James Anderson, manager of the £7.1 billion Scottish Mortgage investment trust (SMT), has identified three characteristics amongst the small strata of companies that have been responsible for generating half of the net wealth on the US stock market.
Anderson’s comments follow the publication of academic research by Hendrik Bessembinder last year, which showed that only 90 stocks (representing 0.4% of all US stocks) were responsible for half of the $32 trillion net wealth created on the US stock market between 1926-2015.
On the back of the research, Anderson flew out to Phoenix to meet Bessembinder in March.
‘The next stage of his research was to try and think about what characteristics those 90 companies have in common and, just as important, what characteristics fund managers might need to be able to exploit them,’ Anderson said.
The first was that the companies were early entrants into markets, which later became huge. ‘This was just as true of Exxon in the past as Amazon these days,’ Anderson added.
The second attribute was that these companies were typically founder-run - and finally there was a willingness amongst management teams to accept and embrace uncertainty.
‘None of the companies run on the basis or presumption that things will go one way in the future and there is a spreadsheet telling you the answer.
‘Jeff Bezos [Amazon chief] said in 1997 that there was a weirdness about his business that everything got cheaper and better every year, but he didn’t have a clue where it would take them. If he didn’t have a clue, then fund managers certainly didn’t,’ he explained.
In turn, Anderson (pictured) believes successful fund managers must accept that outcomes are not always clear.
‘It is probabilistic. It is creative rather than analytical because what you are trying to do is judge people, cultures and underlying exponential technologies,’ he said.
Anderson also questions the notion that fund managers are unable to benefit from an information advantage because stock markets incorporate all relevant information.
‘We think that is complete and utter rubbish,’ he said.
In his view, the market collates information that asset managers think is useful, like quarterly earnings and GDP figures. However, Anderson disagrees that this information is incredibly useful.
‘Frankly, if you told me the outcome of every Federal Reserve meeting over the next five years, I’m not sure I would make any money out of it,’ he added.
Instead, he says fund managers should think about what information can provide them with insight into ‘deep, tectonic changes’ that are happening across the world, influencing behaviours and technology.
He says this kind of information can be gleaned by building relationships with companies, as well as academic and scientific institutions over time.
‘There are several technologies - from gene sequencing to battery technology that seem to us to allow not just the hope but the likelihood that there will be many industries and productivity gains, just like we have seen in the electronics industry over the last 40 years,’ he added.
How to outperform
In Anderson’s opinion, the best way that active fund managers can perform better than the market over time is ‘to try not to do so’. By this he means taking a step back from short-term performance targets and instead thinking about the broader role of fund managers; namely, to deploy capital from savers and pensioners.
Concentrating on creating and nurturing great businesses creates better outcomes for clients – in the form of better returns, he added.
‘Frankly, when 20 questions come out every day about Tesla or there is an endless critique from clients or whatever, I really could not care less about that or having to observe some quarters of underperformance - if at the end of it we can help to build a company that alters the greatest problem in the world of climate change,’ Anderson concluded.
Over the past five years, Scottish Mortgage's share price has risen by an impressive 212%, which compares to 129.4% by the average fund in the Association of Investment Companies' global sector. This represents third spot in the sector, after Independent Investment Trust (IIT) with 244.9% (managed by ex-Scottish Mortgage manager Max Ward) and Lindsell Train (LTI) with 241.3%.
Scottish Mortgage currently trades at a 3.6% premium to net asset value, which compares to an average discount of 1.2% across the global sector.