Here's his Investment Strategy in 10 Simple Steps
This is Terry Smith.
He is known as Britain's Warren Buffett.
His fund returned 18% annually since 2010.
Here's his investment strategy in 10 simple steps: 🧵
1/ Terry Smith invests in what's called "compounders."
These are the companies that have:
• High return on investment.
• Durable competitive advantage.
• Opportunities to allocate capital profitably.
He screens for these first, if not a pass on all, he skips.
2/ He looks for intangible assets that are hard to replicate.
These could be:
• Patents,
• Network effects,
• Distribution networks.
These create a moat around the company that don't require much capital to sustain.
Thus the company can invest excess capital for growth.
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3/ He avoids leverage.
Some companies need to be leveraged to generate high returns on equity.
Regional banks are an example. They are generally 8-10x leveraged.
Though this produce exceptional returns in good times, it endangers the company's survival in bad times.
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4/ The business should be resilient.
It should be safe against technological disruption.
Think about software companies, they are under the threat of disruption by AI.
Yet, people will always keep drinking Coca-Cola no matter how developed the AI becomes.
Pick such stocks.
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5/ Free cash flow is the king.
Metrics like EBITDA and net income are just account terms, what matters is the free cash flow.
Businesses that generate a lot of cash can invest that with less restriction, take higher risk and generate growth without much downside.
6/ You have to look at five things:
- Gross and operating margins
- Return on capital employed
- Cash conversion rate
- Revenue growth rate
They shouldn't be just high, they should be historically high and not in decline lately.
7/ Business should have potential for growth.
For growth, the business needs two things:
- Excess cash.
- High return on invested capital.
7-10% annual revenue growth rate and above 15% Return on Employed Capital is a formula for sustained growth.
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8/ Look at the interest coverage.
The business should make much more in profits than it pays in interest.
This is the linchpin for financial safety.
Terry Smith looks for an interest coverage ratio of at least 15.
9/ Don't diversify excessively.
You must own 15 to 20 stocks, that's all you need for proper diversification.
Beyond 20, diversification doesn't further reduce unsystematic risk of the portfolio.
Yet, excessive diversification may dilute returns.
10/ Be patient and keep learning.
Compounding takes time.
As Warren Buffett said, "you can't have a baby in a month by getting 9 women pregnant."
And you have to keep learning.
Money is just a by-product of consistent learning.
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Disclaimer: Investing carries risk. This is not financial advice. The above content should not be regarded as an offer, recommendation, or solicitation on acquiring or disposing of any financial products, any associated discussions, comments, or posts by author or other users should not be considered as such either. It is solely for general information purpose only, which does not consider your own investment objectives, financial situations or needs. TTM assumes no responsibility or warranty for the accuracy and completeness of the information, investors should do their own research and may seek professional advice before investing.
