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Why Invest in a Portfolio of 'Boring' Companies?

MIC PREVIEW: Ahead of Morningstar's Investment Conference in London, we look ahead to what to expect from guest speaker Terry Smith

Ruli Viljoen 13 February, 2013 | 6:00AM

Terry Smith is a well-known personality in the finance industry, having headed up a number of FTSE companies, including Tullet Prebon (TLPR), for which he is currently the CEO. He is an original thinker and has often demonstrated his willingness to bet against the crowd. In November 2010 he launched the FundSmith Equity fund, rated Bronze by Morningstar OBSR analysts, which seeks to invest in high quality businesses whose assets are intangible and difficult to replicate, thereby compounding in value over the years. These stocks are often referred to as high quality businesses and are most commonly found in some of the more defensive sectors. Understandably, many of these companies have performed well in recent years in both relative and absolute terms and investors have preferred the safety and predictability of their earnings streams. The question that has consequently often been asked, is whether or not they remain attractive from a valuation stand-point?

Smith considers “value” in a number of different ways, one of which is to compare the companies’ Free Cash Flow (FCF) yield with the normalised yield over time on the long bond. If Smith & Co. can purchase stocks that have a FCF yield equal to or greater than the long bond yield, and that have free cash flows that can grow over time, he believes they  are getting good value—certainly relative to the so-called ‘risk-free rate’ and possibly even in absolute terms.

Using these metrics, Smith argues that the companies in their portfolio are higher quality than the market, based on their return on capital, and have FCF and dividend yields in excess of the market and the long bond. He also strongly believes that these cash flows and dividends will continue to grow. We look forward to hearing his thoughts on why it remains appropriate to continue investing in a portfolio of so-called ‘boring’ companies and what likely outcome investors may anticipate.

Terry Smith will be one of many UK investment luminaries speaking at the Morningstar Investment Conference in London this May. See the Morningstar corporate site for more information.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

Securities Mentioned in Article
Security NamePriceChange (%)Morningstar
Rating
Fundsmith Equity R Acc1.68 GBP0.15
Tullett Prebon PLC240.30 GBX-1.15-
About Author Ruli Viljoen

Ruli Viljoen  is head of fund research with Morningstar OBSR.