Managed Fund: Forging a path to progress

The north face of the Eiger

The value of an investment, and any income from it, can fall as well as rise and investors may not get back the amount invested.

In July 1938, amid a turbulent political and economic backdrop, a team of German and Austrian climbers solved what had been referred to as the “last problem” of the Alps. The north face of the Eiger, an ogre which had stolen many souls in pursuit of a successful ascent, had finally been conquered. But while the problem had been cracked, it turns out there were different ways to solve it. The 1938 expedition took three days, but in 2015 the late Swiss climber Ueli Steck set a record ascent time of two hours, 22 minutes and 50 seconds. All of this is to say that, while problems may be solved, human nature is such that the desire for challenge, growth and innovation continues regardless of past success or what’s going on in the world, pursuing progress even in the most challenging times.

As investors in the Baillie Gifford Managed Fund will be all too aware, it has been a tough 18 months. Performance weakness has not been driven by a single stock decision or sector exposure but rather, in an environment favouring short-term certainty over long-term opportunity, underperformance has been broad-based. Against this backdrop, one question has been asked repeatedly: is this it for growth investors? The decade after the Global Financial Crisis was great, but have things changed? Some are questioning if the solution for achieving long-term capital growth is still growth investing. Clearly, we believe it is.

There’s no doubt that the next decade will likely be very different to the one which has just passed. It could be testing for even the best businesses. There are meaningful challenges ahead and delicate geopolitical tensions to be considered, most notably between the US and China (direct exposure to the latter was 3.6 per cent of the Managed Fund as of end September). However, we have confidence in the resilience and agility of existing holdings, on top of which we believe there are reasons for long-term optimism.

Human nature continues to find a path towards addressing the biggest challenges of our time, pursuing opportunities that will improve all of our lives. We will likely see continued growth in the emerging middle class and greater integration of technology in our day-to-day lives. This is what excites us and why we believe growth investing can still form part of the solution. We’re focused on hand picking the world’s most compelling growth opportunities, among which there are some exceptionally exciting long-term trends.

Take the convergence of biology and technology, for example. This could represent not only a meaningful opportunity for investors, but also a significant step forward for humanity. We’re enthused about the broad range of companies driving this forward. There are many high-quality health-tech companies in Europe, for instance, some that we’ve looked at several times in recent years. In these cases, we have found that valuation has always been a hurdle. However, in light of recent market movements we took the opportunity to re-review and ultimately take holdings in CRISPR Therapeutics and Evotec. The former is a Swiss-American gene editing company that could drastically transform the treatment of swathes of illnesses, from cancer to sickle cell disease. With around US$2 billion on the balance sheet, it is in a position of financial strength. German-listed Evotec is a business that companies outsource their research to because, quite simply, Evotec can do it faster and more cheaply. It is now evolving its business model to develop co-owned products that could generate meaningful royalty payments. This is a high-quality, cash-generative business that makes 20 per cent plus gross margins – we know that even the best companies need the resilience to survive short-term challenges in order to thrive in the long term.

Elsewhere, the demand for newer, cleaner energy sources continues apace – a trend only accelerated by the tragic war in Ukraine. Reliance Industries, a holding since 2018, is much maligned in terms of ESG ratings given that more than 50 per cent of its revenue is still derived from its refining business. However, having developed the world’s lowest cost wireless broadband, it is now turning its attention to delivering the world’s most affordable green energy within a decade. Other holdings driving energy innovation include Nexans – one of only two companies in the world able to lay sub-sea cables at extreme depths, a must-have for offshore wind. Elsewhere, Tesla is committed to a sustainable energy future and we believe will create a large, high-margin revenue stream from selling automotive and energy products. A less obvious example is Fanuc, the Japanese robotics manufacturer. Historically, the auto industry has been the dominant user of industrial robotics but we’re now seeing a broadening of applications, such as in the drive for carbon efficiency. In the case of Fanuc, it’s about helping to make an entire plant run more efficiently.

And all this is before we even get to the opportunities presented by migration to the cloud and the ongoing shift online, among many others. In recent years we have reduced exposure to the tech behemoths, selling Meta in 2020 and Alphabet in 2021, while making reductions to Amazon last year and Netflix in the second quarter of 2022 – we haven’t held Apple since 2012. Our enthusiasm lies with companies like ecommerce platform Shopify, which is in a materially stronger position than it was a few years ago and is increasingly a part of online infrastructure, and Hashicorp, the enterprise software business. Our view is that the shift to the cloud will continue under almost any economic scenario. We have recently added to both companies on the basis of share price weakness. Notably, growth isn’t just found in those companies addressing the big challenges but the more fundamental ones too – Bellway, the UK house builder, is a good example. We know interest rate rises and recession will make it tough for the company in the short term. However, the reality is that the UK is not building enough homes right now. This is a profitable company with a robust balance sheet and a well-invested land bank, hence our recent decision to add to the holding when it was trading at a meaningful discount to book value.

Bonds play an important role too and make up around 20 per cent of the Managed Fund. In corporate bonds never has it been more critical to select resilient companies which are producing the products and services of the future, with strong liquidity and a sustainable capital structure. From Ocado in the high-yield universe to investment-grade debt issued by Prosus, we’re lending to businesses with a tangible growth opportunity that we believe will be well-placed to repay debt holders. While the focus is somewhat different regarding government bonds, there are compelling opportunities available – not only to add to returns, but also to ensure diversification versus equities as inflation moderates.  

Our analysis supports conviction in the robustness of the portfolio’s holdings, with 90 per cent of equities being profitable or generating positive free cash flow with significantly less indebtedness than the market. However, our job as investors of our clients’ capital isn’t solely to focus on near-term resilience but also to ensure the portfolio is well-positioned to deliver long-term capital growth. To do that, we need to find opportunities – ground-breaking businesses like that team of pioneering climbers, forging a path into uncharted territory, but also innovative companies, seeking new efficiencies and disrupting norms like Ueli Steck. It can be all too easy to focus on the negative when such stark challenges face society, but we know that human nature means creative minds will seek solutions. We see the energy revolution, the convergence of biology and technology, and the shift online as being among the many trends that should persist regardless of interest rate hikes, inflation and geopolitics. Importantly, this means that these structural tailwinds should endure for the companies held in the Baillie Gifford Managed Fund and therefore present our clients, as long-term investors, with exceptional investment opportunities over the decade ahead.

The manager believes an appropriate comparison for this Fund is the Investment Association Mixed Investment 40-85% Shares Sector median given the investment policy of the Fund and the approach taken by the manager when investing.

Past performance is not a guide to future returns.

Risk Factors        

The views expressed in this article should not be considered as advice or a recommendation to buy, sell or hold a particular investment. They reflect opinion and should not be taken as statements of fact nor should any reliance be placed on them when making investment decisions.

This communication was produced and approved in December 2022 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.

All investment strategies have the potential for profit and loss, your or your clients’ capital may be at risk. Past performance is not a guide to future returns.

Custody of assets, particularly in emerging markets, involves a risk of loss if a custodian becomes insolvent or breaches duties of care.

The Fund invests in emerging markets where difficulties in dealing, settlement and custody could arise, resulting in a negative impact on the value of your investment.

The Fund’s share price can be volatile due to movements in the prices of the underlying holdings and the basis on which the Fund is priced.

This article contains information on investments which does not constitute independent research. Accordingly, it is not subject to the protections afforded to independent research and Baillie Gifford and its staff may have dealt in the investments concerned.

All information is sourced from Baillie Gifford & Co and is current unless otherwise stated.

The images used in this article are for illustrative purposes only.

Baillie Gifford & Co and Baillie Gifford & Co Limited are authorised and regulated by the Financial Conduct Authority (FCA). Baillie Gifford & Co Limited is an Authorised Corporate Director of OEICs.

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