Baillie Gifford is renowned for sticking to its positions even through deep drawdowns in share prices, as was the case with Amazon over the past decade, or with Tesla over the past few years.
So if the Scottish firm – arguably one of the most optimistic and volatility-immune investors in the UK – are no longer willing to hold, it is worth taking note.
“We're probably better at holding things than we are selling things,” said Matthew Brett, manager of the Baillie Gifford Japan Trust. “People often talk about having a sell discipline, we probably have more of a hold discipline.”
Over the long run, the fund manager thinks it’s a good strategy to follow as a growth investor, but he admitted that it does mean that one can hold stocks for too long as they fall into decline.
The Baillie Gifford Japan Trust however, seems to have avoided the decline of one of its top portfolio contributors over the years after its decision to start selling its stake in M3 before its fall last year.
M3 – the company behind the Japanese online platform for doctors – has increased by more than 2,700% over the past decade.
It experienced a 300% rally from the lows of March 2020’s coronavirus sell-off but since then has suffered a slow and steady 50% decline from its highs.
M3 share price over 5yrs
Source: Google Finance
However, the Baillie Gifford Japan Trust managed to completely sell out of the company before it peaked last year.
“It has been a holding for more than a decade and will be missed,” the investment manager said. “However, this is a rare case where the share price had appreciated to such an extent that we no longer had a sufficiently positive case to continue holding.”
There are a few reasons why Baillie Gifford managers sell-out of an investment, Brett explained. First is how quickly the company can recognise a problem with the investment case.
However, another important reason why the manager sells – even if the business is successful – is that it does not see any further upside in the share price.
In the case of M3, Brett said: “Different people have different views on this. But on a forward-looking basis I personally struggle to see more upside in shares from here.
“It remains a very, very strong business, but the valuation multiples have expanded a great deal and when I finally exited the position it wasn’t far off an EV to EBIT [Enterprise Value to Earnings Before Interest and Tax] multiple of 100.
“Some people are comfortable with that, and they still see enough strong growth prospects. But for me personally I could no longer understand it.”
He shares a different view to some of his colleagues at Baillie Gifford. For example, M3 still forms a top-10 position in the Baillie Gifford Health Innovation fund.
Brett added: “The company is just a lot bigger than it used to be, so it needed to double or triple the sales from here, which I thought would be a lot more difficult. But equally I may just lack the imagination of some of my colleagues, time will tell.”
Brett said M3 was a rare case in the Japanese equity market of a company that got ahead of itself in terms of valuation multiples.
This is because roughly two thirds of the Japanese equity market trades at a price to earnings (P/E) ratio of 13 times, a low figure in comparison to other developed markets such as the US where many high growth technology stocks trade on much higher valuations.
This may be largely due to the fact that the stock market has not been in favour for almost 30 years after the Japanese asset price bubble that burst in 1992.
“If you go back to the 1990s, this was really when it became not a good place to invest,” Brett said. “There was a great chunk of banks that dominated the market.
“So investing in Japan in the early 1990s was basically investing a lot in some very, very expensive banks. We can see that didn’t work out so well.”
Whereas today, Brett is excited by the fact that the Japanese stock market has continued to evolve over time into something vastly different.
He said: “There is a bit of an artistic licence in the fact that Toyota Motors has gone from being a car company to a mobility company, which makes it sound much more exciting than it did a few years ago.
“But very broadly, there is a lot more technology focus in the Japanese stock market now. Yet we don’t really have those issues of paying up for stocks in Japan.”