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Fundsmith fans who want more tech should look at Blue Whale Growth fund
Fundsmith Equity’s (B41YBW7) strategy of investing in high quality companies has been a big draw for investors, particularly as the fund’s performance has been strong since launch in 2010. While this fund may be serving investors well, some people want to know what else they can add to their portfolio that follows a similar approach with a bigger slant towards technology.
One route is to look at Blue Whale Growth (BD6PG78), whose 72% total return over the three years to 30 June 2021 outperformed Fundsmith’s 61% return over the same period, and comfortably trumps the 38% put up by Lindsell Train Global Equity (B3NS4D2) which is another fund with a quality bias, albeit with less of a focus on technology and more on consumer products.
The Investment Association Global sector returned 43% over the same three-year period, according to Fe Fundinfo.
Since launch in September 2017 Blue Whale’s fund has seen assets under management soar to more than £850 million and its performance has drawn a loyal following of retail investors.
Run by lead manager Stephen Yiu and assisted by co-manager Daniel Allcock and a small team of in-house analysts, the fund’s own investment philosophy is deceptively simple; invest in high quality businesses at attractive prices.
Fundsmith has a similar approach up to a point – it invests in good companies, it doesn’t overpay and doesn’t trade in and out of them. The last bit is where the two differ as Blue Whale isn’t afraid to be more active with buying and selling.
Like its better-known, much larger peer, Blue Whale concentrates first and foremost on identifying quality stocks capable of producing sustainable growth over multiple years.
Beyond the capability to put up above-average growth year after year, investee companies must also demonstrate reliable profits and all-round financial excellence, often measured by investment criteria such as return on capital employed, return on equity and free cash flow.
Blue Whale talks a lot about how its team spend a considerable amount of time researching companies and it believes this gives the fund an edge over some of its competitors. It only invests in 25 to 35 companies at a time; Fundsmith aims for a portfolio of 20 to 30 stocks and Lindsell Train has between 20 and 35 holdings.
STRUCTURAL GROWTH DRIVERS
Blue Whale likes companies with strong competitive positions and good management teams that can leverage structural growth drivers, such as digital transformation, cloud computing, online payments and robotics and automation.
This is evident from its current top stakes, including engineering software firm Autodesk, Quickbooks accounting software owner Intuit and Kering, the luxury goods company that owns Gucci. It also owns many technology giants, such as Mastercard, Microsoft and Facebook.
A big holding is creative digital design technology firm Adobe, the firm behind PDF document technology. It has a long history of gross margins above 85%, 30%-plus operating margins, and improving return on equity (44.2% in 2020) and return on invested capital (52.6% in 2020). This year (to November 2021) Adobe is forecast to post revenue growth above 20% and free cash flow of nearly $6.8 billion.
While Blue Whale’s investment style has much in common with Fundsmith and Lindsell Train Global, their respective portfolios are not full of the same companies. Blue Whale and Fundsmith both have Microsoft in their top holdings and Blue Whale and Lindsell Train Global both have Nintendo, but otherwise Blue Whale’s largest positions are different to the other two funds.
GREATER TECH EXPOSURE
The technology sector accounts for 52% of Blue Whale’s portfolio, nearly double that of Fundsmith (28.9%). Lindsell Train Global has less than 5% of its holdings in software and computer services, but it would probably argue that many of its investee companies use technology to do business rather than being pureplay tech names.
Google-owner Alphabet and Facebook recently returned to Blue Whale’s top 10 holdings list. ‘Facebook and Google in our top 10 reflects our view they were undervalued during the recent sell-offs,’ said manager Stephen Yiu, referring to earlier this year when technology stocks were out of favour. ‘We have held Facebook and Google consistently in our portfolio since fund inception in September 2017 and both have more than doubled.’
Yiu believes this illustrates the fund’s strict valuation discipline, taking advantage of the inevitable peaks and troughs in their share prices as tech giants became lightning rods for regulation with the increasing politicisation of tech.
‘We welcome increased regulation in tech as it solidifies the incumbent position of Facebook and Google and makes it harder for disruptors to usurp them,’ explains Yiu. Interestingly, the fund believes that breaking up some of these tech titans, as has been threatened, could be good for shareholders since Blue Whale believes they are now so big and ubiquitous, and many stocks now come with a ‘conglomerate discount’.
PAY AND GET PAID
The digital payments space is an area exciting Blue Whale’s team and explains why both Mastercard and Visa have been long-run holdings, as is PayPal, albeit the latter having recently drifted out of the fund’s top 10 holdings.
‘We view the drivers behind the payments industry in a similar way to how we see software – digital payments are changing companies just as digital transformation (the primary driver for software consumption) is transforming all sectors,’ says Yiu. ‘Everyone and every company needs to pay and get paid in a secure, fast and reliable way, and Visa, Mastercard and PayPal help do that.’
The fund manager believes that all three stocks are not only beneficiaries of rising inflation (they get paid in nominal terms, so they capture a slice of the inflation) but are also beneficiaries of society reopening after Covid.
‘With household savings ballooning after a year and a half of lockdown, the big bang in consumer spending across all categories – restaurants, cruise ships, air travel, hotels, auto – will contribute to sales at Visa and Mastercard,’ says Yiu.
Far from leaving investors to choose either Fundsmith or Blue Whale, we believe both could comfortably sit side-by-side in a portfolio. Each fund stamps its own unique footprint on stock selection without straying outside of the quality growth strategies. That’s a useful tool for investors if they choose it, and we believe both funds are worth buying.
DISCLAIMER: Author Steven Frazer has a personal investment in Blue Whale Growth and Fundsmith Equity. Daniel Coatsworth who edited this article has a personal investment in Fundsmith Equity.