Warren Buffett is one of the most successful investors of all time and has amassed a personal fortune of more than $67 billion over a long career stretching back to the 1950s and beyond. If you want to profit directly from his investment expertise you would need around $219,000 to buy a single share in his Berkshire Hathaway holding company, but with the 85-year old getting near to retirement it would make more sense to consider one of his many protégés.
The sage of Omaha is obviously unique, yet there are plenty of UK-based fund managers who try to emulate his style and success. Nobody has taken this further than Keith Ashworth-Lord, who runs the £32.5m ConBrio Sanford DeLand UK Buffettology fund and is the only one in the UK to have licensed the use of the ‘Buffettology’ name.
Ashworth-Lord aims to achieve a superior annual compounding rate of return over the long term, defined as between five and ten years, by investing mainly in the equity of UK businesses with strong operating franchises and experienced management teams. These companies are selected according to the principle of ‘business perspective investing’.
This means that each business must have an enduring franchise with pricing power, consistent operational performance, relatively predictable earnings, high returns on capital employed, strong free cash flow, a strong balance sheet, a management team focused on delivering shareholder value, and have no undue reliance on acquisition-led growth.
Ashworth-Lord has put together a concentrated portfolio of 25-30 stocks and justifies this using one of Buffett’s famous quotes: “A lot of great fortunes in this world have been made by owning a single wonderful business. If you understand the business, you don’t need to own very many of them.”
In April 2011, the first month after the fund was created, the manager bought 16 different shares and 11 of them are still in the portfolio today. He tries to avoid taking short-term profits and has a typical holding period of five to ten years.
The largest positions at the end of March included relatively obscure businesses such as: Bioventix, Scapa Group, Dart Group, NCC and Trifast, as well as better known ones like Domino’s Pizza. It seems to work as over the last five years the fund has returned 106.8%, which puts it in fourth place out of the 259 funds in the UK All Companies sector.
Going like a train
It is very similar to the approach taken by Nick Train, whose CF Lindsell Train UK Equity fund is just behind it with a five-year return of 104.5%. He and his co-manager, Michael Lindsell, use Buffett’s strategy of buying the undervalued shares of great companies with a view to holding on to them for the long term.
They even have one of the great man’s quotes on their website: “Stocks are simple. All you do is buy shares in a great business for less than the business is intrinsically worth, with managers of the highest integrity and ability. Then you own those shares forever.”
This may sound straightforward but it is not easy to identify these sorts of exceptional companies. The way that Train goes about it is to look for durable, cash generative franchises, whose shares are undervalued relative to their intrinsic worth based on a discounted cash flow model.
He says that there are very few businesses that meet these demanding criteria and by building a concentrated portfolio of them he can reduce the risk to investors’ capital. That is why he will typically only have 20 to 35 holdings and a low level of turnover, normally less than 5% per annum, which also saves on transaction costs.
At the end of March the top 10 holdings accounted for a massive 72.7% of the £2.1bn CF Lindsell Train UK Equity fund. These included the RELX Group, Unilever, Diageo, Sage, Heineken, Hargreaves Lansdown and the London Stock Exchange.
The maverick approach
Buffett is regarded as a bit of a maverick, a man who leads a frugal lifestyle despite his enormous wealth and who still lives in the same house he bought in Omaha, Nebraska in 1958. He has steered clear of the rich trappings of Wall Street and is certainly not your typical financier.
Another outsider is Terry Smith, an outspoken critic of the fund management industry who set up his own investment house, Fundsmith, in 2010 to provide a straightforward alternative for investors. In typically modest fashion he said at the time that it would be “the best fund ever”.
The two men have very different personalities, but their investment approach is remarkably similar. Smith describes himself as a long-term investor and says that he will only buy high quality businesses that can sustain a high return on operating capital employed.
His holdings also need to have advantages that are difficult to replicate, must not require significant leverage to generate returns, have a high degree of certainty of growth from reinvestment of their cash flows at high rates of return, be resilient to change, and be attractively valued.
There are not many companies that meet these stringent criteria, which is why at the end of March the £5.5bn Fundsmith Equity fund had just 27 holdings. As he says on his website: “Just a small number of high quality, resilient, global growth companies that are good value and which we intend to hold for a long time, and in which we invest our own money.”
The top 10 holdings are mostly household names and include the likes of Microsoft, Philip Morris, Sage, Dr Pepper Snapple and Johnson & Johnson, as well as less familiar businesses such as Stryker, Amadeus and CR Bard.
Over the last five years Fundsmith Equity has been the best performing fund in the Investment Association’s Global sector with a return of 138.8%. It is just ahead of Lindsell Train Global Equity, which was in fourth place with a gain of 113.5%. This is another concentrated portfolio with many of the same major holdings as their UK fund, although there is no obvious overlap with the Fundsmith portfolio.
In June 2014 Terry Smith launched his second fund, an investment trust that focuses on the developing economies. The Fundsmith Emerging Equities Trust (FEET) uses the same investment strategy as his other fund, but provides exposure to less mature markets. It has had a difficult start to life with the shares down 2% at the end of March from the issue price.
Tried and tested
The best known fund manager operating in this country is Neil Woodford, who made his name at Invesco Perpetual before setting up his own investment company. He has said that Warren Buffett is one of the people who have influenced how he has developed as a portfolio manager.
Woodford ran the Invesco Perpetual Income Fund from October 1990 to May 2014 and during this period he generated a 14.3% annualised compound return, which was significantly ahead of the 9.6% achieved by the FTSE All-Share index and the 9.3% average return from the UK Equity Income Sector. What makes it even more remarkable is that it was achieved at a lower level of volatility and with a smaller maximum drawdown (peak to trough loss) than both of these benchmarks.
In 2014 Woodford set up his own business, Woodford Investment Management, with his first fund − CF Woodford Equity Income – being launched in June of that year. This uses the same strategy that he developed so successfully at Invesco Perpetual.
The investment process aims to identify stocks where the market has mispriced the value of the company’s prospective cash generating ability within the prevailing macro-economic environment. He will then invest where he believes that the market view will adjust over time, thereby resulting in a higher share price.
His approach is similar to the other Buffett protégés in that he concentrates on a company’s future cash flow, which is harder for the Board to manipulate than most of the other figures in the accounts. Where he differs is that he pays more attention to the top down view of the economy.
From when it was launched in June 2014 to the end of March 2016 the CF Woodford Equity Income fund was up 18.7%, while the FTSE All-Share index fell 2.5%. The top 10 holdings account for just under half of the portfolio and include the likes of Imperial Brands, AstraZeneca, GlaxoSmithKline, British American Tobacco, Reynolds American and Roche.
The man who inspired Buffett was Benjamin Graham, whose value-based investment strategy is described in his book ‘The Intelligent Investor’. Writing in the preface to the revised edition, Buffett says: “To me, Ben Graham was far more than an author or teacher. More than any other man except my father, he influenced my life.”
Graham’s strategy forms the basis of Church House Investment Management’s Deep Value Investment fund, which invests in small cap companies that are trading at a discount to their net asset value.
These sorts of businesses tend to have strong balance sheets that provide a margin of safety, but have suffered a temporary loss of profitability due to specific short-term factors. This type of scenario makes it possible to buy solid companies at attractive prices.
The £9.5m Church House fund holds a concentrated portfolio of 20 to 25 stocks that exhibit ‘deep value’ characteristics. These are mainly listed in London, although up to 30% can be invested overseas.
At the end of March there were 28 holdings including a large cash balance of 27.2%. The biggest positions were in companies such as Record plc, H&T Group, French Connection, Icahn Enterprises and Walker Crips.
It has been a difficult time for value investors and the Church House Deep Value Investments fund has suffered along with many others. After returning 17.4% in 2013 it lost 8.8% in 2014 and 10.7% in 2015 and was also in negative territory for the first quarter of 2016.
Those that buy out-of-favour businesses that are trading at less than their intrinsic worth often need a lot of faith and patience in their approach as it can take time for the market to wake up to their true potential. Even Buffett’s Berkshire Hathaway lost money last year, but nobody can question the long-term success of this sort of strategy when it is properly executed.