The Best of Money 2017: Neil Woodford: Will investors keep the faith?
He is Britain’s best-known fund manager, responsible for managing about £15.5bn of assets, with a no-nonsense approach that has won the backing of giant institutions and legions of private investors over his 30-year career. Yet, after what Neil Woodford freely admits has been a “pretty poor 18 months”, growing numbers of the faithful are departing.
Nearly £1bn has flowed from his flagship £8.3bn equity income fund in the past six months following a string of corporate setbacks, the most damaging being Provident Financial. Its shares crashed 65 per cent in a single day after a botched restructuring triggered two profit warnings; something many think an experienced investor like Mr Woodford should have seen coming.
But investment underperformance is also due to his contrarian bet on the UK economy. One of the few fund managers openly to admit that he sees Brexit as a buying opportunity, he has been building stakes in UK banks, retailers and housebuilders — which he believes are discounted for economic Armageddon — as he refuses to “chase the zeitgeist” and invest in companies he considers overvalued.
“It’s an incredibly uncomfortable place to be, where I am now. It is the most uncomfortable position I have been in during my career,” admits Mr Woodford. “But I believe I’m absolutely right. I don’t know when I’m going to be proved right, but I’m utterly convinced that I am right, as I have been right before.”
In an exclusive interview with the Financial Times, he reveals that his conviction rests on his belief that current equity valuations are “a bubble”, the likes of which he has “only witnessed two or three times in my career as an investor”.
Yet, at the same time, he insists there are “profoundly undervalued businesses”, ranging from domestic blue-chips to unlisted knowledge-intensive growth companies seeking early-stage capital which, given time and patience, will deliver a better performance for his investors.
Ten years on from the financial crisis, Mr Woodford says, markets have witnessed “the product of the biggest monetary policy experiment in history”.
“Investors have forgotten about risk and this is playing out in inflated asset prices and inflated valuations. Whether it’s bitcoin going through $10,000, European junk bonds yielding less than US Treasuries, historic low levels of volatility or triple-leveraged exchange traded funds attracting gigantic inflows — there are so many lights flashing red that I am losing count.”
So far this year, the FTSE All-Share index has risen by nearly 10 per cent while CF Woodford Equity Income fund has fallen 1.4 per cent, making it the worst performer among its peers on a one-year basis. But Mr Woodford will not be shaken.
I don’t know when I’m going to be proved right, but I’m utterly convinced that I am right. It’s an incredibly uncomfortable place to be, where I am now. It is the most uncomfortable position I have been in during my career
“This is a period when stock markets have the ability to seduce investors [into believing] that making money is easy,” he says. But to abandon investment principles and “buy what’s going up, just because it’s going up . . . is the route to penury”.
Looking back at the dotcom bubble and the 1990s recession, he feels the market “appears to be making the same mistakes again — but this time the bubble has grown even bigger and more dangerous.
“Those were the two periods when I added most value as a fund manager,” he says. His reputation was built on investing in businesses that nobody wanted to own “as my investment discipline told me these are the businesses that are the most attractive, these are the valuation opportunities in this stock market”.
Today, what he describes as a “prolonged period of market inefficiency and mispricing” means Mr Woodford and his investors face an unnerving wait.
Does he ever doubt his judgment?
“Daily,” he replies. “You must never, as a fund manager, stick your head in the sand saying ‘everybody go away, I’m right, I’m right, I’m right’. You’ve always got to expose yourself to criticism and the analysis that you may be wrong.”
Woodford Investment Management was the first to publish full details of every company its funds hold — which are normally held close to fund managers’ chests — as well as disclosing costs typically hidden from investors.
Rather than talk to the press, Mr Woodford prefers to communicate directly to investors via YouTube or his blog. In September, he apologised for his poor performance on camera, notching up nearly 40,000 views.
A section of his website labelled the “Awkward Corner”, answers questions such as “Has Neil Woodford lost it?” and “Do you have a big enough team?”. Some are answered with more patience than others.
“As a fund manager you are always challenged by the stock market,” he says. “You can go through a period where daily markets are saying you’re wrong, you’re wrong, you’re wrong, and you’d have to be an incredibly thick-skinned, rather arrogant individual not to sort of take that on board,” he says.
Yet by insisting that he is right, doesn’t he also run the risk of sounding rather arrogant?
Successful fund management, he says, is a balance between arrogance and humility.
“You have to have a sufficiently strong arrogant gene to back your judgment, back your conviction. If you didn’t, you would end up with a portfolio that looks very much like the index. But, equally, you must have the humility to accept that you will get things wrong.”
Mr Woodford, 57, made his name at Invesco Perpetual, where he gained a reputation for taking large positions for, or against, entire sectors — and eventually winning. Over 25 years of managing funds, he would have turned a £1,000 investment into £23,000.
His previous jags in performance have been sector-driven, but the bad news over the past 18 months has been more stock-specific.
AstraZeneca suffered its largest-ever one-day fall after the failure of a lung cancer drug trial, and other Woodford favourites including Allied Minds, Imperial Tobacco and the AA have all been punished. But these were eclipsed by Provident Financial, in his words, “a major blow-up that we are in the process of rehabilitating”.
“I’ll put my hand up. This was a mistake,” he says. “The company absolutely, spectacularly failed to deliver the business reorganisation that they talked to us about, at length.”
As a long-term investor, with such a concentrated position, should he have seen this coming?
The stock market bubble
‘We are in a bubble. Why? People have forgotten about risk. There are so many lights flashing red, I’ve lost count. Yet there are pockets of extreme opportunity at the same time’
‘We have great universities, people doing fantastic science. But we have lamentably failed to translate that great asset into a commercial reality. The capital markets have failed to provide capital …they’re too impatient’
“The management team that presided over this disaster were the management team that had 10 years of uninterrupted success in this business,” he says. “The fact is that it went wrong. You can’t jog backwards. What you can only do, at a time like that, is make a judgment about whether it is appropriate to exit this business now.”
To sell shares at £4.50 after the second profit warning, he says, would have “compounded that error”.
The share price has nearly doubled from those lows, but he has courted controversy by adding further to his stake, maintaining the business is still undervalued. While his investment approach may be unemotional, he is visibly upset at the recent death of executive chairman Manjit Wolstenholme, aged 53.
“What’s happened to her is tragic,” he says. “I think the management team and the business owes it to her, not least to continue the really hard work that she put in to repair what had gone wrong.”
“Brexit-driven hysteria” has influenced Mr Woodford’s recent acquisition strategy. He has built stakes in housebuilders Taylor Wimpey and Barratt Developments, and bought back into banking stocks, a sector he has shunned over much of the past 14 years.
“In retail, housebuilding, construction, property, leisure, all sorts of different areas of the domestic economy, you will see valuations the likes of which I’ve only ever really seen on two occasions in my career,” he says.
“I’ve rarely witnessed such an overwhelming consensus view — which I believe to be profoundly wrong — that the UK economy is going to hell in a handcart. And I think your own paper has gone a little bit mad, actually. People have become so extreme in their view that Brexit is a pre-determined disaster for the UK economy, that the share prices are discounting literally economic Armageddon for the UK economy.”
He says the share price of Lloyds Bank, which is now the fifth-largest holding in his flagship fund, is one such example.
‘I would have been a happier, less stressed fund manager if we had voted to stay [in the EU]. But we didn’t. And as a country, we just need to get over it. The remoaners need to get over themselves’
‘People have become so extreme in their view that Brexit is a predetermined disaster for the UK economy that share prices [of UK retailers, banks and housebuilders] are discounting literally economic Armageddon’
“It is a big liquid UK-focused bank whose fortunes pivot on the relative health, or the absolute health, of the UK economy. What the share price is expressing is a consensual view that the UK economy is going to hell in a handcart. Definitely, absolutely, without doubt.”
He is also a champion of Next — a stock he describes as “one of Britain’s biggest online retailers” thanks to its Directory and Label businesses, which on their own produce earnings that eclipse Asos, the online retailer.
“Yet everybody hates Next, it is an example of broken Brexit Britain [in the public’s eyes], and Asos and Boohoo are loved. People are running towards online-only retail, and running away from bricks and mortar retail and they don’t really want to let the details get in the way.”
He has a lot to say about Brexit, but goes silent when asked if he actually voted to leave in last year’s referendum.
“Instinctively, I want to answer that question,” he says, looking for a second as if he might cave in. “Put it this way — I think I would have been a happier, less stressed fund manager if we’d voted to stay. But we didn’t. And as a country, we just need to get over it. And the remoaners need to get over themselves.”
Before news of the divorce settlement broke, he was already confident that “progress” was being made, and fully expects the UK to wrangle “two years in which to negotiate some kind of trade agreement with the EU”.
Mr Woodford thinks the UK will look back on Brexit as being like “the millennium bug”.
“Exactly the same thing will happen with respect to Brexit, whether we are able to negotiate a deal or not,” he predicts. “I’m not saying that it won’t be disruptive. But this notion of a cliff-edge event for the UK economy, where unemployment rises massively, consumer and business confidence evaporates and companies desert the UK is just not how the real world works.”
Mr Woodford takes pride in doing many things differently. His aversion to popular thinking extends to the way he runs Woodford Investment Management, the company he founded in 2014.
He has thrown down the gauntlet to the rest of the industry on fees and transparency. His funds were launched with a single, straightforward charge, aided by the company’s decision to take on the burden of fund-related expenses formerly paid by the investor.
Based in an Oxfordshire business park, Mr Woodford’s office is more like a lounge of a Shoreditch hotel than a fund manager’s corporate lair. He shuns the corporate uniform of suits and shirts. Colleagues in jeans and T-shirts sip artisan coffee in breakout zones furnished with plush armchairs and lamps shaped like pineapples.
It is a calm atmosphere well away from the fray of the City of London, punctuated only when Mr Woodford jabs his finger on the table to make a point.
This happens several times as we discuss the Patient Capital Trust, which he set up in 2015 to invest in early-stage, disruptive technology and biotechnology companies. Its shares, which once traded on a 15 per cent premium to net asset value, are now on a 5.4 per cent discount.
Again, there have been high-profile company-specific setbacks, notably Northwest Biotherapeutics. But Mr Woodford will not earn a penny in management fees unless the trust beats set performance hurdles.
Critics have argued that Mr Woodford’s small and unlisted tech stocks — many of which are also in his flagship fund — have been a distraction.
“We have some incredible competitive advantage in this space,” he says. “We have great universities, great people doing fantastic science. Yet we have lamentably failed to translate that great asset into a commercial reality.”
At root, he blames investor short-termism.
“The capital markets have failed to provide capital, because they’re too impatient,” he says. “Rewarding the short term is cultural as much as it is industrial. The average tenure of FTSE chief executives is too short. The average tenure of fund managers is way too short. So is the way we measure fund performance.”
By taking a long-term view, he thinks investors — and the UK economy — will be well rewarded.
“It is absolutely the case that when you invest in these sorts of businesses . . . when things go wrong, they go wrong early, and the things that go well take time. We knew that, and that’s why we encouraged the investors in this fund to take a long-term view.
“There are 20 businesses in my Patient Capital portfolio that I believe could be multibillion-dollar organisations in three to five years’ time. That doesn’t mean the other 60 are going to fall over. It just means that they won’t be as successful, but we think most of them will be.”
He applauds the government’s decision to establish a £2.5bn investment fund targeted towards innovative, disruptive businesses, announced in the Budget. He was in many ways instrumental to the measure, having sat on the Patient Capital Review panel, a study aimed at funnelling more money to start-up business in the UK.
“I’m getting a bit emotional about this,” he says. “But the fact is that [negative public opinion] has a massive impact, it reinforces the lack of ambition that we have suffered from in this country because we’re not been able to scale great technology into commercial success.”
Message to investors
Having promised us one hour of his time, we have now been talking for more than two and Mr Woodford’s colleagues have been peering through the frosted glass of the interview room with increasing frequency.
What, if anything, can he say to reassure investors that his strategy will be proven right?
“Investor trust is something that is hard fought and hard won. And I think it is, in reality, actually less fragile than people think,” he says, stressing that his flagship fund has still delivered high single-digit returns per annum over a three- to five-year view.
“We’ve had a pretty poor 18 months, as I’ve already said. But in the context of our long-term strategy, I continue to believe that we will meet and beat the return expectations that we’ve encouraged our investors to believe in.
“I would say to my investors, stick with me. Because to chase the things that are going up a lot now means that you embrace massive investment risk. You’re buying into things that are profoundly, fundamentally overvalued, and you’re running away at the same time from businesses that are profoundly, fundamentally undervalued.”
And with that, he exits through the glass doors and is gone.