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18th November 2015

10 years of investing in Special Situations... and a new Micro Cap fund launch in the spring.

Photo of Anthony Cross and Julian Fosh

At an event today, to celebrate the 10th anniversary of the Elite Rated Liontrust Special Situations fund, managers Anthony Cross and Julian Fosh discussed the past decade of investing and talked about a new fund, which will launch in the spring of 2016.

Anthony: “For the past decade, Julian and I have been trying to exploit very intangible assets – assets you can't actually touch or feel: intellectual property, distribution networks and repeatable business, as well as brand names and culture, in high quality businesses, which can compound growth over a long period of time.

“We believe these attributes create barriers to entry. For example, intellectual property could be patents or copyright, so we naturally tend towards healthcare, software and media companies. Distribution networks could be physical, as in the case of a company like Dominos Pizza, or more modern data-driven networks such as those belonging to Rightmove. When it comes to repeatable business, we are looking for things like recurring contracts.”

Julian: “We don't believe it is possible to forecast the earnings of a company, so we look at cash flow instead. When a company comes into existence, it has to raise money. Then it either makes something, provides a service or buys and sells things. So cashflow and returns on capital are key. Believe it or not, on average, both cashflow and return on capital has fallen over the last few years in the UK – that's very worrying considering we have been in a recovering economic environment!”

Anthony: “This fund has a very low turnover, meaning that we don't buy and sell companies very often – we hold them for long periods of time. To illustrate this, eight companies have been held in the portfolio throughout the entire period: Concurrent Technologies, Fidessa, GlaxoSmithKline, Next Fifteen, Renishaw, RWS, Spirax Sarco and Wilmington. 19 holdings have left the portfolio due to mergers and acquisitions.

“Over the past decade, there have been a few fundamental changes to the investment landscape. Two of the biggest changes have been in market information and the dealing environment.

“Ten years ago, research was very much paper-based or gathered via phone calls and visits. Now we live in a world of instant information and very fast movement of share prices. You have to be very quick to absorb information and unless you are really, really fast you are too late! Hedge funds use algorithmic formula for automatic buys. You can't beat that as a bumbling fund manager trying to find a calculator! So I think the best way to deal with it is to step back and take a longer-term thinking approach.

“When it comes to dealing, investment banks no longer put up the capital as they used to. This means there isn't as much liquidity in the market, so again, our low turnover approach works well.”

Julian: “We've been really pleased with the way our process has worked. Since its launch on 10th November 2005, the fund has returned 227.4% compared with a sector average of 81.3%. The fund has grown to £1.5 billion, which is great, but it does mean that there are already certain smaller companies in which we can no longer invest, due to the size of the fund. That doesn't mean we can't find great smaller companies, but we can't invest in the micro caps. So we've decided to launch a new fund.”

Anthony: “The new fund will be run by myself and Victoria Bates, with the help of Julian and another colleague, Matthew Tonge. It will be called the Liontrust Micro Cap fund and will launch in February or March next year.

“We anticipate it will invest in around 60 companies at launch and will follow exactly the same investment process as the Elite Rated Special Situations fund and Elite Rated UK Smaller Companies fund. The only difference will be that it will invest in the very smallest companies in the UK market – those with a market capitalisation of less then £150 million. We will have the ability to hold on to these companies until they reach about £250 million in size. This isn't a strict cut-off point, but a guide.

“We will require the directors of these companies to have at least a 3% holding themselves as we feel director ownership is extremely important at this end of the market. The CEO of a micro-cap company is crucial to the success of the business, and we want their goals aligned to that of the other shareholders.

“This part of the market is very inefficient and we think there are lots of opportunities for anyone willing to put the effort in to researching these companies. It's really exciting and I can't wait to start. Hopefully the next ten years will be as good for us and our investors as the last ten.”

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Anthony and Julian's views are his own and do not constitute financial advice

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