In 1995, Gary Channon, chief investment officer at Phoenix Asset Management Partners, discovered Warren Buffett and had an "investing epiphany". This led him to set up the Phoenix UK Fund, a Bahamas-based mutual fund that invests in UK-listed companies using an investment strategy inspired by the teachings of Warren Buffett.
Although the Phoenix UK Fund's minimum initial subscription of £100,000 is beyond the reach of most private investors, Mr Channon's insights into his investment process are worth hearing. Since launch in 1998, the Phoenix UK Fund has delivered average annualised returns of 12.4 per cent, compared to 4.4 per cent from the FTSE All-Share Index.
In search of businesses that he calls "long-term greats", Mr Channon holds just 16 companies in his portfolio. His current top 10 holdings are Barratt Developments (BDEV), Sports Direct (SPD), Lloyds Banking Group (LLOY), Bellway (BWY), Tesco (TSCO), Travis Perkins (TPK), Games Workshop (GAW), Diageo (DGE), Bwin.Party (BPTY) and Unilever (ULVR).
"All have a high return on capital businesses, all are transparent businesses - we can see what they do to their customers, all have pricing power, all are market leaders and all are managed by people who have integrity and interests aligned with the shareholders," he says.
Pricing power is one of the most sought after factors. "Who decides to have low returns when they have pricing power?" asks Mr Channon. "But most businesses don't have control over profitability."
Phoenix believes that having a concentrated portfolio means that the risk of not knowing the stock well enough is greatly reduced and so they are better able to understand its intrinsic value. They do not view volatility as risk, accepting that stock prices will fluctuate in the short term based on sentiment.
In the case of Phoenix's top holding in housebuilder Barratt Developments, Mr Channon's team takes the pursuit of understanding to an extreme in tracking every house sale activity on around 200 building sites on a monthly basis, combined with mystery buyer activity and planning permission tracking.
Mr Channon says: "Barratt has significantly gone up in two years, but for us it's a 10 to 15-year trade. In 2008, when everyone hated housebuilders, we were investing. Everyone thinks housebuilding is a cyclical business, but Barratt's cash profit per house has been stable over the credit crunch. Also, with housebuilding, there are barriers to entry and Barratt's pricing power means they get to name the price of the land. It's hard to see that housebuilding over the next 10 to 15 years will not be bigger than today."
However, last year as Barratt's valuation converged with some of its peers, Phoenix started switching a proportion of its holding into another housebuilder, Bellway (BWY), "a company which we have admired for nearly 15 years". "What's special about Bellway is the consistent way in which it has been managed. The executive team is involved in every land purchase decision, which is an incredible amount of work for a company that builds over 5,000 houses a year across the UK. Having workaholic executives does wonders for overheads and therefore shareholder returns."
Gary Channon's CV Gary Channon co-founded Phoenix Asset Management Partners in 1998 and has managed the Phoenix UK Fund since its launch in the same year. He also manages additional segregated accounts for pension fund clients run on the same strategy as the Phoenix UK Fund. He began his career in 1987 at Nikko Securities Europe within Fixed Income Trading, before joining Goldman Sachs in 1989 within Global Equity Derivative Products Trading. He then joined Nomura International plc in 1992 as their head of Equity Derivative Trading before ultimately becoming Nomura International's co-head of Equity and Equity Derivatives Trading, a position he held until he left Nomura to co-found Phoenix. |
Mr Channon is very concerned with how to achieve independence of thought as an investor. "Buying unpopular stocks with problems can make you look like a fool for a long time," he says. "Behavioural psychologists have observed a condition called 'social proof' which is the comfort we derive in acting with the crowd even if we end up being wrong."
"Being totally rational is not human," he says. "Your instincts when you own something is to tilt towards the positive. Most things we buy look ugly when we buy them. If you've done the defending then it's hard to change your mind."
For this reason, he thinks the greatest test for an investor is to sell a holding and then to see if you want to buy it back. As part of this philosophy, Phoenix sold Morrisons in March 2013, but hasn't since bought it back. "The way Morrisons tackled the internet is a bit half-hearted," says Mr Channon.
They do own Tesco, though. Mr Channon says: "Tesco woke up to return on capital and changed - it stopped squandering money overseas."
They also own Lloyds Banking Group "because it is still attractive". Mr Channon says: "We value it as £1.40 and it is still trading at 60p."
But 18 per cent of the portfolio is held in cash waiting for a good time to buy. "We've had whole years not buying anything," says Mr Channon. "We want to buy something for half price."
"We have a portfolio of candidate stocks that are not yet in the fund. However, finding good investments and making investments are different things.
"In the case of Travis Perkins, it took us 12 years to buy it." Why so long? "We couldn't verify pricing power. Then the company had the stress test of the credit crunch and we bought it," says Mr Channon.
"The best investments always look ugly at the beginning. But if you're not willing to put 10 per cent of your funds in then don't invest."
