Alice Guy explains why she decided to sell her Fundsmith holding and switch to a passive tracker fund instead.
With the stock market in chaos, it’s a worrying time for investors. Previously stellar growth and tech stocks have faltered, and the global economic outlook is uncertain.
There are no easy answers and even previously solid performers such as Fundsmith Equity are struggling, down 12.9% from this time last year.
Long-term investors have a few decisions to make. Should they stick to their investment strategy, make a few tweaks here and there, or throw their plans in the bin and start again?
For me, current volatility has encouraged me to get back to basics, revisit my original investing strategy and simplify my pension portfolio. That simplification included selling my Fundsmith investment, and here’s why.
My long-term strategy
For a long time, my pension investment strategy has been based on a 70%/30% split. I invest 70% in large-cap global companies with the majority invested in a passive global tracker.
My thinking is that I won’t try to outperform the market with the bulk of my pension. I want to buy a low-cost tracker and play it relatively safe: as safe as you can be while invested in equities! A passive global tracker is well diversified and automatically invests in the world’s largest companies. Any individual companies that fail or underperform have a tiny impact on my investment wealth and fees are negligible at around 0.3%.
The remaining 30% is where I add some spice and try to outperform the market with a mixture of smaller company funds, investment trusts and emerging markets funds. Once or twice a year I check my portfolio and bank the growth from any funds that have outperformed and rebalance to other sectors that have underperformed.
Rebalancing helps me bank the profits when sectors such as smaller companies outperform. It also allows me buy unloved sectors at a discount when they are underperforming, automatically buying low and selling high.
A big caveat here is that this strategy is pretty aggressive and won’t suit many people with a more cautious attitude to risk.
I don’t invest anything in cash or bonds at the moment, for example. This means my portfolio may fluctuate more than someone invested 60% in equities and 40% in bonds. I’m prepared to take a risk as I still have a long way to go until retirement and the stock market tends to outperform other asset classes in the long run. However, if you are nearing retirement or already drawing an income, then a different strategy may be more suitable.
Investing in Fundsmith
All this background is to explain that my investment in Terry Smith’s £22 billion-strong Fundsmith fund a few years ago was really against my own investing rules. Yes, I admit it: even investment writers sometimes break their own rules!
I was attracted by the fund’s buy and hold strategy and its previous strong performance. Smith (pictured below) believes in buying a few good-quality stocks that have growth potential and holding them for the long term. This means the fund has low trading fees, which are a hidden cost in many active funds.
To quote Smith: “we continue to apply a simple three-step investment strategy: buy good companies, don’t overpay, do nothing (i.e., minimising portfolio turnover to minimise costs)”.
I invested in Fundsmith alongside a passive global fund. It was part of my 70% allocation to large-cap global stocks and, for a while, everything went to plan. For a few years, Fundsmith was one of my top-performing funds and gained around 86% between early 2018 and late 2021.
I put more into Fundsmith in March 2020 when the stock market crashed, following the Warren Buffett principle of buying when prices are cheap.
But veering away from my long-term strategy made me feel nervous. Although adventurous compared to many investors, I’m slightly more cautious when it comes to my pension and want to play it safe with most of my fund. Trying to outperform the market is notoriously difficult in the long run and Fundsmith, with its focus on growth companies, is inherently more risky than a passive tracker. Active fund managers can, and do, sometimes get it wrong.
Added to that, as Fundsmith formed part of my large-cap 70% allocation, I had nowhere to rebalance when I wanted to bank my gains. Smaller companies tend to follow the same pattern as growth companies, so both rise and fall together.
Breaking up with Fundsmith
Then in early 2022, something changed. An increasingly bleak economic outlook led investors to ditch growth stocks (companies where most of the value is based on potential future profits) and buy value stocks (proven companies with solid current profits and reliable dividends). This made it even more difficult for growth-focused active fund managers.
Many active funds are growth-focused. They concentrate on growth stocks because it’s much harder to price growing companies, so there’s more potential to find hidden gems. In contrast, value companies are often easier to value as their share price is based on current and more predictable profits.
As Smith says, he owns “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.”
Rising interest rates also caused so-called growth stocks to falter. If a company’s share price is largely based on future profits, then it’s more affected by rising interest rates. Present valuations are based on future profit projections and interest rates are used to discount these future profits back to current values. This means that an expected £10 million profit in five years is worth less today if interest rates are higher.
In the current environment, with economic uncertainty and rising interest rates, many active funds have struggled to compete with their plain-vanilla passive cousins.
During the spring stock market slump, and despite investing in high quality businesses with more reliable income, Fundsmith dropped back more than my global tracker fund. The fund is currently down 12.9% from this time last year, while the IA Global sector is down 10.8%, leaving Fundsmith slightly trailing behind its peers. In contrast my global tracker is down only 3.6% over the same period.
So, in spring 2022 I decided to jump ship and return to my original 70%/30% allocation. I sold the fund over several months and invested the proceeds in my passive global tracker.
Simplifying my portfolio
Deciding to sell Fundsmith was also part of an overall decision to simplify my pension portfolio.
Over the years, I’d ended up with several passive trackers, tracking different parts of the world. I also had many smaller company funds, several emerging markets funds and latterly some sector-focused funds.
Just as an over-cluttered house attracts dust and is difficult to keep clean, an over-complicated portfolio can actually hinder performance. In total I had 23 funds, and it was becoming increasingly difficult to track performance, rebalance my portfolio and make investing decisions.
I decided it was time to have a clear-out and stick to one global tracker fund, alongside a smaller range of actively managed funds.
But although I’ve broken up with Fundsmith, I still have a soft spot for the star performer and may consider it in my stocks and share ISA, where I allow myself a little more freedom. Here, I try to balance short and long-term needs and invest in a bigger mix of funds with a view to build wealth in the medium term.
I don’t have a crystal ball, so maybe I’ll regret selling the popular fund. But for now, I’m more than happy with my slimmed-down pension portfolio. And I may even feel able to take some bigger risks with the 30% part of my pot. Right, off to research some UK smaller company funds!
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.