The case for global funds

When Terry Smith launched the Fundsmith Equity fund in 2010, it was to surprisingly little fanfare. Back then global equity funds weren’t very popular in the industry. The theory was simple – the best companies in the world should beat the best companies in one country, or in one region. But the practice was different: mixed results in returns often gave the sector a reputation of being problematic.

Today, some of the best funds out there are global. What has changed? And why do global equity funds deserve a place in your portfolio?

Better returns

One reason is performance: looking at the top performing equity funds over the past five years, three of the top 10 are global, and 10 of the top 50. Whilst North American or Chinese funds dominate the chart, global funds more than held their own. The top emerging markets fund was 40^th, the top European fund was 49^th and the best UK fund came in 116^th (Lipper for Investment Management, October 31, 2020).

It’s not guaranteed that global funds will continue to do better, though. As we are constantly told, past performance is not a guide to future performance. We need to look at why they have outperformed and consider what this suggests about the future.

More choice

Global fund managers have far more companies to choose from. The MSCI World, an industry standard index of large developed market equities, includes over 1600 companies. For fund managers prepared to invest in emerging markets or smaller companies, the choice is even wider.

More companies means more top performing companies, and in recent years these have often been US-based. The best performing company in the MSCI World over the last five years was Tesla (+501.0%), but the likes of Amazon (+182.1%) and Microsoft (+161.5%) also delivered stellar returns. The best performing European stock, Finland’s Neste (+210.9%), came 8^th, whilst Australian and Japanese companies also made the top 10. The top UK stock, London Stock Exchange is 43rd (Morningstar, October 31, 2020).

Better industries

Global managers have more good companies to choose from, but the larger universe means they have more bad ones too. So how do the top global managers go about finding the best companies?

One way of finding them is to look in the best industries. Looking at the companies highlighted above, Amazon, Microsoft and Tesla are all technology-related. Tesla’s electric cars are also part of the green revolution, as is Neste, the world’s leading producer of renewable diesel.

And their success is far from unique. Over the last 10 years the global information technology index has risen +522.7%, while the energy sector (largely oil & gas) is down -21.7% (Lipper for Investment Management, October 31, 2020). And with the world moving inexorably online and becoming ever more environmentally conscious, who would bet against those trends continuing? 

This presents a challenge for UK managers. BP and Shell make up 7% of the UK market, whilst mining companies are another 9%. Technology is little more than 1% (MSCI, MSCI UK All Cap).

This is one of the reasons we prefer benchmark unconstrained funds. For instance, Liontrust Special Situations’ success is partly down to its investments in UK software companies. UK managers can still buy faster growing companies, they just have less to choose from.

Oil companies make up just over 2% of the global market, while IT is 22%. Global managers do have a lot of choice, but it’s easier for them to ignore oil and other declining industries. They can drill down to focus on the fastest growing industries, then pick out the most dynamic companies in those industries.

Galloping elephants

Another reason for the emergence of global funds is the success of larger companies. Global managers can’t possibly be experts in the tens of thousands of listed companies worldwide, so they tend to focus on those at the top, often the 1600 companies of the MSCI World or fewer.

Regional managers, by contrast, could use their local expertise to consider smaller companies as well. This meant they could take advantage of their faster growth. After all, small innovative companies were bound to do better than their larger counterparts, often beset by bureaucracy and with the founders who built them long gone. As UK investing legend Jim Slater once put it, “elephants don’t gallop”.

Historically that seemed to be true. The MSCI World Small Cap index rose +244.3% from 2000-2015, compared to just +63.7% from lethargic large caps. However, there are signs things are changing. From 2015-2020 the MSCI World Large Cap index rose +84.4%, compared to +69.4% from small caps (Lipper for Investment Management, October 31, 2020). Those elephants might not be galloping yet, but they’re definitely nimbler on their feet.

Let’s take Apple as an example. In 2003 it was worth just US$5 billion, but the launch of the iPhone saw it hit the US$100 billion mark in 2007. But that didn’t stop it hitting the US$500 billion mark in 2012, or the US$1 trillion level in 2018. It didn’t even stop there – in 2020 it became the world’s first US$2 trillion company (Morningstar).

One reason for this is free trade agreements and trading blocs like the EU and the new United States-Mexico-Canada Agreement (USMCA), which give easier access to large markets, current frictions notwithstanding. Another is the internet, which helps give companies and particularly service-oriented a near-global reach. Businesses are no longer limited to a single country or to a single continent. With the whole world to aim at, they can grow faster for longer.

Regional investing is global investing

One of the simplest arguments for investing globally is that you almost certainly already do. It’s not just Apple that sells worldwide. Even if you’re only invested in the UK, around 80% of the FTSE 100’s revenues come from overseas (Morningstar, October 31, 2020). European, North American and Asian funds also have a high degree of global exposure, whether through exports or regional offices. And if you’re already invested globally, why not do it in the most efficient way?

A global world

Because so many companies are global, investing on a global basis simply makes sense. Their operations are global, their markets are global and their competitors are global. The question isn’t so much how much of the UK market they can take, but how much of the global market they can take.

And, also, can their competitors stop them? Consider drug maker AstraZeneca, one of the UK’s largest businesses but also one of the world’s leading pharmaceutical companies. Its competitors are other global pharma companies, like Switzerland’s Roche or Pfizer of the US. Comparing it to baker Greggs or fashion label Ted Baker just because they’re also UK-based makes little sense.

Global investing is an idea whose time has come. Fund selection is still important. Global managers have more ways to get things right, but also more ways to make mistakes.

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