In a series of recent seminars that we hosted in London, we explored the many benefits of investment funds. In this, our third and final seminar, we heard from Catharine Flood, Client Service Director at Baillie Gifford. Catharine uncovered how chimps are better than people at identifying facts, explained why only 0.3% of companies on the US market are responsible for over half of its $35 trillion value, and revealed how stupid you can look when managing an investment trust and why that’s important.
Catharine started off by discussing how there are very few people who genuinely try and invest long-term. She made the point that there are already lots of very smart people trying to time short-term market moves. Unless you have a clear competitive advantage, why compete in such a crowded space? She explained that Baillie Gifford’s private partnership structure allows them to see past short-term volatility in markets.
Quoting Hans Rosling’s research for the Gapminder Foundation, Catharine exposed how inept we all are at assessing the reality of the world. When faced with multiple choice questions on the state of the world today, whether an expert or a regular person on the street, our perceptions are so far off the mark that a chimp performs better when separating fact from fiction. Catharine argued that the key to investing long-term is seeing past our biases and collecting data that shows what’s actually happening under the news headlines. This isn’t something many do.
Catharine cited another study, this time an academic paper by professor Hendrik Bessembinder of Arizona State University. Bessembinder collected data from every single stock on the US market from 1926 through to 2016. The total value these created was just shy of $35 trillion. Out of the nearly 26,000 companies on the market, only 90 were responsible for creating half of that value. In the long run, Catharine stated, it’s only really a few companies that really matter. At Scottish Mortgage Investment Trust, Catharine asserts they only buy and hold the companies that they think have a reasonable prospect of becoming one of those 90.
Catharine went on to discuss some of the things you can look out for when trying to identify one of these potential companies:
Do they have a large enough addressable market that will allow them to keep growing?
Are they actually trying to grow or are they trying to run their money on a 13-week business cycle for Wall Street’s quarterly earnings?
Are the management of the company actually doing that when you look at where they’re allocating capital?
Catharine warned not to simply go by what you are told. You need evidence that they are putting capital to work to secure their competitive edge long-term.
Catharine reminded us that to benefit from these trends you have to invest over five, ten, even fifteen years. You have to be patient. There will be setbacks, but you should not be concerned with how the quarterly earnings look. They are irrelevant in the long-term. The secret is to identify and encourage long-run depth of ambition and talent. Listen to those who are smarter than you, Catharine urged. The investment trust structure is perfect for this, Catharine suggested.
Catharine demonstrated this through the performance of the Scottish Mortgage Investment Fund’s portfolio:
“This is every stock we’ve owned over 10 years. This is a 4700% return, and this is how stupid we can look [-100%]. There will absolutely be things that we get wrong. There will be things where the world simply overtakes our investment case, where we lose our client’s money. That feels horrible, but it’s not the decisions that you get wrong that make the difference to your returns. It’s the things that you should have been invested in and weren’t.”
Catharine quoted Jeff Bezos to support this:
“Given a 10% chance of a 100 times payoff, you should take that bet every time.”
She acknowledged that this means nine times out of ten you will fail, but that is how it should be. Catharine argued that if you don’t have some investments that don’t work you are not taking the risks you are being paid to take by your clients. The asymmetry between success and failure means that for equities the balance will work in your favour. Catharine made the point to highlight the fact that she is not advocating ill-discipline in cash allocation, just that you shouldn’t look at each individual product and demand that every one of them works.
On the benefits of thinking long-term and understanding what is actually happening in the world, Catharine turned towards computing. She reasoned that if investors had really understood the implications of Moore’s law in the 1960s, whereby computing power roughly doubles every 18 months, they should have been able to predict how much money how much money there was to be made out of IBM and then Microsoft. They would have seen the shift from digital, to mobile, to machine learning, to AI, and understand the implications of that on a whole range of industries. Catharine suggests that China is a similar structural opportunity.
On the topic of whether or not to invest in China, Catharine drew parallels to a similar conversation that happened roughly 100 years ago. During the Scottish Mortgage Investment Fund’s earliest days there was much discussion as to whether you should put your money in an emerging market like America or was Argentina, a more established and familiar market, a safer bet. Catharine explained that China’s digital economy is far ahead of ours. The likes of Alibaba, Tencent, and Ant Financial are not emerging market companies copying ours; they are global leaders:
Alibaba has over 70% market share of ecommerce in China.
Facebook look to Tencent for what they could and should be doing with their assets.
Ant Financial is the largest money market fund in the world.
“Sometimes there are real opportunities that change the nature of other opportunities available. On a five to ten-year view, if you’re investing client’s assets for that short of time, this really does matter. These companies are huge.”
Catharine rounded up her presentation by praising what she views as one of the main strengths of an investment trust; over the 150 years that they’ve existed, they have continued to evolve. As the world changes, so do investment funds. Those that succeed utilise what they have in order to do what they do better.
To watch Catharine’s presentation, please click here
