Collective investment wisdom is dismissive of ‘rear-view mirror’ investing. For the most part, it is right to be: expecting a line on a chart to keep rising purely because it has done so in the past is Gump-grade investing.
But the rear-view mirror does have its uses. We constantly use it to work out what has driven our performance in the past, always asking ourselves the question: can this continue into the future, or has it run its course?
When we do that today, one area of concern is ‘high-quality’ equities.
This term is open to interpretation but, in the broadest sense, it means those solidly growing businesses that are less sensitive to the economic cycle.
We were fairly vocal on the merits of these shares in the wake of the financial crisis.
To us, they represented an attractive each-way bet at a time when valuations were supportive.
This was not the only exposure to equities we had, but it was well represented in our portfolios and has proved very useful over the past few years.
Now, however, the investment case for these stocks is far less compelling.
Partly, this is because they have become more expensive, as investors chase their safer earnings at a time of great doubt. Also, it is because companies that do not fall into this category have been left on the shelf. Consequently, their appeal relative to their elite brethren has grown, culminating last year in an abysmal run for ‘value’ stocks as ‘quality’ powered on.
In the fund world, this has been exemplified by the miserable experiences of funds such as M&G Recovery – probably the UK’s highest-profile proponent of the ‘value’ style.
Investors are now abandoning this fund in their droves, presumably because they think its style no longer works. But it has produced stellar returns since its launch in 1969, while value investing did so for decades before that.
It has never done so in a smooth line, though: there have been several periods like this. Each time it was declared dead. And each time it bounced back with a vengeance.
We concede that there is no obvious catalyst for this trend to reverse.
In fact, the economic rationale for holding high-quality stocks is as convincing as it could be.
That being the case, however, it is most likely reflected in valuations. When the catalyst does appear, the reversal in fortunes could be dramatic.
This is why we have been gradually altering the balance of our portfolios, shifting away from the high-quality funds towards value specialists.
As with everything we do, it has been evolutionary, not revolutionary.
We still hold funds of ‘high-quality’ stocks, although we make sure their managers have a firm valuation discipline too. However, collectively, we have lower exposure to them now. Instead, the needle is pointing towards value.
This style looks terrible in the rear-view mirror. But that is past; it’s where we’re going that matters. And value funds look like a good way of getting there.
Simon Evan-Cook is a senior investment manager at Premier Asset Management
