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Manager says ‘highly rated does not equate to expensive any more than lowly rated equates to cheap’
Thursday 28 Jan 2021 Author: Martin Gamble

Fundsmith Equity (B41YBW7) manager Terry Smith has taken aim at commentators who have attributed the fund’s good performance to its heavy weighting in technology stocks which benefited from a tailwind last year. It returned 18.3% in 2020 versus 12.3% from the MSCI World Index.

While Smith acknowledged technology was the fund’s highest sector weighting (28.9%), he also pointed out that consumer staples and consumer discretionary stocks together outweigh the fund’s technology exposure (37.1%).

More fundamentally, Smith questioned the utility of such labels when Facebook, arguably a technology company, is included in communication services while Amadeus, Sage and Visa were labelled as technology firms.

These companies’ activities span airline reservation systems, accounting and tax software and payment processing and their prospects are not governed by a single factor such as technology, Smith argued.

What such companies have in common is their reliance on intangible assets (such as a patent or brand). This means their profitability is likely to be depressed compared with companies rich in tangible assets such as machinery.

That’s because intangible investments are almost always ‘expensed’ and not capitalised as is the case for a tangible asset.

This ‘makes a mockery’ of using the PE ratio to compare companies’ valuations he concluded.

In other words, reports of the fund’s rich exposure to highly valued technology companies is misleading at best.

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