Exclusive: Nick Train Explains 'Mortifying' Underperformance

VIDEO: Finsbury Growth & Income trust's Nick Train sits down with Sunniva Kolostyak to discuss underperformance, AI, and the benefit of hindsight

Sunniva Kolostyak 19 February, 2024 | 9:35AM
Facebook Twitter LinkedIn



Sunniva Kolostyak: Welcome to Morningstar. Today I am joined by Lindsell Train's Nick Train. Nick, thank you very much for being here today. You manage the Finsbury Growth & Income trust (FGT). Let's start by telling the viewers what your investment strategy is.

Nick Train: Okay. Good morning. Great to be here. What I would say about the strategy is absolutely fundamentally, there's an old stock market law that says, in order to create wealth, you need to concentrate your portfolio. In order to protect wealth, you should diversify. Now, what we're trying to do for Finsbury shareholders is to make them money. So, by extension, you might understand we've chosen to concentrate the portfolio to try and maximise the returns that we can generate for shareholders.

Just putting some numbers on that. It is a concentrated portfolio. There are maybe 20 holdings. The top 10 holdings account for over 80% of assets. That is concentrated. And the critical aspect here, and I guess the assertion on which the strategy sinks or swims, is that it's concentrated on industries and businesses that have proven capable of generating wealth for investors over time. So, concentrated portfolio on wealth-creating businesses.

Kolostyak: Well, you said your goal is to create wealth. So, we're going to have to talk about the performance of the trust.

Train: Do we have to?

Kolostyak: We do, sorry. So, you've had three years of underperforming the benchmark. So, I'm curious about your take on this. Because I know you've said that's not good enough. So, what is it that's held your back?

Train: Well, it's not good enough. Let me say it as well. I say it publicly because it is mortifying for me and my colleagues who work with me on this. It's not the outcome that we have been working toward. Looking back over the last three years, what I would say is, to my mind, two big factors. The first is that we own nothing in the oil sector. And BP (BP.) and Shell (SHEL) have been very strong performers over the last three years. Now, we've never owned anything in the oil sector. I think I can say, categorically, at least as long as I'm responsible, we won't own anything in the oil sector. And that will therefore be a factor for good or for ill over time relative to our performance.

The second thing, and actually this may lead into other topics of conversation. The second thing is that in 2019-2020, we really did understand that technology, data, software was going to be critical for generating investment returns looking forward. We already understood that. But in hindsight, and this is completely down to me, in hindsight, in 2020, we didn't have enough. We had something in UK-listed technology and software companies, but in hindsight, not enough. And the work, in a sense, or the change in the portfolio, particularly over the last couple of years, has been building that exposure or an exposure to companies of that type. And let's hope that that is going to drive improved returns over the next three years.

Kolostyak: Yeah, I mean, that leads into my next question because we had you on three years ago, and you were talking about these digital strategies and strong companies with digital footprints. So, obviously now with AI coming in as this hyper-trend, how have you seen that kind of change over the three years?

Train: Well, it's an enormous question. But to get down to specifics – I mean, let me say this, because I think this comes as a surprise to some investors. There are, in fact, a number of London-listed companies. I ought to just reiterate here, this is a UK equity strategy, just to be clear about that. There are actually a number of globally significant London-listed UK companies that have strong technology, digital software franchises, that not only are doing well as businesses, but also increasingly are doing well as share prices. I suspect as global investors, global asset allocators have seen this incredible data AI bull market that's been led in the United States, but then beginning to look elsewhere around the world for other companies that can give you similar credible access, but at much lower valuations than now pertain on the Nasdaq. And we underperformed last year. Very, very frustrating for us to underperform last year, because, for instance, our biggest holding, RELX (REL), which is a top 10 company in the UK stock market, it's one of the world's leading data providers with a truly credible AI strategy, RELX's share price last year was up well over 30%. And there are others, but that's – I find that very encouraging that even in this purported backwater of the UK stock market, global investors are beginning to acknowledge that there are some businesses that can allow us to participate in this theme.

Kolostyak: So, RELX, that's one. Have you got any others in your portfolio that can fit in with this AI/digital strategy/data theme?

Train: Well, so far as Finsbury Growth & Income Trust is concerned, today, over 50% of the portfolio is invested in companies that, let's say, as a common denominator, the companies have all got an existing artificial intelligence product, which they're beginning to exploit commercially. And crucially, the businesses that we're invested in have got data sets. They own data that is proprietary to them that they can work the AI tools on. And because the data is proprietary to those companies, other companies can't really compete with that.

So, in addition to RELX, I'd highlight the London Stock Exchange Group (LSEG), which is another major holding for us. The London Stock Exchange Group actually isn't really – I mean, it is a stock exchange, but the stock exchange, it's only about 3% of the business. Essentially, LSEG, as we must call it regrettably, LSEG, it's a global data business. It's the world's number one provider of real-time financial data. And it really did strike us and continues to strike us that the most powerful vindication of LSEG's strategy is the fact that Microsoft (MSFT) has voluntarily chosen to joint venture with LSEG on delivering LSEG's data in, let's say, an AI-enhanced way, using Microsoft's AI tools to take LSEG's data to make that more relevant. That's actually, really, very exciting.

The world's biggest credit bureau is a London-listed company, Experian (EXPN). Experian has more data on more individuals and more data on more businesses than any other corporation on the planet. And you speak to Brian Cassin, the chief executive of Experian, I mean, he is just so bubbling over with enthusiasm and optimism about what this latest development in technology, AI, means for that data that his business controls. They can find new ways to create new product and new value out of that data.

So those three companies, RELX, London Stock Exchange Group, Experian, I talked about concentration. That can cut both ways. Believe me, I know that. But just those three companies, that's over 30% of the portfolio. If they're right, that can create a lot of value for shareholders.

Kolostyak: I certainly hope they would be. So, I've got one more question on AI before we move on. And that's just around – you are a bottom-up stock picker. So how do you avoid getting tempted by big trends and everything else – because there's a lot of excitement, there's a lot of opportunities that must look very tempting to you?

Train: Well, we've always looked to participate in multi-decade industrial themes. And that's always been a feature of the strategy. One of our other major holdings is Diageo (DGE), which hurt us last year by the way, regrettably. But I won't say it doesn't matter, but in a sense, it doesn't matter because the underpinnings for Diageo's business and Diageo's prospects remain really very strong. But a reason that Diageo is a major holding in this strategy and has been for 20 years is because there is a clear over-trend for consumers around the world to drink less alcohol. You might think that was disadvantageous for Diageo, but it really isn't. Consumers drink less alcohol as they get wealthier, but they drink higher-quality alcohol. And if you own the world's premium collection of premium spirits and beverage brands, that's a multi-year tailwind driving that business. So, I choose Diageo there. That's an example of another, if you like, bottom-up chosen business. The world's best collection of alcoholic beverages happens to be listed on the London stock market, thank goodness, where we can capture a multi-year theme.

RELX, we've owned since 2003. London Stock Exchange Group, we've owned since 2004. Sage (SGE), which was up 60% last year and is the UK's biggest software business, we've owned that since 2004 as well. So, AI is important and we're very, very keen to identify other businesses that can participate in it. But in a sense, AI is just a continuation of essentially the digitisation of the world that's been happening for the last 20 years and that we've been alert to for much longer than just the last couple of years. Now, I know that you have a question. I think you have a question about a new holding.

Kolostyak: I do, I do. Let's move on to that.

Train: Well, can I? Because this is Rightmove (RMV), which is the newest holding that we have in the strategy. We started accumulating, we're still gradually building a position last summer. It's the first new holding since 2020. So, we don't often buy new positions. But that's an example, to my mind, of us thinking through the implications of, what did you call it, a hyper-trend?

Kolostyak: I did say hyper-trend!

Train: Thinking through the implications of a hyper-trend and saying to ourselves, well, we've already got exposure to it, but can we find other London-listed businesses that help fit that category? And actually, Rightmove absolutely does do that. Rightmove owns the most extensive and hence valuable set of data on the UK residential real estate market of any business. And Rightmove is already using artificial intelligence tools, applying that to the data set that it, Rightmove, receives, what is it, 2 billion visits every year. I mean, the numbers are staggering, the engagement that people have with that site. Every visit creates new data for Rightmove to make more and more sense and value from. So, I mean, I might say to myself, why didn't I own Rightmove 10 years ago? I rather wish that I had. But is it too late to initiate a holding and build a big position in Rightmove? I sincerely hope not.

I said to you earlier, and also this rounds back to another important topic, that global asset allocators, global investors need to look outside the United States for companies that can give them access to these digital trends, because it's very hard to argue that US data businesses are undervalued. I mean, maybe they are, but they are more highly valued than data businesses elsewhere around the world. And a factor in us building a position in Rightmove is our awareness that the closest comparator to right move listed on Nasdaq, a company called CoStar (CSGP), which actually is trying to access the UK market currently. We'll see whether it's successful. But CoStar's equity listed on Nasdaq trades on something like 65 times earnings. I'm not saying that's expensive. I don't know. All I do know is that we're buying Rightmove currently on more like 20 times earnings. That's a huge gap. I don't know whether the gap is going to close, but it's indicative of the sort of valuation disparity that opened up around the world with the US and Nasdaq having done so incredibly well over the last five years.

Kolostyak: So, let's talk about the UK then – undervalued, maybe unloved in many people's eyes. What is it that needs to happen to, I guess, make London fashionable to invest in? How do you attract these global funds to invest in the UK? What the government is doing in terms of reforms? Is it enough? What do you think?

Train: I can't offer anything more, I don't think, than blood, sweat and tears. I just think that it's so obvious why the London stock market has struggled. The constituents that make up the heavyweight holdings in the London stock market are just not exposed to the value wealth-creating themes that are driving the global economy today. That's a shame, but it is what it is. The question is, is there enough entrepreneurialism and ambition in the UK corporate sector to over time allow new companies, new industries, listed along the London market, to become bigger and bigger components of the index? That's what needs to happen. We saw the story yesterday that Arm (ARM), if it was listed in London, would now be the third or fourth biggest company in the UK stock market. That's history now, we can't turn that back. But that's what the UK stock market needs, more businesses like Arm being listed on London and working their way up the FTSE 100 in terms of size.

I think what's encouraging is that, as you may recall, the FTSE 100 celebrated its 40th anniversary in January. Now, I can't quote many statistics, but one thing that's absolutely evident is that the shape of the UK stock market has changed out of all recognition over 40 years. The UK economy culture has proven capable of creating new industries, new winning businesses that have changed the shape of the stock market.

So, let me just say this, just to kind of summarise here, and tying a number of strands together. The biggest holding in our UK strategy is RELX. RELX was a constituent of the FTSE 100 back in 1984, 40 years ago. It was already in the top 100 companies of the UK You probably know that since 1984, RELX has been the single best performer in the UK stock market over that 40-year period. £100 invested in RELX in 1984 is worth over £35,000 today. I mean, it's beaten Nasdaq, by the way. I mean, it's truly been an outstanding multi-decade investment, and its best years are still ahead of it. But RELX has gone from, well, in the lower reaches of the FTSE 100 to being a top 10 constituent now in the UK If the business continues to grow at the rate that it is currently, sooner or later it's going to be bigger than Lloyd's Bank (LLOY) and British American Tobacco (BATS). And we need more RELXs, but as they grow, they will change the shape of the stock market, and the stock market will do better. That's all I can say.

Kolostyak: And more for you to invest in.

Train: It's interesting. There were a flurry of IPOs, new issues on the London market back in 2020 and 2021. A whole slew of kind of digital businesses, almost all of which have been very, very disappointing as share prices, because they came overly hyped. But again, there are some nuggets there, we're sure, and that's where we're doing quite a lot of work at the moment. And again, that's indicative of the ability of the UK to bring new companies to the market.

Kolostyak: So, I have one last question for you, and that is, can you in one sentence make the case for active fund management and stock selection?

Train: Can I say it in two sentences?

Kolostyak: I'll give you two.

Train: Look, I've got to say – and I fessed up to disappointing performance. I am disappointed by our performance over the last three years. I've been running this strategy for getting on for a quarter of a century. I'm into the 25th year – well, 24 years and counting. Over that period, Finsbury's net asset value total return has compounded at 9% per annum, and the FTSE All-Share Index has compounded at just over 5% per annum. So, I can say, look, a concentrated portfolio concentrated on wealth-creating businesses, we've very, very materially outperformed if you've had the patience. By the way, that 9% per annum in sterling is better than the S&P 500 over the same period, just showing how powerful, if you're lucky enough and disciplined enough to get it right.

The other thing I would say is life should be an adventure. I mean, it really should be an adventure, and picking individual companies, backing individual companies, feeling part of that entrepreneurial wealth creation, that's critical for progress and wealth creation, and it feels a lot better than just saying, oh, I'm going to invest on a pari passu basis in every company. I don't care how good or bad it is. Do you know what I mean? It's more of an adventure. And within reason for people's personal finances, I would say take an adventure.

Kolostyak: I'm pretty sure that was more than two sentences, but we'll allow it. Nick, thank you very much for coming into the studio today. For Morningstar, I'm Sunniva Kolostyak.

Independent Analysis. Expert Opionions. Timely Commentary.

Sign up to Our Newsletters Now

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.

Facebook Twitter LinkedIn

About Author

Sunniva Kolostyak

Sunniva Kolostyak  is data journalist for Morningstar.co.uk

© Copyright 2024 Morningstar, Inc. All rights reserved.

Terms of Use        Privacy Policy        Modern Slavery Statement        Cookie Settings        Disclosures