Updated: Feb 26
Does it ever worry you that the money you have in investment funds is likely being managed by an old, white man? Let me be clear, I am not doubting that these men - many of whom I have learned so much from - are extremely knowledgeable, but in terms of certain trends in the current market, I cannot be sure that some of these famous managers aren’t missing a beat.
Let’s consider the current bustle of companies making strides in the market particularly in the sectors of robotics, cloud computing, gaming and the like. You would almost expect an 18-year-old to know more about these sorts of companies than some of the older folks managing pensions and trusts on our behalf, and I don’t make this assumption without evidence. The legendary investor Warren Buffet famously quipped ‘only [...] buy stocks in companies you understand’. Well herein lies the problem. Many well respected managers - even as recently as Lindsell Train, who admitted in their August newsletter that they do not own enough tech - stray away from areas of the market they are not as familiar with.
The Tech sector has long been avoided by the likes of Buffett, who managed to eek out significant returns in stalwart businesses such as Coca-cola and McDonalds. His first tech purchase was IBM in 2011 (a very poor investment) and he then proceeded to dip his toe in the water with Apple in 2016. I’m sure he often kicks himself for not buying the Google’s, Amazon’s and Microsoft’s in their earlier stages, but his saving grace is that many of his bricks and mortar businesses were still growing their end markets, increasing product sales and winning market share. However I would personally be concerned as to how Americans will consume ever more quantities of Coca-cola, or how many more McDonalds franchises can be squeezed onto already saturated street corners. Whilst the likes of these will remain to be competitive and quality businesses, much of the future earnings growth in mature economies will be derived from digitally based technologies. Therefore, it is clear to me that the excuse of investing only in what you understand will not serve clients in the same way it did over the past few decades.
Investors, whether retail or institutional, will need to pertain curiosity into new technologies and make it their duty to understand them. A clear winner in this sphere would be Terry Smith. Although Smith still applies fundamental valuation analysis to each company under his radar - preventing his fund from owning some of the shiny but overly expensive, unprofitable tech companies the market seems to be chasing to ever dizzying heights - he will frequently run the rule over businesses from the Technology sector and is an adept commentator on varying businesses within the sector. His funds own some great tech names (Microsoft, MercadoLibre, Paypal and Ansys to name a few) and speaking at his 2018 Fundsmith AGM he explained, ‘if the company has performed better than us, we take a look at it.’ The ability to remove the fear around not understanding business models is a likely contributor to the fundsmith outperformance, in comparison to those who shun new technologies due to lack of understanding.
So as a retail investor what can we glean from this perspective?
In some respects Buffett’s words will ring true. I don’t imagine making investments into a sphere you have absolutely no knowledge of would be very rewarding. However, that doesn’t mean sticking with the easily understood businesses of Greggs PLC or Topps tiles. The answer here is to make it your mission to understand the new trends and technologies coming to market. Discover their potential for growth over the next few decades; what will spur successive demand, what could disrupt these technologies, which companies are better players? By combining this rigorous curiosity with the fundamentals of valuation, (not overpaying for a particular stock) you will be able to create compelling returns over the long term.
A recent example of a pay-off from personal curiosity into a company that I did not understand would be my investment in Zscaler, a cyber security company. I had been on the lookout for a cyber security company with potential to bring to my the long-term ISA portfolio. Luckily, one of my good friends worked for a privately held cyber security firm to which I spent an evening interrogating him over a few cold drinks! Within an hour I had identified a clear growth winner in the sector, one which was apparently gaining all the contracts, and most of its competitors were afraid of their software launches coming to market. After going home and doing due diligence and key valuation work, I decided a small position could be allocated, with the potential to build the holding along with the story. Zscaler is now up 45%. Every time I see my friend, I will be extra curious as to how the industry and each competitor is performing in order to garner new information about this industry.
The key to successful investment is the constant desire to learn; to gain knowledge about the companies you are invested in and to widen your knowledge base into sectors that are upcoming in order to remain ahead of the field. I believe that in the future, the ethos of only buying companies you understand will not aid the long-term investor, as the world wades into new digital territory. To have successful long-term gains, we must remain hungry and curious to investigate the companies, fields and sectors that we are unfamiliar with.
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