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Applying Warren Buffett's principles to the UK

Created:

29 June 2009

Written by:

Moira O'Neill

Warren Buffett disciple Nick Train is trying to apply the Berkshire Hathaway investment principles via the investment trusts that he manages - not just to the US but to other markets. Lindsell Train, the boutique fund management group that he co-founded in 2000 specialises in UK and Japanese markets, plus the Lindsell Train investment trust which has a global approach.

"Warren Buffett is very clear that [business] longevity is very sexy. The result of applying his principles is that we have highly concentrated portfolios in durable cash generative businesses that are likely to survive," he says.

Like the Berkshire Hathaway investment guru, Lindsell Train's portfolios tend to be concentrated on consumer-branded businesses, plus certain types of media and financial services company. For example, in his £113m Finsbury Growth & Income Trust, which invests in the UK, Mr Train has fair chunks of the portfolio in drinks businesses Diageo and AG Barr . "Great durable branded businesses are rare," says Mr Train. "When you find them why wouldn't you have a big holding?"

Mr Train is not interested in lowering risk by diversification - which he calls a "problem word" in investment management. "Most fund managers are under pressure to respond to good ideas from brokers," he says. "But you have to find a degree of volatility that you can live with. 20-25 stocks are about right for us. In practice there are about 40 companies on the London Stock Exchange that meet our criteria. However, some are not cheap enough.

The dangers of looking busy

"The investment industry is very testosterone driven - there is a pressure to be seen to be doing something. But the only certainty about activity is that it generates expense. I wouldn't say we have the answer to good performance but we have advantage over investors that diversify too widely and trade too intensively."

"We want to find businesses that we can hold and not trade, for example, Cadbury . We add one new position every 18 months," he says. Of the FG&IT's 20 portfolio holdings, 15 have been held since Mr Train started managing the trust in 2000.

In Mr Train's opinion, the sell-off in 2009 of the UK's leading branded goods companies - such as Diageo and Unilever - on the grounds that they are "defensive", when investors should be seeking out cyclicality is "asinine in the extreme". He thinks that now more than ever investors should be hanging on to companies with not just a predictable business but the proven ability to maintain the real price of their products. "Such companies are very much rarer than investors appreciate," he says.

The power of brands

Sixty per cent of FG&IT's portfolio is held in four branded goods companies, AG Barr, Cadbury, Diageo and Unilever. Elsewhere in the portfolio, Mr Train tries to emulate Warren Buffett's penchant for entertainment companies. Bemoaning the fact that the UK doesn't have equivalents of Buffett favourites Walt Disney or Nintendo , he says the closest he has to an entertainment strategy is shares in Celtic FC.

However, he points out that the UK does have several world class business-to-business media companies whose content is critical to the day-to-day operation of other businesses. "The durability of business information franchises is more valuable than investors seem to believe," he says. Companies in this category include Pearson, whose education business he singles out as "an outstanding enterprise", plus the Financial Times "is one of the most irreplaceable businesses in the world".

One of Buffett's favourite stocks is giant US bank Wells Fargo, with the sage of Omaha notably saying at Berkshire Hathaway's annual general meeting of shareholders in May: "If I had to put all of my net worth into stock, that would be the stock."

Here, Mr Train says Buffett is testing our mettle, and justifiably so. "If you seriously want to take advantage of the meltdown, you seriously have to take what ostensibly seems like the riskiest bet - buying where the nausea makes you queasiest. That means financials," he says. "Surviving banks that emerge on the other side, without further grossly dilutive issuance of equity, are likely to be great investments from today."

Hold your nose, and buy banks

Among UK banks, Mr Train doesn't think much of RBS or Barclays, "with their collections of more or less marginal and globally disparate divisions", but he does like Lloyds' track record of cross-selling products or services to its customers. Therefore, the FG&IT has a sizeable holding in the bank, which has resulted in large (paper) loss for investors.

When I ask him about this he cannot hide his disappointment. "Lloyds has been educational - and not in a good way," he rues. "We started holding it in 2001. If it survives than it's the most undervalued asset that we have in the strategy. If we come to the conclusion that it won't survive we'll sell it. At the moment we're working on the assumption that it won't go bust."

Like Buffett, Mr Train doesn't make market calls. "We can't predict when the market goes up or down. It's a loser's game. We take the strategic view that market will go up, therefore you need to own a proxy.

"Financial history is so short. You can say it looks like the 1930s but you would need 20 similar instances to confirm that."

However, he does have a strong view - that equity as an asset class is more likely to preserve the real purchasing quality of investors' capital than most other asset classes over 10 years. "There is a likelihood of accelerating inflation over 10 years - though not over the next 6-18 months. Therefore, equity is an attractive asset class at the moment. And a 4 per cent yield on Diageo is more attractive than cash or gilts."

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