19th January 2016
James Thomson, fund manager of Elite Rated Rathbone Global Opportunities
James discusses how his fund performed in 2015 and what he sees as the key risks and opportunities for the year ahead
2015 performance in brief
• Total returns of 14.7%, compared to the benchmark FTSE World index returns of 4.3% and Global funds sector returns of 2.8%1 • Best performers include: Betfair, Amazon, Rightmove • Worst performers include: Alibaba, Restoration Hardware, Carmax, Wisdom Tree, Wabtec
What kinds of companies do you look for?
My style really is looking for growth, but I want sustainable growth. I talk about the idea of 'durable domination': companies that can dominate their industries and protect their position with innovation and differentiation.
That's key – companies that are doing something different and shaking up their industries, but in a scalable and repeatable manner with pricing power. We seek out management that are prudent with their expectations, but also bold, visionary and adaptable.
Which areas do you consistently avoid?
I'm not interested in special situations, turnaround stories, start-ups or traumatised businesses. I'm looking for unblemished growth.
We have heavy exposure to certain sectors and themes and zero exposure to others, which does mean the fund is not for everyone.
It means that at some point we're going to get egg on our face, but in many ways, I think that's the price of long-term out-performance.
Can you talk a bit about the current positioning of the fund?
As I mentioned, we continue to be either underweight or zero weight in certain sectors. These are banks, oil and gas, mining, Japanese equities, utilities, telecoms and emerging markets.
We've got significant exposure to the US and the UK. And significant exposure to retail, but specialist retail, online retailers and discount retailers. We do have industrial companies, but not energy or commodity industrial companies that need to spend a lot of capital to grow. And we've got non-bank financials (meaning companies such as investment firms, wealth managers, insurers.)
We also like certain internet and technology companies, as well as health care stocks including bio pharmaceutical companies, eye wear companies and even a funeral home. Where we're not getting involved is in early stage, volatile bio tech sphere. As a defensive bucket of investments, we've got food and beverage companies, which provide the fund with a bit more stability during difficult times.
So what worked well in 2015?
One of the main drivers of success in 2015 was the areas we didn't own. Commodity stocks, emerging markets, utilities and banks – those were the four worst performing parts of the market and we were lucky not to be there.
Of course we also had some great stock picking success. Betfair, Amazon and Rightmove topped our returns list last year.
Which areas of the fund didn't perform so well?
Even though we don't own any companies directly listed in emerging markets, obviously there are companies in developed markets with emerging market revenue and that came under pressure. As countries like China slowed, the valuation that investors were willing to put on emerging market revenue and earnings really collapsed.
Transport companies like trucking, rail, franchises also suffered. As the economy is growing below trend worldwide, the falling oil price is changing the comparative advantage of different forms of transport and this part of the market has been under pressure.
Changing consumer taste has also been a drag on some of our stocks. You speak to a lot of retailers and they'll tell you they've had to become much more promotional. Many consumers won't budge unless there's a promotion.
The falling oil price is also changing consumer taste. For example, suddenly those gas-guzzling SUVs are back on the menu, with gas prices below $2 per gallon in the United States.
How did this impact your holdings?
The worst performer in the fund last year was Alibaba (China's global e-commerce site), which we sold in the summer. They're transitioning to more mobile selling, which is initially lower margin, but also the amount of money shoppers spend is reducing in China, as the economy is deteriorating. China is rebalancing towards consumption, but it's not happening overnight, so we're in this awkward transition phase.
Two other examples of stocks we sold out of in 2015 are Restoration Hardware and CarMax. Restoration is a high-end home furnishing company. They had to become very promotional in order to clear inventories and so we sold that investment.
CarMax, which is a used car retailer, we've owned for many years. But this year, they just didn't have the right inventory. They've spent years reducing stock in larger trucks and SUVs, and now that those vehicles are popular again, they've been caught short.
What do you see as the biggest risks for 2016?
For our fund, the most obvious is a bounce-back in commodity stocks of mining, oil and gas. In bear markets you often get very sharp snap backs and when it comes, we will under-perform.
Another risk is that we're likely to see some profit taking in some of our best performers. During times of market stress investors love to sell their winners. In gardening parlance, they're digging up the flowers and watering the weeds.
It looks like we've headed into a rate hike cycle in the US. Very often we experience an initial pull back in equity markets after a first rate rise, only to rally later in the year.
Having said that, some parts of the market are close to crisis and it's hard to know where to turn for expert advice.
China was the catalyst for the most recent, the most toxic and the most contagious leg down in oil prices, in my opinion. It was contagious because margin calls and desperation for cash to pay debts are now infecting other sectors and asset classes.
And while lower food and energy prices are good for the consumers, in the medium- to longer-term investors are confused. A neutral investor sentiment is now at a 15-year high, while bullish sentiment hit a 10-year low.
What do you expect to drive returns?
In the short-term, we have a pressure release valve that is softening the blow of falling stock markets. Foreign currencies have been appreciating, which is easing the burden somewhat for UK investors who have invested in sterling. Returns earned abroad are given a boost when converted back into pounds.
And stock picking will still be the main driver of long-term returns. Our strategy of buying growth companies with positive earnings upgrade is working.
Stocks with accelerating earnings growth are out-performing and we're not running out of ideas. We have more ideas than we have space in the fund,. If we can weather the storm in the oil patch and stabilise economic growth in China and other major economies I think the future is very exciting.
* Source: FE Analytics, 01/01/2015 – 31/12/2015
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. James' views are his own and do not constitute financial advice.
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