Fund Choice: Fundsmith Equity
Unit price: 558.6p (03/03/21)
Fund size: £20.2bn (03/03/21)
Like Scottish Mortgage, Fundsmith Equity is an unsurprising name to see on a list of promising funds. But savers who wish to put away some money without worrying too much could do much worse than look to the latter.
To paraphrase manager Terry Smith, the Fundsmith mantra is to invest in good companies without paying too much, and then do nothing. The portfolio is a concentrated basket of global large-cap stocks deemed to have strong competitive advantages, from Microsoft (US:MSFT) to PayPal (US:PYPL), Facebook (US:FB) and tobacco major Philip Morris (US:PM). The investment team likes businesses with advantages that are difficult to replicate, that do not require significant borrowing to generate returns, and that are resilient to change – particularly technological innovation.
Like Scottish Mortgage this fund has delivered phenomenal returns in the last decade, and some of its holdings could well be vulnerable to a change in market sentiment after a long run of good performance. But the team deliberately looks for companies that should hold up well in the longer term. Smith is known for his strident views and appears able to ignore some of the 'noise' in markets. Our Q&A with Smith, published in the issue of 18 December 2020, gives an insight into some of his recent thinking.
Share Choice: Adobe and Diageo
Adobe Share Price: $448
Diageo Share Price: 2876p
Adobe Market Cap: $215bn
Diageo Market Cap: £67.3bn
There is no one answer to the question: what is the best company in the world? Different companies score highly on the many characteristics investors should search for when stock picking: strong growth capacity, high quality of earnings and ability to generate cash, for example.
Adobe (US:ADBE) might come closest to topping the roster on the highest number of criteria. In December, the company reported a 15 per cent increase in revenues to almost $13bn, over 90 per cent of which came from recurring, high-margin subscription sales. Money invested in the business is readily turned to profits, which is reflected in a return on capital employed that has risen from 10 per cent in 2015 to 23 per cent in 2020. Free and operating cash conversion have both averaged more than 150 per cent in the past five years.
Adobe has a valuation to match its premium fundamentals, but for investors who want the reassurance of a reliable company, that’s a price worth paying. The same is true of Diageo (DGE) which, for UK investors, comes with the added bonus of a reliable dividend. Like Adobe, the company has a knack for generating profits and cash from its operations. In the last five years, ROCE and free cash flow conversion have averaged 15 per cent and 93 per cent, respectively.
IC model asset allocation – struggling savers
People with substantial expenses (such as bringing up a family) and financial liabilities (like paying a mortgage) may struggle to continue to set money aside to invest if they’re not on a big salary. It is hard but staying in the habit of investing is worth it for the long term and our model asset allocation can help.
What’s in it?
Cash – 20%
Normally, we’d say think of your cash emergency pot as separate to your investment portfolio, but when you’re struggling to save, you need to think about your wealth holistically. It’s advised that people have a cash savings pot of about six months’ worth of either their salary or regular monthly expenses. But once you have an appropriate-sized cash cushion, cash can have less of a weighting in your portfolio.
Once you have that cash cushion, provided you’re comfortable with it, then as a younger investor and assuming you don’t need to withdraw anything from the rest of your portfolio, you can take more risk.
Other – 20%
This includes the equity in your property if/when you buy it.
Fixed Income – 20%
An income booster is welcome for struggling savers, but as most younger investors will have jobs, this asset class is less than for other age groups in terms of income, but it is useful for managing risk.
Equities – 40%
This asset class will generate strong returns when times are good but in a long bear market (a period when the trajectory of share prices is down) your portfolio value can stay below its previous peak for a while. Remember not to be afraid of periods of weakness though, because if your time horizon is long enough, your investments should bounce back.