Each month, we look at the economic and investment world from a different view point…
May 2014: Neil Woodford from Woodford Investment Management
Neil Woodford has built a reputation as one of the most respected investment managers in the UK, and has delivered impressive returns for St. James’s Place clients since 2001. Following his announcement last year that he was leaving fund manager Invesco Perpetual and his subsequent move to set up Woodford Investment Management (WIM), the St. James’s Place Investment Committee launched a comprehensive review of its options. After months of meetings and due diligence, the Committee decided to retain Woodford as fund manager through his new venture, WIM, for the UK Equity and Income Distribution funds and UK High Income Unit Trust.
Woodford’s new venture offers St. James’s Place clients continued access to the expertise of its founder and head of investment, developed over his 30-year career in the City and the UK fund management industry. Woodford hopes to build a business that brings innovation together with the continuity offered by his proven and highly successful long-term investment strategy. At the core of his approach is a focus on macroeconomic factors, the discipline of valuation and an agnosticism towards the benchmark. “These were as important for me at the start of my career as today,” he adds.
The UK fund manager sees WIM as an innovative fund management organisation, which is grounded in the belief that core principles are “essential to how we manage money and how we act as a business”. Integrity, simplicity and transparency are some of the principles he hopes to see at the heart of the business, with client outcomes at the forefront of his team’s thinking. “All of our actions, both individually and as an entity, are grounded in these core principles,” he adds.
But he believes that a good fund manager never stops learning, and has to adapt and evolve to meet new challenges. “A successful fund manager should always be fine-tuning his or her investment approach by learning from their mistakes,” he adds.
“I think I am a better fund manager now than ten years ago and I hope I will be better still in ten years’ time.”
The Woodford approach is based on the belief that markets are inefficient and that the price of shares can become dislocated from their true value and this creates value opportunities. “We believe that financial markets are inefficient most of the time,” he expands. “Principally, there can be a ‘disconnect’ between the activities of speculators that can affect the short-term price of shares and the analysis of fundamentals that influence long-term value.”
He draws on the work of Professor John Kay, who highlighted this phenomenon in his review of UK equity markets and long-term decision-making in 2011. Kay wrote about the difference between ‘price discovery’, the rapid incorporation of the views of market participants into market prices and ‘value discovery’, understanding the fundamental value of the company attributable to its potential earnings and cash flow.
“Our long-term, disciplined investment approach is focused on value discovery, not on price discovery,” continues Woodford. “As long as markets remain inefficient, price will regularly diverge from value and, therefore, we believe our competitive advantage will persist and continue to create real long-term value for our clients.”
The long-view is a core facet of this approach, and short-term trades do not figure in his investment approach. “Clearly, when building or reducing positions we will be mindful of price behaviour and will adapt our activity in response to changes in share prices,” he adds. “For example, if share prices rallied sharply while we were building a position, we would be inclined to step back temporarily until the shares cooled off. But we won’t attempt to profit from short-term trading strategies directly.” Equity markets are often driven in the short term by things that cannot be predicted or understood. “We believe it is sensible to look beyond short-term noise and focus on longer-term drivers of stocks, such as fundamentals and valuation, which we can anticipate and appreciate with much greater confidence,” he adds.
Another distinctive feature of his approach is the importance that is placed on meeting the management of the companies that are in the portfolio, in order to help deepen the understanding of the business. “Meeting company management is a critical part of our investment approach,” he explains. “Typically, we meet with management teams at least twice a year after the release of financial results, but often more frequently where the need arises. The aim of these meetings is to learn more about the company. We are always outsiders looking in, so talking to the insiders is really valuable. Even where we have been shareholders in a company for many years, we still learn more about that company each time we sit down with management. You can never know enough.”
Woodford also believes that company meetings can help to ensure that the management team is aligned with shareholders and that the course that they have set for the business will create long-term shareholder value. “If we fear that this alignment does not exist, or if we feel that an alternative strategy may result in the realisation of more shareholder value, then we will engage with management to try to influence change,” he explains. “Unlike most investors in today’s market, we tend to favour voice over exit.”
A strong sell discipline also helps counterbalance the emotional ties that are often built if investment positions are kept for long periods of time. “A decision to sell will tend to be formed around three, often inter-linked, factors,” he explains. “Firstly, there is a judgement that a stock’s valuation has started to look less attractive, where a gap between value and price has been discovered. Secondly, an event such as financial results or an acquisition change can shift the fundamentals. And thirdly, a stock can start to look less attractive than other investment ideas that are competing for a place in the portfolio.” Fund management can be an emotional and instinctive business, he admits. “But it is really important to remain disciplined and true to the principles of valuation and fundamentals.”
It’s the Macroeconomy…
His portfolio also has the characteristics of being built on a bottom-up basis but with a strong awareness of the central importance of the wider sweep of macroeconomic factors. This investment approach can offer an early-warning alarm for potential issues around a holding or provide future investment ideas. “A comprehensive, fundamental understanding of the long-term macroeconomic outlook is a critical part of our investment approach,” he says. “We try to fathom out the likely direction of economic variables such as growth, inflation, labour markets, liquidity and trade, and try to understand their key drivers. If we can understand the long-term direction and influences of these macroeconomic variables, we believe we can make better long-term decisions.”
This long-term macroeconomic view also helps to direct research efforts. “For example, a cautious view on the long-term outlook for the UK consumer economy would make us reluctant to take exposure to domestically-oriented, consumer-cyclical businesses,” he explains. “It would not preclude us from investing in such companies, but valuation would have to compensate compellingly for us to do so.” Similarly, it’s a view that guided research efforts towards more internationally-facing businesses, and away from consumer-facing companies; although he stresses that the valuation of these businesses will also be a vital consideration. “Our long-term macro views will inform our assumptions and our judgements on all investment opportunities,” he adds.
Points and Views
- The St. James’s Place Investment Committee has retained Woodford as fund manager through his new venture, WIM, for the UK Equity and Income Distribution funds and UK High Income Unit Trust.
- At the core of Woodford’s approach is a focus on macroeconomic factors, and the discipline of valuation and an agnosticism towards the benchmark.
- The Woodford approach is based on the belief that markets are inefficient and that the price of shares can become dislocated from their true value and that this creates value opportunities.
- His long-term, disciplined investment approach is focused on value discovery, not on price discovery.
- Meetings with management of companies deepens understanding of their businesses and ensures that the course that they have set for the business will create long-term shareholder value.
- A strong sell discipline helps counterbalance the emotional ties that are often built if investment positions are kept for long periods of time.
- His portfolio also has the characteristics of being built on a bottom-up basis, but with a strong awareness of the central importance of macroeconomic factors.
The opinions expressed are those of Neil Woodford and are subject to market or economic changes. This article is not a recommendation, or intended to be relied upon as a forecast, research or advice.
The information contained is correct as at the date of the article. The information contained does not constitute investment advice and is not intended to state, indicate or imply that current or past results are indicative of future results or expectations.
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