Interview with Colin McLean following the 30-year anniversary of SVM Asset Management.
What was the investment world like 30 years ago?
Investment 30 years ago was very different. In 1990, the concept of taking a pan-European approach to company valuation was pioneering and for much of the period there has been convergence of valuation across Europe. However, I think that some of the globalisation trends may now slow, or even reverse. It was also less common to have a tight investment discipline - something I learned at Templeton. The world has moved on now.
Company governance and accounts were also weaker 30 years ago. Much has been done to improve both although I think there is still a long way to go. Boards then paid little attention to shareholders but have been forced now to recognise investor priorities.
Businesses have generally become better at optimising the use of capital - today there are more service businesses and models with a capital-lite structure, and fewer heavy industries and conglomerates. In markets, cost has been driven out, but at the expense of independent fundamental research. This gap encourages equity mispricing and has opened up opportunity in medium sized and smaller companies. This applies even to the lower half of the FTSE 100. Mega-cap companies are no longer safer but targets for disruption. I think it would surprise many investors to see over the longer term the rate at which companies disappear. Company life spans have become much shorter. While some companies change through takeover, delivering value for investors, many decline and disappear over the longer term. I think we are about to see a further step change in sectors such as retail and finance.
What have you seen during those 30 years? What have been the stand out moments?
There have been recurring market crisis. I think overall the market has got better at handling those and individual investors have become much less likely to lose out through trading into a period of panic. Governments and central banks have also got better at responding -maybe too good. In most crises, rebound follows swiftly. If investors focus on the medium and longer term, with confidence in their company research, volatility in any individual year matters less.
The three decades spanned the dot com bubble, the financial crisis and the first weeks of the pandemic reaction in markets. These were challenging times. But for the financial crisis in particular we were alert to the risks in the financial crisis in the two years running up to the final collapse. I must admit I was surprised at the speed of central bank intervention and market rebound, and I did not then expect that there would be no end to Modern Monetary Theory with all the nonsense that has brought. Many of these tools are being leveraged in response to the current pandemic.
As it has turned out now, many companies focusing on the digital economy and remote or mobile servicing have fared quite well. Sustainability and resilience have paid off for many medium sized businesses. It remains to be seen how well banks come out of this given the difficulties of assessing credit and earning an interest margin.
The dotcom bubble drove some unrealistic valuations, but was also the first sign that technology would change things. The future winners would be agile and scalable, questioning the value of many legacy assets and brands. Crises often accelerate change that is already underway, marking an evolution in business but rarely completely changing the rules.
What lessons have you learned from 30 years’ experience in the industry?
Patience is essential. Focusing on fundamental research and valuation matters, but it can take time. Similarly, companies that are flattering earnings or concealing strategic problems can get away with that for longer than you would expect. Easy money has added to that problem, along with the MiFID changes that have made many stockbroking analysts little more than cheerleaders for corporates in the hope of sharing in the next fundraising. Good companies that do not need to raise capital seem to get less sell side attention.
I have over the three decades increasingly focused on behaviour, and governance in particular within ESG. Executive incentives do have an impact and where they are wrongly directed it almost always creates bad strategy and destroys shareholder value. Very often the signs of poor stewardship are within the accounts and in some of the behaviour rather than the numbers themselves. A focus on the quality of governance and stewardship does pay off in the medium and longer term.
What is your view on the investment environment today and how you are positioning SVM as a result?
The crisis has accelerated some changes that were already underway. Major events like this often drive social and political perspectives for a generation. I think that markets will be brought to a closer linkage with the aims of society and politics. This may mean more direction on sustainability and resilience as well as higher taxes. But it has been possible to identify the companies that are well attuned to this new environment and I believe they will prosper. The winners support or use the digital economy, or assist sustainable economic growth. Some will benefit from shorter, more resilient, supply chains. Economies have become more closely linked globally but this process has been disinflationary creating a scarcity of real sustainable growth.
I believe there is great opportunity in many businesses that are medium sized at present, but could be giants tomorrow. The ability to scale business models with limited use of capital, whilst benefiting from network effects can accelerate development. Buybacks and the impact of mergers and private equity have shrunk the supply of listed equity in the US, UK and some European markets. I think the skill of active investment managers is being pushed into off-market areas where mispricing creates more opportunity. The part of the market that represents big mega-cap companies captured by passive strategies, may continue to be disrupted and outperformed by more dynamic businesses.