Nobody likes hearing “I told you so” about dud investments. But experiencing losses is the best way to learn painful lessons. The Woodford saga is not the first time investors have been lured into an expensive trap and it won’t be the last. Those caught will be feeling very foolish, but it was easy to succumb to the initial wave of enthusiasm.
My overall record is mixed, but I can claim to have disparaged Neil Woodford’s Patient Capital Trust from the start. Woodford left Invesco Perpetual in 2014, complaining of the bureaucracy and constraints that the firm placed on him, but such claims should always be treated with a pinch of salt. The checks, balances and team discipline imposed by larger firms are often in the interest of both investors and the manager; without them, Woodford’s exaggerated self-belief soon turned into autocracy.
No convincing record
His thesis of backing British innovation and technology had enormous appeal. But venture investing had always been a small part of what he did at Invesco and he never produced the record to support it becoming the main purpose of a new investment vehicle.
His approach looked very much like throwing mud (ie, money) at a wall and hoping that some of it would stick. Shareholders in an investment trust should have the protection of independent directors to hold the manager to account, but Patient Capital’s board was selected from entrepreneurs whose businesses he had backed and who were cheerleaders for the strategy. It lacked experienced, hard-nosed professionals until it was too late to change course.
Finally, Woodford initially targeted raising £200m for Patient Capital, but, as the money flooded in, that target was raised to £500m, then £800m. This was too much for such a vehicle, with the result that it owned too many large stakes in small, illiquid, often unquoted companies, each of which required detailed, specialist knowledge. More broadly, the size and popularity of new flotations has often not been a guarantee of success, but a warning sign. This was true of the privatisation trusts of the 1990s, of the Brevan Howard funds in 2007 and 2008, of Fidelity China in 2010 and of Pershing Square in 2014.
Brevan Howard started well before performance fizzled out, Fidelity China was turned around after a poor start and Pershing Square has recovered sharply this year, but “caveat emptor” has always been good advice for large initial public offerings. It was a key reason for my caution about BioPharma Credit a year ago, now looking misplaced after a very profitable disposal. Far worse was my recommendation in late 2017 of CatCo, the catastrophe reinsurance fund.
A disastrous catastrophe fund
CatCo had made excellent returns, ranging from 7% to 22% and averaging 12%, in the preceding six years, which were largely free of natural disasters. A series of hurricanes in 2017, an earthquake and the Grenfell Tower disaster resulted in a share-price drop of 25% as significant claims were expected.
The fund raised another $540m of capital. But the cost of 2017’s disaster continued to climb, 2018 saw another batch of disasters and 2019 is turning out to be another stinker. The funds are now in wind-up mode. The lessons are the old maxims of not trying to catch falling knives and not confusing brains with a bull market.
Better Capital gets worse
The last ten years have been good for investors in private-equity funds, but not for shareholders in Better Capital. Jon Moulton raised £210m in 2009 for private-equity investment in distressed companies. Moulton had a considerable reputation in this area, buying companies either in, or close to, bankruptcy, cutting costs, injecting new management and turning them around. At first, all went well and Moulton was able to raise another £355m for a parallel fund in 2012.
Thanks largely to a very successful investment in Gardner Aerospace, an aerospace components supplier, the 2009 fund has returned 54% (just 6.5% per annum), but the 2012 fund has lost 52%, while other listed private-equity firms have multiplied in value.
There have been plenty of management mistakes in businesses such as Jaeger (fashion retailing), Spicers (stationery) and Everest (replacement windows), but businesses such as Reader’s Digest and Citylink should never have been bought.
In some cases, Moulton focused too much on the short-term potential for cutting costs and restructuring without giving much attention to the long-term prospects for the business. More generally, he failed to recognise that turning around ailing businesses has become much more difficult in an era of rapid economic change. The lesson for investors is that what has worked in the past doesn’t necessarily work in the future.
People have a psychological aversion to recognising a mistake. Investors tend to hang on in the hope that a fund’s fortunes will be turned around – as they often are, whether due to a change in manager, a change in market conditions, or a change in strategy. But when the whole investment thesis is flawed and discredited, as with Patient Capital, CatCo and Better Capital, it is never too late to sell, however wide the discount to a net asset value that is probably an illusion.
Activist watch
Engine Capital, a $250m US hedge fund known for urging retailers to revamp their operations, has taken aim at the board of Care.com. Engine owns 3% of the shares in the online marketplace for carers. They have fallen by 60% since an investigation by The Wall Street Journal unearthed serious deficiencies in its vetting procedures: some people hired through the platform to care for clients had police records and were accused of crimes including child abuse and murder.
The company says it will overhaul its business model, but Engine thinks the only way to recover from the scandal is to sell the business, note Gregory Zuckerman and Kirsten Grind in The Wall Street Journal. “Under new ownership it would be easier to establish a clean break from the past.”