Finsbury Growth & Income has underperformed in the last three six-month reporting periods.
Nick Train’s UK stocks investment trust has continued to undershoot its benchmark, prompting the veteran investor to issue an apology to shareholders in its latest half-year results.
On a total return basis, the net asset value (NAV) of Finsbury Growth & Income (LSE:FGT) in the six months to 31 March 2022 fell 2.2% and its share price dropped 3%. In comparison, the FTSE All-Share index (its benchmark) rose by 4.7% over the same period.
Train’s investment strategy is to buy companies that have durable brands and steady growth, such as drinks firm Diageo (LSE:DGE), the London Stock Exchange Group (LSE:LSEG) and digital publisher RELX (LSE:REL). However, he pays a high price relative to profits for these companies.
As inflation and interest rates have risen, investors have punished firms that are richly valued and moved into stocks that are cheap relative to earnings. This “rotation” from growth to value shares has hurt Train, as has his lack of natural resources stocks, which have soared due to high raw material prices.
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Train, addressing shareholders, said: “This is the third consecutive six-month period I have had to report disappointing returns to shareholders. I am sorry that the longstanding Lindsell Train investment approach and the longstanding major holdings in the portfolio have failed to deliver acceptable performance for your company over what is now no trivial period.”
Performance has not improved since the results were released. In terms of share price total return, Finsbury Growth & Income has fallen 5% since 31 March. Over three years, it has now underperformed its benchmark by 12.5 percentage points. Over five it is ahead, but only just.
However, Train pledged not to change his investment approach despite lacklustre returns. He said: “As a significant shareholder myself, I remain convinced that our investment philosophy – of running a concentrated, low turnover portfolio, comprising shares in outstanding companies held for the very long term – remains the best way for me to deliver the returns we all hope for.”
He added that the portfolio is packed with “outstanding” companies and should bounce back. One measure he cites is the “return on capital” (ROC), which calculates the profit a company generates compared with how much capital it deploys to run its business. Train argues that companies with a sustainable ROC rate above 10% are outstanding businesses, and that over long time periods share price returns should match the ROC rate.
The average Finsbury Growth & Income holding has a ROC of more than 15%. Train says: “It is reassuring to me that the underlying profitability of the portfolio is strong and this makes me hopeful that long-term returns from the company's portfolio will also be strong.”
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Nevertheless, Train is paying up for these “outstanding” companies. The portfolio price-to-earnings (p/e) ratio based on the last 12 months of results is currently 25, nearly double the 14 of the UK market.
“We hope this will fall quickly in coming years, because of the strong profits growth we expect from portfolio companies. Nonetheless, even this backward-looking p/e ratio of 25 times represents an earnings yield of 4%.
“To us, compared to the returns on cash or fixed interest, that is still highly appealing, given the combination of inflation protection and real growth offered by so many of the portfolio constituents,” he said.
While the world looks uncertain right now, Train notes that history shows that these times are often the best to invest.
He said: “I always remind myself of this, paraphrased, advice from the late, great investor Sir John Templeton; ‘The best time to buy sound common stocks is when events look most uncertain.’
“This is indeed great advice. Often events don’t work out as badly as people fear; but even if they do, owning shares in solid companies is a good strategy to see you through to the better days to come.”
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The trust’s board continues to back Train. Chair Simon Hayes wrote in the results: “Our portfolio manager continues to believe in the company’s investment strategy, which has delivered attractive returns to investors over many years.
“Your board supports this view and, notwithstanding current economic and geopolitical headwinds, continues to believe that shareholders with a long-term outlook will be well rewarded.”
Investment trust analyst Numis is also optimistic about Train’s investment approach, arguing that investors should not be worried by the ongoing underperformance.
It said: “Given the unique investment process, we would expect performance to be different to the benchmark. The approach involves building a concentrated portfolio of quality UK companies that have strong brands and/or powerful market franchises. This leads to very different sector weightings from the FTSE All-Share benchmark.
“Given its strong track record and differentiated approach, we view Finsbury Growth & Income as one of our favoured UK equity funds.”
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