Nick Train

Written by Citywire

January, 2020

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Morningstar downgrades Nick Train’s funds over capacity concerns

Investment research group Morningstar has downgraded Nick Train‘s Lindsell Train UK Equity fund and Finsbury Growth & Income (FGT) investment trust, arguing the growing size of the Citywire AA-rated manager’s UK strategy raised concerns over capacity.

Morningstar cut its rating on the £6.7 billion Lindsell Train UK Equity fund from ‘gold’ to ‘bronze’ and lowered the rating on the £1.9 billion Finsbury Growth & Income investment trust from ‘gold’ to ‘silver’.

Associate director Peter Brunt said Train’s high conviction style, which has seen the manager build big stakes in a relatively small number of companies, coupled with the growing size of his funds, meant they could prove ‘far less nimble’.

On the Lindsell Train UK Equity fund, Brunt said this positioning could impact on the manager’s ability to deal with large-scale investor withdrawals.

‘In recent years, strategy assets have grown significantly. Given the portfolio’s highly concentrated nature, this has led to some significant ownership stakes in the companies held,’ he said.

‘While such large ownership levels do not conflict with the long-term investment approach, they could make the fund far less nimble to respond to adverse circumstances (including a significant liquidity event),’ he said, adding he was ‘concerned that the group has not taken action to manage capacity’.

Brunt added that while the Finsbury Growth & Income’s investment structure meant that investor withdrawals did not pose the same issue, large-scale redemptions from the UK Equity fund, which shares the same stocks, could impact.

Size restricts opportunities

He argued that across both the fund and the trust, the size of the combined UK strategies hampered the manager’s ability to buy into smaller stocks.

‘The large asset base also precludes Train from building sizeable positions in opportunities further down the market-cap scale,’ he said.

‘While this has not had a large impact on performance so far, allowing assets to continue to grow will only further restrict his potential investment opportunities.’

Lindsell Train said in a statement that it had assessed he capacity of its UK equity strategy, which includes the UK Equity fund, Finsbury trust and mandates run for other funds such as the Witan (WTAN) investment trust, since the fund group was founded in 2001.

‘Lindsell Train’s estimate of where full capacity for our UK Equity strategy might be, currently suggests that there is more headroom for growth available,’ it said.

‘Broadly, today we think our capacity is in the region of £12.5 billion compared to the current assets in Lindsell Train’s UK strategy of £9.5 billion.’

Fund assets balloon

Assets in Lindsell Train UK Equity have grown more than five-fold from £1.2 billion to £6.7 billion over the last five years as investors have flocked to the top-performing fund. 

The fund has returned 82% over the last five years, nearly double the 44% from the FTSE All-Share, placing the fund fifth of 211 in the Investment Association’s UK All Companies sector.

Over the same period, the Finsbury Growth & Income investment trust’s market cap has swelled by more than three times, from £553 million to £1.9 billion, thanks to the shares’ 86% return and a steady programme of stock issuance.

Train has not altered his investment style as assets have grown, running a concentrated portfolio of 21 companies in Lindsell Train UK Equity and 25 in Finsbury Growth & Income. In both, the top four positions account for more than 9% of portfolio assets each.

Lindsell Train acknowledged that ‘our investment strategy results in concentrated portfolios, predominantly concentrated on the shares of blue-chip, multi-billion pound companies’.

‘This concentration certainly brings investment risk, but has also been a key contributor to our competitive long-term investment returns.’

Train’s big stakes

This investment style has led to Lindsell Train rising up the share registers of the companies held as assets have grown, with the funds’ positions accounting for sizeable proportions of their total shares in some cases.

The fund group holds more than 10% of the shares of eight of the companies held across both the fund and trust.

Three of these are FTSE 100 companies: Hargreaves Lansdown (HL), Schroders (SDR) and Pearson (PSON) of which Lindsell Train owns 11%, 10% and 10% of the shares respectively. Hargreaves Lansdown last summer dropped the Lindsell Train UK Equity and Global Equity funds from its Wealth 50 buy list due to their growing stakes in its own shares.

The remainder are smaller companies: FTSE 250 stocks AG Barr (BAG), Euromoney (ERM) and Rathbone Brothers (RAT), Alternative Investment Market-listed Celtic (CCP), and Daily Mail and General Trust (DMGT), which sits outside the FTSE indices.

Lindsell Train meanwhile holds more than a quarter of Manchester United’s (MANU.K) class A shares which are available to outside investors, though these are dwarfed by the football club’s class B shares, controlled by the Glazer family.

StockLindsell Train holding (% of shares)
AG Barr14.5
Rathbone Brothers13.8
Daily Mail and General Trust12.9
Hargreaves Lansdown11

Source: Refinitiv

Morningstar’sdowngrade to Train’s funds echoes that of fellow fund research group Square Mile, which cut its rating on Lindsell Train UK Equity from AAA to A in November, warning of its ‘increasing concerns over the fund’s liquidity profile’.

Train responded by pointing to his fund’s heavy blue-chip bias, with 90% of its assets held in either FTSE 100 stocks, overseas companies that would feature in the index if they were listed in the UK, cash or accrued dividends.

Investec analyst Alan Brierley meanwhile slapped a ‘sell’ rating on Finsbury Growth & Income last month, arguing the Lindsell Train UK Equity’s 0.51% charge if held on Hargreaves Lansdown represented better value.

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