Underlying drivers
The fund also holds stakes in Google, Facebook and Netflix, but Slater shies away from the ‘Fangs’ moniker.
“Amazon is a retail business, meaning its revenues have come from a completely different place than Google and Facebook, which are advertising businesses. Success for Amazon would not mean success or failure for the other two, but both groups have strong underlying drivers.
“At a time when the level of investment on average in the S&P 500 is declining, Facebook, Amazon and Google between them invested more than the entire US venture capital sector last year.
“While I am slightly wary of grouping these stocks together, one common characteristic is they are all investing heavily in the future of their businesses. It is what you would expect if you have founder-owners, such as Bezos, Zuckerberg and Page, who could easily be in charge of those businesses for the next 20 years and are thinking on that type of time horizon.”
Slater is not only bullish on the prospects for advertising and retail, however. He believes the technology that powered the disruption within those two sectors is being brought to bear on other areas of the economy, such as the automotive and healthcare sectors.
“While we would not trade to try to reflect those views, it does influence stock selection. The two key criteria for us from a holding point of view are: does the firm take costs out of the system and does it improve outcomes for patients? We think the companies that have those two features will most likely be best placed to prosper.”
While Slater believes it is crucial to back one’s winners, he says there are measures in place to make sure the team does not become overconfident. The fund has rules to ensure there is adequate diversity within the portfolio and the team produces “devil’s advocate” reports, where a member will deliberately try to tease out the arguments against a position in a non-personal way.
Slater says: “We are continually asking the question, where does our view differ from what is implied by the market price?”
He adds that the team must be able to see the path to making two and a half times its money from the initial entry point, and in order to do this it needs to be able to articulate why it thinks its valuation differs from what is implied by the market.
But, he acknowledges: “As long-term buy-and-hold investors that de-emphasise news, we leave ourselves open to being slow to sell things. We have processes in place that prompt us to think about these issues because otherwise the temptation is to dismiss everything as noise.
“It comes back to that asymmetry of returns; what really matters to the delivered outcome is the handful of stocks you do get right and own for long enough.”
On the topic of valuations more generally, he agrees some parts of the market are pretty expensive right now. “With bond yields driven so low, money has flowed out of the bond market and into equities that offer bond-like returns. These are stocks, where investors have a high level of conviction about the longevity of the franchise and where the dividend yields are high.”
These are the sorts of stocks that would usually fall into the fund’s bucket of ‘enduring growers’. They are the ones the team has struggled to find recently because many of them have been bid up to a level where, according to Slater, “you are having to make some punchy assumptions about growth rates, margin expansion and the ongoing expansion of the rating of the company”.
While he still sees a lot of opportunities within the transformational growth sector, he outlines a number of risks that could undermine multiple stocks in the portfolio. Prime among these is the compact some big internet companies have with their users on privacy and issues such as data sharing.
Trust issues
He cites the trust he has that Google will keep his search history private and that the company will protect that data and not use it in ways he would be unhappy with.
“If these companies undermine issues of trust, that could be a significant risk. Similarly, on the corporate side, a big breach from one of these companies that provide IT services to the corporate sector could undermine that model of doing business,” he says.
There are also broader reputational issues these companies have to be increasingly aware of, for example, how they pay tax and are seen to be contributing to society.
“The evolution of that relationship between citizens and the corporate sector is really important, particularly in some of these new digital services, as is their relationship with the governments of the countries in which they operate.”
