computing and the Internet of Things. We also favour online travel and digital payments.”
Simon Edelsten, fund manager of Mid Wynd International Investment Trust said: “Our philosophy in Mid Wynd is safety first and if we find, as in Amazon last year, that the share price has moved beyond reasonable forecasts of future cash flows, we sell our holding. In this case we have been shown to be much too early, though our sale of Facebook now looks more prudent.
“Generally, being global investors, we find we can move on to less well known areas of growth and reinvest our profits at more comfortable valuations. Selling some of our FANG holdings came at a time when we could invest in Japanese companies which are global leaders in robotics and automation. These proved fine replacements for our internet investments and continue to convince us they have very strong longer-term growth prospects while trading at very reasonable valuations.”
Catharine Flood, client service director of Scottish Mortgage Investment Trust said: “The initial creative crisis phase has already shifted into a new normal, a digitally interconnected paradigm powered by the data it creates. Those second order companies, such as Twitter, which tried to compete directly only bought incremental changes to the paradigm and their returns have reflected their more limited impact. Of more interest to us are the next generation of companies building their businesses on top of this digital infrastructure. They are addressing specific and large markets such as financial services (Ant International), digital media (Netflix, Spotify), food consumption (Meituan, Delivery Hero and Grub Hub) and transportation (NIO, Full Truck Alliance and Lyft).”
What’s the outlook?
Alex Crooke, manager of The Bankers Investment Trust said: “As long-term focused investors we still believe many of the more powerful secular trends within technology remain underappreciated by the wider market, for example, the disintermediation of bricks and mortar retail stores by e-commerce. Whilst we are all quite familiar with ordering goods online, it is important to note we are still in the early stages of adoption. In the US, e-commerce accounts for just 13% of retail sales and its growth rate has actually been increasing in the last two years. A major beneficiary of this is Amazon, which although it looks expensive on near-term valuation multiples has the potential to substantially grow its profitability in the years ahead as its growth investments naturally begin to subside.
“Another point to mention is the very strong balance sheets many of the more mature technology holdings within our portfolio possess. Apple, Microsoft, Cognizant and Activision Blizzard all boast net cash balance sheets and growing dividends, an attractive combination of resilience and cash distributions for the patient investor.”
Lucy Macdonald, portfolio manager of The Brunner Investment Trust said: “After the strong equity performance we have seen since the financial crisis, there are pockets of overvaluation but in areas of
"We still believe many of the more powerful secular trends within technology remain underappreciated by the wider market"
Alex Crooke, The Bankers Investment Trust
accelerating growth, valuation can remain optically high for extended periods. So what do we avoid? Overvaluation coupled with low quality, decelerating growth or potential obsolescence.”
Catharine Flood, client service director of Scottish Mortgage Investment Trust said: “The scale of the returns from each of these platform businesses so far barely reflects the scope of the changes they have set in motion. They remain at the forefront of progress, with a long way yet to go. The challenge for us is always to think about the potential of what might happen from here as the application of this information technology expands into new industries.
“Though more commonly noted for our optimism, we do have some concerns over the risk of the destructive power of these companies on many of the traditional large incumbents, particularly in the traditional ‘defensive’ sectors. For example, more value was immediately destroyed in aggregate in the businesses disrupted than was created in Amazon and the businesses it acquired, such as WholeFoods, as it broadened the application of its strengths into new areas.
“Many of the established business models in a range of industries have come through previous technological revolutions in the twentieth century unscathed, as these had not touched them directly. The managers of Scottish Mortgage are questioning whether the breadth of today’s paradigm shift might now lead to a greater period of stress.
“Exponential development rates require an ability to embrace uncertainty and change in a way many of the challenged incumbents in a wide range of industries are simply unaccustomed to. The managers of Scottish Mortgage believe in the coming decade returns are likely to go to those businesses best able to embrace progress and invest accordingly.”
Ian Sayers, chief executive of The Association of Investment Companies said: “Whilst it's well known that investment companies in Sector Specialist: Tech Media & Telecomm offer investors access to the technology sector in a targeted way, it's interesting that investment companies in other sectors can provide investors with exposure to technology too. Investment companies' closed-ended structure, active management and ability to spread risk across a variety of countries and companies makes them well suited to harnessing the opportunities of the future.”
"The scale of the returns from each of these platform businesses so far barely reflects the scope of the changes they have set in motion"
Catharine Flood, Scottish Mortgage Investment Trust"
Is the US due a reappraisal?
Alasdair McKinnon, manager of the Scottish Investment Trust, reflects on his recent trip
Alasdair McKinnon, Manager, The Scottish Investment Trust
"If I'd lived in Roman times, I'd have lived in Rome. Where else? Today America is the Roman Empire and New York is Rome itself." John Lennon
I’ve just spent a week in New York, visiting companies and trying to get a feel for what’s going on in America. New York isn’t the US, of course; it’s not even the capital. It is, however, now the real seat of power, as the blocked-off streets around Trump Tower testify.
But whatever the distortions of seeing the US from the Big Apple, it does give you some idea of what’s happening to the country as a whole.
It’s a big country. But its market is even bigger. The US now accounts for 55% of the world’s market capitalisation. That’s not far from the level of Japan in 1990. And look what happened there. All empires grow decadent eventually. So are there signs of decadence in the American Empire?
Well, there are certainly major changes underway. One theme that came through clearly was the depopulation of rural areas and the rise of the megacities. Various rural areas are advertising bursaries to tempt graduates back from the big cities. The shift to megacities is a global phenomenon, and the US is no exception.
Whenever I visit New York, I always keep an eye out for the fads – because where New York leads, the rest of the world very often follows. Fifteen years ago, the fads in evidence were the Atkins diet, the Blackberry and the iPod – all of which went global soon after. This time, the most obvious fad was the salad bar. Salad was everywhere – tossed with any of a myriad of dressings, most of which looked sufficiently calorific to offset any health benefits.
"The US now accounts for 55% of the world’s market capitalisation. That’s not far from the level of Japan in 1990. And look what happened there"
Alasdair McKinnon, The Scottish Investment Trust
What interested me most, though – and ruffled feathers when I mentioned it – was the fondness of my fellow investment professionals for technology and growth stories: basically, the pursuit of growth at any price – even at the expense of actually making money. Many of today’s start-up brands are sustained by an endless flood of cheap funding – a product of the decade-long experiment in quantitative easing.
There’s certainly a degree of blind faith in disruption. During my trip, I spoke to the toothpaste manufacturer Colgate-Palmolive. The company pointed out that its toothpastes and those of its big-name rivals are, demonstrably and scientifically, the best in the business. But that hasn’t stopped the appearance of niche toothpaste start-ups, even though their products don’t work particularly well.
Another good example comes from the shaving market where Gillette has long dominated through its technically excellent products, sold at ever increasing prices. The expense of shaving may be one reason for the rise of beards in recent years! A potential disruptor
"One area in which I detected robustness rather than decadence, though, was retail"
Alasdair McKinnon, The Scottish Investment Trust
loomed in the form of Dollar Shave Club, which supplies cheap shaving products on a subscription model. Its razors aren’t nearly as good as Gillette’s. But that didn’t stop Unilever paying a cool $1 billion to buy the business with no immediate plan to make profits. It simply wanted to grow.
I saw lots of odd niche products being heavily advertised during my visit – fresh dogfood, for example, which requires special fridges in supermarkets. I’m sure it’s very appetising for the dogs, but it appears to be yet more evidence that raising cash has just been far too easy.
It is safe to conclude that growth fuelled by lavish advertising spending will never be sustainable. Those ventures can only exist because of cheap money. And with that gradually coming to an end as the Fed raises rates, it will be interesting to see how this particular symptom of decadence plays out.
One area in which I detected robustness rather than decadence, though, was retail. My visit allowed me to sample the shops in Manhattan. I was particularly impressed by Macy’s flagship department store, which seemed to offer just about every product and brand you could want. It was easy to see how you could succumb to ‘Costco syndrome’ in such a place – buying much more than you initially planned.
And that helps to explain why traditional retailers are doing much better than many expected in the face of the threat from e-commerce. Now that retail chains have added online platforms to their bricks-and-mortar stores, which offer convenience to consumers through central locations and easy returns, they are increasingly achieving ‘best of both’ status.
With more money in their pockets as wages rise, US consumers are spending again, and the likes of Macy’s are well placed to benefit. The share prices of US retailers have shown signs of life recently, as investors begin to reassess their prospects.
It’s hard to sum up such a huge and varied market as the US. But while retail appears to be reviving, other sectors remind me of Wile E. Coyote running off a cliff – the legs are still going, but there’s not much holding them up. Investors’ indiscriminate appetite for technology and for growth at all costs might need to be drastically reappraised as the era of cheap money comes to an end.
"Investors’ indiscriminate appetite for technology and for growth at all costs might need to be drastically reappraised as the era of cheap money comes to an end"
Alasdair McKinnon, The Scottish Investment Trust
A final thought: one thing that struck me when visiting various company headquarters was just how commonplace ‘Summer Fridays’ have become. Employees can take a half or full day off every Friday during the summer. In many ways, this is a good thing. But I’m fairly sure that the same companies’ factory workers won’t be getting this perk in Indonesia or other low wage economies. Despite a feeling that the market’s current complacency is probably misplaced, there are, for contrarian investors like us, plenty of great opportunities in the US.
FAANGs, fads and investment fashions
Ian Cowie explains why investors should be wary of blindly following the crowd
London Fashion Week, which begins on September 13, often unveils eye-catching designs but might also prompt profitable thoughts for investment company shareholders this year. At first glance, fashion and finance might seem to have little in common but any market where people buy and sell goods and services will see the popularity of different styles and sectors rise and fall over time, driving prices up and down.
For example, consider the so-called FAANG stocks; Facebook, Apple, Amazon, Netflix and Google (which is listed in New York as Alphabet). Rising demand for this relatively small group of technology companies has delivered most of the share price returns from the world’s biggest stock market during the last year.
At the other end of the popularity scale, consider another acronym; the so-called BRIC economies of Brazil, Russia, India and China. These emerging markets have recently fallen from favour for a variety of reasons – including talk of trade wars, a stronger dollar and political instability – depressing returns from shares listed there.
This dramatic divergence in financial fashion raises important questions for investors. Will these trends prove sustained or merely passing fads and what is the best way to maximise our exposure to wealth-creating opportunities while minimising our vulnerability to stock market shocks?
While the past is not necessarily a guide to the
"It is only fair to say that history is not altogether reassuring for followers of fashion who are biting into FAANG stocks for the first time today"
Ian Cowie
future, it is only fair to say that history is not altogether reassuring for followers of fashion who are biting into FAANG stocks for the first time today. The risk of buying high and selling low was demonstrated at the start of this century when the technology, media and telecommunications (TMT) bubble burst in 2000 and share prices fell sharply from record peaks hit in the late 1990s.
Then, as now, there was rising excitement about technology in general and the internet in particular. Talk of a ‘new paradigm’ encouraged many investors to value businesses on hopes of growth rather than traditional measures, such as expressing share prices as a multiple of earnings – or the price/earnings (P/E) ratio.
However, it may be excessively simplistic to fear a repeat of the TMT boom and bust today because many technology companies are now generating substantial revenues, earnings per share and profits. Another important consideration for investors is that, although acronyms can help simplify complex concepts, the performance of individual shares within these groups varies widely.
The simplest and surest way for investors to cope with these uncertainties is diversification; or spreading our investment exposure over a range of assets rather than relying too heavily
"It may be excessively simplistic to fear a repeat of the TMT boom and bust today because many technology companies are now generating substantial revenues"
Ian Cowie
on a single company or country. Investment companies automatically implement this strategy with the added benefit of sharing the cost of professional fund management or stock selection.
This enables individual investors to gain exposure to sectors where we may have little personal knowledge. For example, at both ends of the financial fashion extremes discussed here, I am a shareholder in Polar Capital Technology (PCT) as well as BlackRock Latin America (BRLA), Fidelity China Special Situations (FCSS) and JPMorgan Global Emerging Markets Income (JEMI).
Unlike other forms of pooled fund, investment company shares are priced by the interaction of demand and supply on the stock market. So, if demand is lower than supply these shares may be priced below their net asset value (NAV) – when they are said to be trading at a discount. Contrariwise, if demand exceeds supply then these shares may be priced above NAV – when they are said to be trading at a premium.
Discounts can narrow or widen and are not necessarily a guide to good value. Some shares are cheap for a reason.
Premiums also fluctuate and do not necessarily indicate that a trust is overpriced. As FAANG stocks and technology investment companies have shown in recent years, some expensive shares can go on to become even more expensive.
"As FAANG stocks and technology investment companies have shown in recent years, some expensive shares can go on to become even more expensive"
Ian Cowie
However, when an investment company is priced at a premium or a discount this provides a numerical indication of whether an investment company is in or out of favour. That can be a useful factor to consider for investors seeking growth, value or momentum; another name for followers of fashion.
Most investment companies are priced at a discount to their NAV, although the average is shrinking as more people become aware of these funds’ advantages. Whatever financial fads come and go, the presence of discounts and premiums may continue to provide helpful indicators for investors who either reckon nothing succeeds like success or, alternatively, others who believe the first step toward making a profit is to buy low.
Ian Cowie is a columnist at The Sunday Times.
