Richard Hallett, Manager of the Marlborough UK Multi-Cap Growth Fund, explores long-term ‘secular’ growth trends that should allow companies to prosper irrespective of the economic backdrop.
The political upheavals of 2016 underlined just how difficult it is for investors to generate long-term positive returns by trying to play short-term macroeconomic themes. The truth is that we live in an unpredictable world, where it is difficult to forecast what will happen and even trickier to anticipate how those events will affect asset prices.As stock-pickers, we believe it is more prudent to identify companies that should be able to grow their earnings irrespective of wider macroeconomic conditions. One way to do this is to identify secular growth stocks — businesses whose positive trajectory is supported by an established long-term growth theme. Rather than trying to guess what the next major secular growth trends will be, a sensible approach is to look for established themes that still have plenty of distance to run.
The challenge then is to identify the companies that are best positioned to benefit from a theme, avoiding weaker businesses that are simply jumping on the bandwagon. We look for companies with a sustainable competitive advantage, whether that be having the most effective technology, a high-quality management team, outstanding distribution or the strongest branding. We also like to see them protecting themselves from competitors by investing in barriers to entry.
By selecting companies that are leaders in their field, we seek to enjoy the twin benefits of structural change from a secular growth trend and the business taking market share from others operating in the same space.
Of all the long-term trends, technological change is perhaps the one that is most obviously apparent in our everyday lives. It is a very broad heading, of course, but some of the fastest growing areas include data analytics, cloud computing, artificial intelligence and cybersecurity. One company we particularly like is cybersecurity business GB Group, which works with leading global financial institutions, providing them with a range of services, including identity verification and fraud prevention. It is an area of rapid expansion and as well as growing organically, GB is acquiring smaller businesses, allowing it to cross-sell its services. The company has a larger database of information to work from, because unlike some other companies offering similar services, it uses identity data from multiple sources. We believe that gives it an important competitive edge.
The outsourcing of a whole range of services by companies so they can concentrate on their core business is a long-established trend and one we believe still has a long way to run. Catering firm Compass Group is the global leader in its field. It operates in more than 50 countries, serving meals in locations ranging from offices, schools and hospitals to remote mining camps and oil rigs. We believe there is plenty of scope for Compass to continue growing and the business is well positioned to benefit in positive economic conditions and more difficult times, when organisations will seek to reduce costs by cutting in-house services.
The rise of Asia’s consumers
In 2010 Asia accounted for less than a quarter of the world’s middle class consumers, but by 2020 that is forecast to have grown to more than half, with Asian consumers accounting for over 40% of global middle class consumption. That represents serious spending power. One company poised to reap the benefits is Merlin Entertainments, which, aside from Disney, is the world’s largest theme park operator. It is rolling out its Legoland theme parks across Asia, with one already trading in Malaysia, another opening in Japan in 2017 and one due to open in South Korea in 2018. The company is also eyeing other locations in Asia. Once Merlin has invested in a theme park, the return on capital is attractive. We also like the high barriers to entry and the fact that the business has proved resilient in difficult economic conditions.
People are living longer and willing to spend more on staying fit and healthy. This has been well-documented and we hold companies such as Smith & Nephew, the manufacturer of surgical devices and wound care products. But there are other facets to this trend. Consumers are, for example, also willing to spend more to keep their pets healthy, which is a trend benefiting Dechra Pharmaceuticals. Dechra is a manufacturer of specialist veterinary products and is becoming an increasingly important global player. It has been moving into continental Europe and more recently made acquisitions in Australia and the US. So not only is Dechra riding the trend for increased healthcare spending, and, indeed, increased spending on pets, it is expanding into new geographical markets.
Consumers around the world made more than 387 billion non-cash transactions in 2014 — an increase of 9% on the previous year, according to the 2016 World Payments Report. This was primarily driven by accelerated growth in developing markets, where transactions were up by nearly 17%. As a leading global provider of payment processing systems, Worldpay is a major beneficiary of this trend. In a business where trust and reputation are key, the company has the advantage of being a well-established player that is already operating in around 150 countries. Worldpay offers more than 300 payment methods — in-store, online and through mobile devices. That range of services and its global reach give Worldpay a significant edge over many competitors.
Artificial intelligence has only relatively recently made the transition from science fiction to investment opportunity, but we believe it is an emerging secular growth trend with huge potential. We like Blue Prism, which has developed a system it calls Robotic Process Automation, in which software ‘robots’ can be taught to conduct repetitive administrative processes like form-filling and cross-referencing data. Blue Prism is a world leader in its field and has strong long-term partnerships with consultancies such as Accenture and Capgemini, which help their clients reduce costs by automating their back office processes. Academics have estimated that 47% of jobs in the US could be automated within 20 years. Clearly that presents its own challenges, but there is no mistaking that Blue Prism is at the forefront of what could be hugely significant technological change that investors would be unwise to ignore.In summary then, identifying secular growth stocks would only ever be one element of a wider investment strategy, but it is in our view an important method of identifying long-term opportunities.And, given that the Brexit vote and Donald Trump’s victory have sent macroeconomic compasses spinning, it is an approach that has never looked more relevant.
A version of this article was first published by FE Trustnet on 14/12/16.
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