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The King is dead; long live the King

I’ve been forced out of my mountaintop cave in order to post my thoughts on the headline news of Neil Woodford leaving Invesco Perpetual. I did a similar piece on the previous earth shattering new of Richard Buxton leaving Schroder’s to join Old Mutual as that also got a lot of industry commentators salivating at the prospect of serious money moves. However, yesterday’s news caused what only could be described as a “phlegm-fest” on social media, with an obvious race to downgrade being won by Chelsea FS and their chief knee-jerker, Darius McDermott.

Now I do understand the broad reaction; Neil Woodford manages a ton of cash, circa £33bn I am led to believe. This is a direct result of his long term performance across all the vehicles he manages, but also his correct contrarian dot com call in 2000. People remember this sage like moment and is perhaps why some dubbed him the Warren Buffet of the UK. Yeah, they really did. No, honestly, they did. I promise. I know, mental.

Anyway, hot on the heels of the downgrades came the churn-inducing, “here are some alternatives”; like maggots picking over carrion, the options given were at times obvious, bizarre and Roger Rental all at once. Similar to the Buxton episode. Similar in that commentators and media alike simply refuse to do a job properly; they take the easy route of looking at the sector and throwing out the top performing names. The completely (and repeatedly) miss the absolute obvious – what role does the fund play.

So once again, I will walk through the process of what I would do; will do as I am in this instance a long term holder of the manager. We shall start at the very beginning…

Why do I hold Woodford? I ask this to every single mandate that is a component of my portfolios as each holding has a separate but not exclusive role. I do not hold him because I am mesmerised by his prescient knowledge of the UK market nor have I simply failed to continually analyse his performance. I hold Woodford because of his risk adjusted performance, more importantly his ability to continually protect against the downside, which is significantly greater and more consistently than his peers. Period. I would suggest that, if you hold Woodford and if you really think about it, you probably hold him for that reason too. Assuming this, let’s continue.

Instead of throwing our names like Unicorn (small cap) JO Hambro (mid cap) M&G Global Dividend (Yep, I know, Roger Rental) based on absolute performance, analysis should be conducted based upon the role and in this case it should be based upon the defensive risk adjusted nature of the performance. A good place to start would be maximum drawdown as that is a simple yet effective “chaff cutter”.

Since 2010, the FTSE All Share max drawdown was 14.50% as of 30/09/2011, with Neil Woodford’s mandates ranging from 5.89% to 6.13%; impressive no doubt. However, there are other funds that have even better drawdowns, with Trojan Income’s 4.24% and Fidelity Moneybuilder Dividend’s 5.30% (if income is a requirement, stick a covered call overlay on and consider Fidelity’s Enhanced Income fund which has a max drawdown of 4.94%.) But perhaps more importantly is Neil Woodford’s replacement, Neil Barnett’s UK Strategic Income fund which has a max drawdown of 7.00%, marginally greater than Neil’s mandates, but still considerably less that the vast majority of his peers and less than half of the index.

However, although the compounding effect of reinvested dividends in terms of total return is certainly compelling, your search should not be constrained to the IMA UK Equity Income Sector. This is another bugbear of mine (I have many) in that fund research should be in no way driven by IMA sector; it adds nothing. If you search by a dominant UK Large Cap exposure, the likes of JO Hambro UK Opportunities fund could be considered with a max drawdown of 8.24% but with a broader investment universe due to the growth mandate. A serious consideration should be the Lindsell Train UK Equity fund with a similar max drawdown of 8.91% but the outperformance has been certainly impressive.

Take the above as a starter for ten; certainly do not rely on this solely as consideration must be given to various overlaps with your existing holdings. However, if you are to take anything away:

  1. Think about what role a particular fund has in your portfolio; use this as the focus for your analysis.

  2. Do not use IMA sectors as a guide; they are a crutch and not a very good one at that.

  3. If you can’t do this analysis for whatever reason, talk to someone who can; the regulator expects this and so do your clients if you are being honest.

Finally, looking at the actual situation that we all find ourselves in, my view is that knee jerk reactions are a bad thing; you should never let emotion drive your investment decisions. Neil Woodford is leaving and that is a fact. Another fact is that his replacement, Mark Barnett has an excellent track record managing funds in the same sector and Neil Woodford and has outperformed him. If you did not know this, the reason is because you could not see the Barnett for the Woodford. However, Mark is now driving an Eclipse-class Super Star Destroyer as opposed to a YT-1300 light freighter. This no doubt takes a different skill & mindset and only you can satisfy yourself with the answers you receive to your questions. One thing is for sure, if you get the opportunity, talk to the guy. Take the opportunity to ask your questions and do your qualitative due diligence before following the crowd and knee-jerking your clients (and perhaps your own) money down the road to Woodford AM.

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