If you are wondering how to put together a portfolio of equity investments, you could do worse than visit the website for Fundsmith and download lots of relevant documents. These will give you an insight in a particular type of equity investing that I will caricature as 'Buffett Mk 2.0'.
It's important to stress that this isn't the only sensible approach to equity investing (though its proponents often give the impression that it is), yet it gains extra credibility via its link with the great Warren Buffett. In Fundsmith's case, there is also a boost to credibility - much smaller, though still useful - via its link with Terry Smith. Mr Smith is - or was - just about the only City analyst ever known to the wider public. That was because of the fuss caused by his book, Accounting for Growth, which caught the zeitgeist of the early 1990s as Joe Public struggled to understand why big and profitable quoted companies could suddenly go bust. The answer was - and usually is - 'creative accounting'. Mr Smith's book was not the only one to deal with that subject, but - happily for Mr Smith, as it turned out - he was the only one who got sacked for his efforts and that produced enough publicity to make a bestseller.
Since then, Mr Smith has progressed through a highly successful and largely conventional City career. He has, however, always retained his knack for speaking his mind and doing well out of it - and Fundsmith is his latest use of that ability. It seeks, as it were, to do a 'Branson' on retail investment funds. Virgin's money products are marketed on the virtues of offering clarity and value for money and Fundsmith takes a similar line.
The Buffett connection, however, is more important to Fundsmith than the Branson link. I label the investment style 'Buffett Mk 2.0' because it squares with Mr Buffett's approach when he really got into his stride from the late 1950s onwards. Onto Benjamin Graham's 'cigar-butt' approach to investing - which preferred price to quality - Mr Buffett overlaid the style closely associated with another US fund manager, Philip Fisher, where it is key to buy shares in excellent businesses and hold them for the long term.
This is pretty much the tack that Fundsmith takes, seeking shares in companies that can do most of the following:
■ generate a high return on capital employed where the return is measured by the free cash (ie, net cash profits) produced;
■ find enough profitable opportunities to invest much of the cash left over;
■ still have enough free cash to pay consistent dividends;
■ offer the resilience that comes from having a business franchise that's difficult to replicate, which usually means it stems from intangible assets and that much of its revenue comes from small, repeat, but necessary purchases.
True, Mr Buffett's Berkshire Hathaway conglomerate has grown so big that the great man has had to move onto 'Buffett Mk 3.0', but that's another story. In his Mk 2.0 format, Mr Buffett bought stakes in a certain sort of 'consumer staples' company whose strong brand names ensured they could do most of the above, and it's no surprise to see this identikit in Fundsmith's portfolio - the likes of Procter & Gamble (US: PG), Unilever (ULVR), L'Oreal (OR) and 3M (US: MMM).
My chief reservation about the Buffett Mk 2.0 approach is that it relies too much on its past success and the comparative failure of other investment approaches to justify itself. Think of it like this: because Mr Buffett's value-in-growth approach has been such a spectacular success, we too readily assume it must be the way to go. Yet we ignore the possibility that had, say, Mr Buffett been a technology investor but still generated much the same investment returns, then we would lavish the praise that we reserve for Buffett Mk 2.0 on a blue-sky hi-tech approach.
Put it another way - we assume a causal link that may not be there. In this case, the link between buying shares in what appear to be quality companies, being patient and being rewarded. There may be plenty of investors who thought they followed this line yet ended up with very little - and in the Japanese equity market there almost certainly are - but we omit them from our assessments because we don't know about them.
Okay, I can't knock Fundsmith's approach too much - and don't want to - largely because, if I were to label Bearbull's investment style, it, too, would be Buffett Mk 2.0 or thereabouts. Certainly, nothing has influenced me as much as stumbling across Benjamin Graham's The Intelligent Investor in the mid-1980s and reading Mr Buffett's appendix to that great book, The Superinvestors of Graham-and-Doddsville. As Mr Buffett said in that piece, the thing about value investing is that "it's instant recognition or it is nothing"; either you get it or you don't. And I got it. Sure, in the intervening decades, the brutal honesty of the efficient market hypothesis has prompted me to question the credibility of any investment method that claims to be able to beat the market consistently. Even so, when St Peter asks what I believe in, I'll still say "value investing".