We recently hosted a series of seminars in London on the benefits of Investment Trusts. For those of you who weren’t able to attend, we’ve gathered together some of the juiciest insights from the evening. In this seminar, the first of the three, John Bennett, Director of European Equities at Janus Henderson, reveals why he prefers dinosaurs to unicorns, explains why being a mean reversionist has driven him to drink, and sings the praises of closed-end funds.
John described himself as a cash flow valuation manager, rather than a deep value manager. He confessed that when faced with a business with a billion-dollar valuation with no revenues or profit, it makes him look and feel like a bit of a dinosaur. Cash flow matters too much to him to feel confident with Silicon Valley unicorns. John prefers to deal in closed ended funds. He argued that they are the best vehicle bar none for a fund manager to manager his or her client’s assets. He made his case for why it’s important that closed ended funds don’t go the way of the dinosaur.
John suggested that the best way to know how to invest is to pay attention to what a fund manager does with their own money, not what they say.
“If you get a fund manager who runs open ended money alongside closed ended, where will they put their money? Closed ended. That’s where my money’s going. The single best performing vehicle I’ve got is Henderson European Focus Trust. That’s for a reason. It’s fixed capital. It lets me do things my open-ended funds cannot do.”
John reasoned that open-ended funds can simply get too big and that after a run of good performance, people who bought at the wrong time tend to panic and sell. This doesn’t happen in a trust, (the reasons why we’ll revisit later). John identifies as a mean reversionist. As he put it, he’s the opposite of an extrapolation-ist. John believes in patterns of recessions and booms.
John went on to explain in greater detail what he meant by mean reversion. He used his recent investment in Carlsberg as a case study. He stated that while beer in general is not a growth market, with Carlsberg there was an opportunity for a mean reversal. Carlsberg’s margin was at 12%, dwarfed by ABInBev’s outrageously high 29.2%. To John, meeting Heineken’s 16% margin seemed quite achievable in comparison. Carlsberg have had a history of over promising and under delivering, something the company were keen not to repeat.
“Previous management opened up multiple breweries in China because they wanted to be the fastest growing brewer on the planet. That’s like a banker coming to you and saying I’m going to become the fastest growing bank. Run for the hills! Banking and beer are not growth industries. They are going to have to do risky things to get that growth. Carlsberg became an empire builder of quickly shrinking empires.”
John described how his confidence in Carlsberg’s ability to improve its margin grew. It appeared to him that a properly run brewery should be very cash generative. He explained that in a closed ended fund he could bide his time, checking with management quarterly or even every six months. He can wait for those profit margins to naturally wax and wane. In an open-ended fund this wouldn’t be possible. You’d either get subscriptions that dilute it or redemptions that inflate it.
John voiced his concern that a mean reversion hasn’t happened in the tech industry since the crisis. In his eyes, this is due to the misallocation of capital through extrapolation. He cited Bitcoin as a terrific example of gross misallocation. John restated his belief in patterns and cycles, asking why tech companies are now issuing bonds that can convert to stock. He pointed out that issuance of these types of bonds also peaked in 2000 and 2007, right before the crisis. John admitted that there’s a chance he could be wrong, but according to him the patterns point to an imminent mean reversion. His feeling, if history is anything to go by, is that tech and the growth stock mantra will soon be challenged. In light of this, John continued to champion the benefits of a closed-ended fund.
John posited that one of the most important things for a fund manager to consider in managing closed-ended vs open-ended funds, is that three years is arguably the worst period over which to rank funds. A bad six to nine months can ruin a three-year number in an open-ended fund, whereas a five-year number with 18 bad months baked in could be a raging success. What an investment trust allows you to do is gain permission to fail for a year or even two. John stated that the type of investor that buys investment trusts tends to think longer-term.
“Our job is to be on the right side of surprise. Its price is in short-term run off... The one commodity that we are afforded in the closed end world is the scarcest commodity in our business; patience. You can only be as patient as your client. This is capital that is patient.”
To watch John’s presentation, please click here.
