Click to read this e-zine
Sponsored by
Click to discover this magazine
IMPORTANT INFORMATION Baillie Gifford & Co and Baillie Gifford & Co Limited are authorised and regulated by the Financial Conduct Authority (FCA). The investments trusts managed by Baillie Gifford & Co Limited are listed UK companies and are not authorised and regulated by the Financial Conduct Authority. A Key Information Document is available by visiting www.bailliegifford.com. *Calculated in accordance with AIC recommendations. Excludes transaction costs, costs of borrowing money to invest and the ongoing costs of any underlying investment funds within the Trust’s portfolio. Details of these costs can be found in the Key Information Document. Investment markets and conditions can change rapidly. The views expressed are those of the speaker, are not statements of fact, and should not be considered as advice or a recommendation to buy, sell or hold a particular investment. No reliance should be placed on these views when making investment decisions. The Trust invests in emerging markets where difficulties in dealing, settlement and custody could arise, resulting in a negative impact on the value of your investment. All information is sourced from Baillie Gifford & Co and is current unless otherwise stated. James Budden Director of Marketing and Distribution James is a Director of Marketing and Distribution in the Clients Department. He joined Baillie Gifford in 2008 having worked at Witan Investment Trust and Henderson Global Investors. James graduated MA in Classics from the University of Cambridge in 1987.
A Capital Idea for Growth
Monks is a £2 billion global growth investment trust launched in 1929 and managed by Baillie Gifford. It aims to be a core holding in any investor’s portfolio. The trust’s three managers Charles Plowden, Spencer Adair and Malcolm MacColl are like all at Baillie Gifford – out-and-out growth managers. But what does growth investing mean to the market? Increasingly, despairingly, it means the compression of time horizons, down often to a matter of weeks, the extraction of capital away from markets through buybacks and dividends, and a situation where complexity and gigabytes of data are mistaken for insight. Monks takes a very different stance. The trust’s philosophy has, at its heart, the notion of investing as the provision of long-term risk capital to businesses seeking to grow. What does that mean? Well, let’s take each part of that statement in turn and explain things as clearly as possible. Long term: the Monks managers have no idea what a company’s share price, or indeed what stock markets will do over the next three, six, or 12 months. They leave crystal ball gazing to others. But what they do know is that over sustained periods of time (five years and beyond), share prices follow the path of earnings. Therefore, the team spends time trying to understand the fundamental opportunities available to companies. That will typically involve looking at whether a business operates in a market with obvious scope for growth, whether the business has a clear competitive advantage, and whether management runs the organisation in a sustainable and thoughtful manner. This approach provides markers in the sand, against which progress may be measured. In the real world this progress takes time. So the managers think in decades, rather than trying to second guess quarters. Risk capital: markets crave certainty. A huge amount of work goes into analysis of the minutiae – being right of the decimal point. But one thing is for sure - life isn’t certain. The success of a business in years to come can never be foretold or guaranteed. With this as a starting point, Monks deliberately embraces uncertainty. The managers realise that companies which are successful over the long term are those that sacrifice short-term profitability to embrace and drive far-reaching structural change. Big societal shifts over the next decade and beyond are far more powerful than next month’s profit and loss account in driving long-term returns. As a result, the team always looks to the left of the decimal point. Growth: and finally, growth. The trust always looks to invest its shareholders’ capital, not in clever financial market instruments but in real, return-generating activities. Fundamentally in businesses that seek to provide for the needs and wants of the people. As a base, it is looking for a company that can sustainably grow its earnings at around 10 per cent per annum. This may not sound spectacular but, given that the average company is unlikely to grow at more than 5 per cent over the long run, the returns from a business growing at 10 per cent, compounding year after year after year, can be very meaningful. Monks is firmly convinced that the only way to deliver superior investment returns for shareholders is to ignore the short-term whims of the market and instead focus on committing capital, for long periods of time, to sustainably successful businesses. The portfolio will typically contain around 100 stocks offering diversity across geography and sector. It looks nothing like any index. The performance of the trust should be judged on a long-term basis, preferably over five to ten years. It is over such a timeframe that the managers aim to significantly outperform world markets. Finally, the trust is low cost in comparison to the majority of global funds, with an ongoing charge of 0.5* per cent.
The value of your investment and any income from it can go down as well as up and as a result your capital may be at risk.
Annual Past Performance to 30 June Each Year (%)
Source: Morningstar. Share Price, total return. Sterling.
Past performance is not a guide to future results.
Alexa, how big can you get?
That two high-yielding, infrastructure funds have muscled their way into the top list alongside some long-standing and well-known global and regional equity trusts is impressive
Professional investors have generally proved quicker than DIY dividend seekers to exploit the new breed of alternative income trusts but that is likely to change as the likes of Supermarket Income – a specialist real estate investment trust the subject of our third feature – increasingly pitch their shares at the retail market. The word ‘alternative’ can be stretched in different ways. UK smaller company fund manager Gervais Williams has offered a distinctive proposition for some years with the Diverse Income and Miton UK Microcap trusts he runs with Martin Turner. Jen Hill interviews him in our second feature and finds him more convinced than ever that his part of the market provides the diversification income investors desperately need from the narrowing band of solid, blue-chip dividend stocks.
The decade since the financial crisis has seen the investment trust sector undergo a makeover that would make fashion guru Gok Wan proud.
Consider the alternative
A desire for income in a low interest rate world, coupled with a wish for more defensive investments, has spawned a huge expansion in ‘alternative assets’ with trusts investing in property, infrastructure and debt accounting for £83 billion of the £200 billion held in London-listed closed-end funds in July. Our first feature revealing the trusts most held by wealth managers encapsulates this trend. That two high-yielding, infrastructure funds have muscled their way into the top 10 list alongside some long-standing and well-known global and regional equity trusts is impressive given the relative youth of the new entrants. Most remarkably, HICL Infrastructure – the first of its peer group to launch 13 years ago – pips the FTSE 100 listed, 110-year-old Scottish Mortgage to the winning post. According to Refinitiv data, the 10 wealth managers in our analysis held £683 million in HICL, slightly more than the £672 million in SMT. Of course, had we included the billions held by private investors in SMT it would have won hands down.
Hidden in view
IMPORTANT INFORMATION Baillie Gifford & Co and Baillie Gifford & Co Limited are authorised and regulated by the Financial Conduct Authority (FCA). The investments trusts managed by Baillie Gifford & Co Limited are listed UK companies and are not authorised and regulated by the Financial Conduct Authority. A Key Information Document for Shin Nippon is available by visiting www.bailliegifford.com. The trust invests in overseas securities and changes in the rates of exchange may also cause the value of your investment (and any income it may pay) to go down or up. The trust’s exposure to a single market and currency may increase risk. The trust's risk could be increased by its investment in unlisted investments. These assets may be more difficult to buy or sell, so changes in their prices may be greater. Investment in smaller companies is generally considered higher risk as changes in their share prices may be greater and the shares may be harder to sell. Smaller companies may do less well in periods of unfavourable economic conditions. This recording does not constitute, and is not subject to the protections afforded to, independent research. Baillie Gifford and its staff may have dealt in the investments concerned. Investment markets and conditions can change rapidly. The views expressed are those of the speaker, are not statements of fact, and should not be considered as advice or a recommendation to buy, sell or hold a particular investment. No reliance should be placed on these views when making investment decisions. All information is sourced from Baillie Gifford & Co and is current unless otherwise stated. Author info James Budden Director of Marketing and Distribution James is a Director of Marketing and Distribution in the Clients Department. He joined Baillie Gifford in 2008 having worked at Witan Investment Trust and Henderson Global Investors. James graduated MA in Classics from the University of Cambridge in 1987.
Discard the three Ds when investing in Japan
Long-term investors in Japan should cast out the three Ds – debt, demographics and deflation – often used to sum up the country’s economic problems.
Commentators have long had a habit of describing Japan as a country defined by its national isolation, bureaucratic inertia, and aversion to risk, where coercion trumps competition. It is portrayed as a fatalistic society and a culture of subservience. However, whether true or not, none of these things actually matter when you invest in a very long-term patient manner and construct a portfolio from the bottom up. Either these problems are addressed by the companies you invest in or they are superfluous when compared to the long-term growth opportunities which these companies can offer. When you invest in such a way, Japan can be a land ripe for reward. Baillie Gifford has one of the largest Japanese equities teams outside Japan and runs two high-performing investment trusts – Baillie Gifford Shin Nippon and Baillie Gifford Japan. They have a combined market capitalisation of £1.2 billion and a distinctive growth style. Praveen Kumar, manager of the £527 million Baillie Gifford Shin Nippon, looks for smaller Japanese companies whose shares have the potential to grow fivefold over five years. He favours problem-solvers – companies that offer solutions to endemic structural threats, often run by visionaries who are willing to challenge the status quo. Currently the trust has a portfolio of 73 holdings and it is worth taking a look at three of its top ten holdings (see table) by way of giving a flavour of its proposition to investors. Shares in medical device developer Asahi Intecc have grown 21 times in the past ten years and have further potential on the upside as the business grows its market share beyond Japan. Overseas sales account for two-thirds of revenue, up from one third in recent years.
Source: Morningstar. Share price, total return. Sterling.
TOP TEN HOLDINGS
Total may not sum due to rounding.
The two other examples illustrate that the manager is finding exciting opportunities emanating from the disruption and transformation of established industries through the use of modern technologies. Iconoclastic entrepreneur Yasukane Matsumoto, founder and chief executive of online printing company Raksul, has a 30-year plan to increase the 3 per cent share online players have of the commercial printing market in Japan. The company has an innovative business model and low capital requirements, acting as a middleman between printers and customers and charging 25 per cent commission while remaining 30-50 per cent cheaper than factory-laden competitors. Infomart is also using technology to transform an old-fashioned industry. It provides an online business-to-business food information and ordering system, connecting restaurants with suppliers. Praveen Kumar has something particularly interesting to say about this stock:
“It’s worth considering the Galápagos syndrome in Japan where high tech is met with Luddite or outdated practices. It’s a very curious paradox that you’ll notice if you visit Japan. Fax machines remain ubiquitous and crucial to businesses whereas they are a relic and gone the way of the dodo in the west. Restaurant businesses rely on fax machines, trade shows and pamphlets to order their ingredients. Infomart brings it all online.”
As a result, this company aims to increase the 18 per cent online penetration of this market as restaurants grapple with tighter margins amid higher labour costs, which they are not keen to pass onto customers. To sum up, Baillie Gifford Shin Nippon seeks growth from companies with cutting-edge business models disrupting traditional Japanese practices. More often than not, it is the case that such companies are founded by an emerging breed of dynamic entrepreneurs returning home after being educated overseas. By way of diversity, the trust’s portfolio is a blend of domestic champions and firms with strong sales in global markets. The manager believes that Japan, far from being in the doldrums, is experiencing a period of secular growth and innovation. It is a new Japan and by investing long term in its smaller companies Shin Nippon, which means New Japan, is living up to its name.
Check out our website – citywire.co.uk/investment-trust-insider – for your daily dose of news, interviews and comment on your favourite investment funds.
The best from our website
Nick Train: investors are always worried
Trade wars and Brexit should not distract investors from the long-term aim of growing their wealth in the stock market, says Finsbury Growth & Income manager.
Worldwide Healthcare still hopeful after missing out on ‘Holy Grail’
A bet on breakthrough drug treating Alzheimer's didn't pan out as hoped, says co-manager Trevor Polischuk.
Ruffer: what went wrong last year and how we responded
Duncan MacInnes, co-manager of Ruffer Investment Company, discusses what went wrong with the investment trust’s famous capital preservation strategy last year.
Hawksmoor’s five trust and fund picks for a testing year
Ian Cowie: dividends provide the antidote to trade war fears
Investec: ‘sell’ Woodford Patient Capital, trust close to breaching 80% unquoted limit
James Carthew: hotel income fund looks worth checking into
Global trusts’ exposure to the UK and a weak pound
Trust Watch: Scottish Mortgage ‘cheap’ and gold fund rockets
Smithson jumps on Fever-Tree as shares lose their fizz
Lord Rothschild alert to risks amid stock market highs
Mastertrust’s Walls buys Woodford trust on slide
Burford returns fire on short-seller as funds count cost
Woodford Patient adds Ruffer co-founder to board as Harris quits
Standard Life UK Smaller eyes future after enduring ‘Groundhog Day’
Baillie Gifford US Growth buys more SpaceX in stellar first year
BMO’s Hewitt keeps watch on Woodford and Darwall
Resurgent Pershing bets big on Buffett and defends 25% gearing
Augmentum: the FCA is great and Interactive Investor has a big future
Tim Levene, chief executive of Augmentum Fintech, says support of City’s regulator was essential in establishing London as centre for financial innovation.
Schroder’s Sue Noffke: why I’m geared for a UK recovery
Manager of Schroder Income Growth explains why, despite uncertainties of Brexit and trade tensions, she has conviction in UK stock market prospects.
Picton: Homebase wanted ‘massive’ rent cut, we said no
Michael Morris, chief executive of Picton Property Income, discusses the challenges and opportunities facing landlords and real estate investors.
Pantheon: automation driving a ‘renaissance’ in private equity
Andrew Lebus of Pantheon International discusses the software revolution re-energising prospects for unquoted companies outside the turbulence of public stock markets.
There are many casualties of Neil Woodford’s downfall
Ian Cowie: put trusts on buy lists is lesson from Woodford
Trust Watch: massive Train bubble, F&C discount and several Japan bargains
Trust Watch: ‘cracking value’ in Capital Gearing’s favourite small-cap star
Trust Watch: Woodford-backed loan fund offers 11% covered yield
Baillie Gifford abandons trust saving schemes to Hargreaves
Japan offers rare value amid bull market’s heady highs
‘Disappointed’ Terry Smith says sorry and admits FEET needs repair
Woodford rocked as Guernsey suspends his unquoted stocks
AIC’s ‘Income Finder’ helps my dividend drive
What is board of Woodford Patient Capital Trust doing?
Keep calm about Corbyn: what could he actually do?
Lord Rothschild: UK faces worst political crisis since Suez
Scottish Mortgage tops up Tesla stake
Goodbye ‘British Empire’ as old trust investor changes name
Key Points:
Ever wondered which investment trusts the experts pick? We regularly quote the views of wealth managers on closed-end funds listed on the London Stock Exchange, but never before have we calculated how much they hold in individual trusts.
For this exclusive feature we’ve done just that. Using data from Refinitiv we have worked out which are the 10 most popular investment trusts held on behalf of investors by Rathbones, Brewin Dolphin, Investec, Close Brothers, Quilter Cheviot, Charles Stanley, Smith & Williamson, JM Finn & Co, Tilney and LGT Vestra.
This article introduces the trusts and explains why they play a prominent role in wealth manager client portfolios.
We start our countdown with an £1.1 billion ‘alternative income’ fund. Stock market volatility and a decade of ultra-low interest rates have forced income seekers into investments outside conventional shares and bonds. Infrastructure funds investing in companies operating public sector facilities on long-term, inflation-linked contracts have been a big beneficiary of this move. Run by Philip Kent (pictured above middle) of Gravis Capital, GCP Infrastructure has proved popular with several wealth managers including Close Brothers and Quilter Cheviot. Its portfolio is spread across typical social infrastructure projects such as schools and hospitals, supported housing and renewable energy. Unlike most infrastructure funds, it focuses on the debt issued by companies, which means it stands higher up in the list of creditors should anything go wrong with the businesses. Close Brothers’ investment director Matthew Stanesby (pictured above right) says this approach makes it a ‘little bit unique’ and a good proxy for bonds. With a 6% dividend yield, GCP offers a lot more income than government bonds, which is why the shares traded as much as 15% over their net asset value earlier this year. Demand has waned a little since then due to fears of regulatory intervention against supported housing providers. Also the risk of a general election bringing in a Labour government under Jeremy Corbyn threatens to abolish some of the private finance initiatives in which the fund invests.
GCP Infrastructure (GCP)
10
10 top trusts held by wealth managers
scroll for more
How much wealth managers own of investment trusts
Launched 29 years ago with a market value today of over £1 billion, this is the largest trust in the UK Smaller Companies sector. Run by Edinburgh-based Aberforth Partners, its long-term performance has been held back by a value style of looking for cheap out-of-favour stocks. This itself has been out of favour in the post-financial crisis era in which more expensive growth stocks have fared better. Consequently Aberforth Smaller Companies sits towards the bottom of its sector with a 185% total shareholder return over 10 years that is nearly half the peer group average. That has not discouraged supporters such as Brewin Dolphin, Investec and Tilney who increasingly see its high weighting to businesses exposed to the domestic UK economy as one that could do well once Brexit uncertainty is lifted from the stock market. Half-year results for the six months to the end of June saw it underperform with 8.3% growth in net asset value compared to 10.5% in the Numis Smaller Companies index and 13% for the FTSE All-Share. The valuation gap with the Numis benchmark was the widest ever with the 81-stock portfolio priced at 9.6 times earnings, 30% below the 13.8 times multiple in the index. Unlike many of its rivals, Aberforth largely avoids shares on the junior Alternative Investment Market (AIM) with two-fifths of the portfolio invested in ‘mid-cap’ FTSE 250 stocks and nearly half in FTSE Small Cap stocks. Tilney managing director Jason Hollands (pictured above right) likes this saying the focus on more liquid, main market stocks, along with its ‘strong value discipline’ makes Aberforth a ‘relatively defensive’ strategy. On a 12% discount below NAV, the shares are good value too.
Aberforth Smaller Companies (ASL)
09
Ageing populations and medical advances have made healthcare a compelling investment theme in the past decade. Worldwide Healthcare, managed by sector specialist Orbimed in New York, is the vehicle chosen by most wealth managers to capture those gains. Although its smaller stable mate Biotech Growth (BIOG) has a slightly better record over 10 years, it is the £1.4 billion WWH that appears on most wealth manager buy-lists. Its 448% total return has beaten its benchmark, the MSCI World Healthcare index, over the decade. Courtesy of a broader approach that includes suppliers, product providers and administrators alongside drug developers, its performance has also been less volatile than Biotech Growth. In the past two years the trust has had to cope with the departure of its founding fund manager Sam Isaly over an allegation of sexual harassment and the market turbulence caused by drug pricing becoming a perennial debate in US politics. Isaly’s exit saw Sven Borho and Trevor Polischuk (pictured above middle) come to the fore. The duo have impressed Charles Stanley analyst Adam Carruthers who likes the way the managers avoid UK pharmaceutical giants AstraZeneca and GlaxoSmithKline (GSK), understanding that many investors will likely already hold these stocks directly in their portfolios. ‘Notwithstanding GSK and Astra, it’s also under-weight some of the big US pharmas,’ said Carruthers (pictured above right). ‘The stock selection has been great – it’s truly active – even against the pharmaceutical MSCI benchmark, never mind a more generalised benchmark.’
Worldwide Healthcare (WWH)
08
The only surprise of seeing Nick Train’s flagship UK Equity Income investment trust here is that it is not higher up the list. The £1.9 billion trust is popular with both wealth managers and private investors due to Train’s highly successful, buy-and-hold strategy. This focuses on owners of big, valuable consumer brands, such as Guinness and Johnnie Walker owner Diageo, Dove soap and Magnum ice-cream giant Unilever and Manchester United football club. Over five and 10 years, Finsbury Growth & Income leads its sector with total returns of 100% and 444%, more than double the average performance of its rivals. While it’s possible to invest in Train (pictured above right) through his Lindsell Train UK and Global Equity funds, Charles Stanley’s Carruthers is clear the trust has the upper hand. ‘We do prefer to access Nick Train in the closed-ended structure, in fact Nick has told us, and said it publicly on many occasions, that the trust is the best way to access his investment approach,’ said Carruthers. ‘We appreciate that he is going to be focused on branded consumer goods, retail financial services, media, pharmaceutical stocks. He’s never going to own banks or miners etc, so we know what we’re getting with Nick there.’ ‘Nick Train’s investment approach is deceptively simple but highly effective,’ added Winterflood analyst Simon Elliott. ‘By identifying and investing in a concentrated list of high-quality companies with strong brands or intellectual property, he has generated an impressive long-term performance record. He has allowed his winners to run, while being prepared to support those that are faltering where he believes potential still exists. In our opinion, his record justifies the fund’s consistent premium rating in contrast with its wider UK Equity Income sub-sector.’
Finsbury Growth & Income (FGT)
07
For equity income from a globally invested portfolio, many wealth managers pick Bruce Stout’s £1.5 billion investment trust. According to data from Refinitiv, Murray International – part of the Aberdeen Standard Investments stable – is a prominent holding of six of our wealth managers: Charles Stanley, Smith & Williamson, Tilney, Rathbone Bros, Brewin Dolphin and Investec. At first sight that’s surprising as over the past five and 10 years the trust has underperformed the MSCI World stock market index and rivals such as Scottish American (SAIN) and JPMorgan Global Growth & Income (JPGI). A 147.5% total return for shareholders over a decade doesn’t look great compared to 229% from global markets and 208% for the average global equity income trust, but can be partly explained by Stout’s big asset allocation calls. Unlike rivals, Stout (pictured above middle) prefers the Asia Pacific, where he has 29% of the trust invested, over the US, where he has a relatively small 18%. This reflects his enthusiasm for emerging markets over developed markets whose economies he believes remain distorted by high levels of debt 10 years after the financial crisis. Although the numbers have not always impressed – except for 2016 when the shares leaped 50.5% – the tilt to Asia and emerging markets has attracted investors in search of diversification and something a bit different. A high 4.5% yield with 14 years’ dividend growth encourages income seekers and, coupled with Stout’s outspoken bearishness, have made him popular with investors. Smith & Williamson partner James Burns said Stout’s turnaround of the trust since taking it on in 2004 has been ‘absolutely phenomenal’. ‘He’s got strong views on the world and where he wants his money and people like that,’ Burns (pictured above right) added.
Murray International (MYI)
06
If at first you don’t succeed, try, try again. The US is a notoriously difficult stock market to beat. Launched way back in 1881, this £1 billion investment trust has grown to be the biggest in its sector due to having come closest among a handful of rivals to beating the S&P 500 index. Close is not good enough, however, and earlier this year with long-term returns slipping below the benchmark, with a 326% ten-year return versus the S&P’s 376%, the board replaced Garrett Fish, its long-standing fund manager. Any frustration felt by Fish, a value investor, may have been mollified by the fact that it took two fund managers to replace him. Jonathan Simon (pictured above left), also a value fund manager, and Timothy Parton (pictured above middle), a growth investor, have been tasked with running the portfolio together based on their best ideas. In addition, the small allocation to a US smaller company portfolio run by Eytan Shapiro continues alongside the pair. Quilter Cheviot fund research analyst Ernst Knacke (pictured above right) has welcomed the unusual hybrid approach. He liked how the new strategy was not constrained and effectively spread ‘the opportunity set as wide as one can without taking a particular style bet’. It’s still early days though, and the shares trade on a discount of 5% below net asset value.
JPMorgan American (JAM)
05
A more index-aware approach has also made this the biggest listed technology fund in the UK. With a market value of £1.9 billion the portfolio overseen by fund manager Ben Rogoff (pictured above middle) is three times the size of its main rival Allianz Technology Trust (ATT). However, ATT in the hands of a team led by Walter Price in San Francisco has delivered an astonishing 666% total return by taking bigger bets on rapidly-growing, smaller tech companies. Wealth managers aren’t complaining though as the 569% return from Polar Capital over the same period is also a very strong performance. It smashes the 414% from tracking the Dow Jones World Technology index or the 121% from the UK’s FTSE All-Share. ‘The management team utilises a thematic approach to stock selection, which results in a diversified portfolio of names that are plays in growth areas such as cloud infrastructure, digital marketing, and robotics,’ said Alex Moore (pictured above right), head of collective research at Rathbones. ‘The trust is a potentially a core offering for those looking for a specialist fund in this space, given that global large-caps are well represented in the portfolio, but the investment trust structure also allows for some investment in smaller technology companies too.’ Rogoff is currently wary of the uncertainty around the US-China trade war and the direction of global interest rate policies. He has an ‘above average’ 6% of assets in cash and a ‘modest’ amount of Nasdaq ‘put’ options to protect the portfolio in the event of a sharp drop in the US technology index.
Polar Capital Technology (PCT)
04
JP Morgan’s second trust in the top 10 dates back to 1884 when it was first launched by Robert Fleming. Since then Mercantile has grown to £1.6 billion, making it the biggest listed fund in the Association of Investment Companies’ UK All Companies sector. Also designed as a ‘core’ offering – this time for the home UK market – its focus is not on the big blue chips of the FTSE 100 as you might expect, but on the ‘mid-cap’ tier of stocks in the FTSE 250 index. This emphasis held back returns after the shock EU referendum result in 2016 when investors sold off this area of the market indiscriminately over fears of an economic slowdown. Performance has bounced back since then, however, with a three-year 32% total return roughly double that of its stock market benchmarks. Gearing – or borrowing – has been reduced to just 1% as the fund’s managers grew more cautious. Martin Hudson, its former lead manager, left last month after 25 years with the team but his departure is not viewed as a setback. The portfolio will be run by Guy Anderson (pictured above middle), who joined in 2012, took over as the lead manager in early 2016, and who is supported by Anthony Lynch. ‘The trust has a number of advantages in our opinion, including the experience of the investment team lead by Guy Anderson, the relatively low management fee JP Morgan levy of 0.45% and the active use of gearing,’ said Brewin Dolphin’s head of fund research Michael Paul (pictured above right). ‘Finally, the trust currently trades on a 10% discount to net asset value, providing an attractive entry point for long-term investors.’ Paul added.
Mercantile (MRC)
03
The reinvention of Scottish Mortgage in this century has been a success story its rivals wish they could emulate and investors – who don’t hold the shares – often regret not participating in. From the early years of the Noughties the global equity investment trust has transformed from an also-ran struggling to stand out from the crowd to a highly-focused investor in disruptive growth companies that has captured investors’ imaginations and in the process become a flagship not just for fund management group Baillie Gifford but arguably for the entire investment industry. Under fund managers James Anderson (pictured above middle) and Tom Slater, the trust has established an outstanding track record that only the Allianz and Polar Capital technology trusts and the equally unique Lindsell Train (LTI) have surpassed. In the 10 years since the financial crisis shareholders have enjoyed a 526% total return, trouncing both UK and global stock markets. In the process it has become a £7.6 billion giant and the only listed equity fund in the FTSE 100 with an estimated £2.5 billion of its shares held by wealth managers. JM Finn’s investment director Freddy Colquhoun (pictured above right) likes its ‘thematic and high conviction approach to stock picking with current themes including transformational healthcare, cloud computing, online retail and agri-bio fuels’. A focus on capturing the growth of high-tech disrupters, such as house rental website Airbnb and Ant International, the finance arm of Chinese e-commerce colossus Alibaba, before they join the stock market means nearly 21% of the portfolio is invested in private equity. Colquhoun is comfortable with this believing accessing illiquid but valuable investments plays to the ‘closed-end’ strength of investment trusts, which ‘unlike open-ended funds give the manager a permanent source of capital’. It’s not for everyone. The managers’ focus on long-term returns and willingness to take big positions, such as its top 9% weighting to Amazon, can make performance volatile. In the 2008 financial crisis its shares more than halved, though they bounced back in the next 12 months before mounting an impressive run that has only seen one negative year in 2011.
Scottish Mortgage (SMT)
02
If we were including private investors’ holdings in Scottish Mortgage, it would have grabbed first place with ease. However, as we are focusing on wealth managers’ stakes it is pipped to the post by £2.9 billion HICL Infrastructure. As the first social infrastructure fund to list on the stock market 13 years ago, HICL has grown to be the largest in its sector after proving the concept of investing in contracts to run facilities at schools, prisons, garrisons and roads. Its inflation-linked revenues have enabled a steady progression in the dividend supporting a 5% yield and underpinning a 9.4% annual investment return since its 2006 flotation, ahead of its original 7-8% target. Unlike GCP Infrastructure, HICL, managed by Harry Seekings (pictured above middle) at Infrared Capital Partners, invests in the equity of infrastructure projects but reduces risk with a diversified portfolio of over 118 assets. Just over three quarters is invested in the UK, with a slightly smaller proportion allocated to private finance initiatives (PFI) in the public sector where it earns government-backed revenues. It’s a proposition that has proved very popular with all the wealth managers in our study holding shares on behalf of clients. However, for a fund that prides itself on being predictable, the last two years have been anything but. The main problem has been Labour’s hostility to the use of PFI in the NHS, with the party threatening to revoke contracts it does not like. Fear of nationalisation saw HICL shares de-rate from a 28% premium over net asset value after the EU referendum to a 9% discount below NAV last year. The shares subsequently recovered as a bid for rival John Laing Infrastructure Fund (JLIF) highlighted the sector had been over-sold. Also weighing on the stock is Affinity Water in which it invested £250 million two years ago in order to diversify its portfolio into regulated assets. Last month HICL had to make its second write down in the investment as Ofwat, the regulator, made a further cut in the return water companies can make on their capital. ‘HICL seems to have become a bit “accident prone” following the move into utilities and economic infrastructure,’ said Stifel analyst Iain Scouller (pictured above right). ‘However, with a 5.2% dividend yield and the shares estimated to be trading recently around NAV or a small premium, HICL tends to be the “value-play” in the sector. ‘We also think that if there was to be another JLIF type “take-private” transaction in the sector, HICL would be at the top of our list, especially given the valuation with the shares relatively close to NAV,’ Scouller said.
HICL Infrastructure (HICL)
01
Law Debenture: a giant wakes in UK Equity Income
Law Debenture is celebrating its 130th year with a move to the UK Equity Income sector where its largely UK investment portfolio is a better fit.
UK trust discounts not that pronounced
Gervais Williams: testing times for UK smaller companies
Gervais Williams is a veteran smaller companies fund manager whose career dates back to 1985. After a 17-year stint at Gartmore he left the business when it was sold in 2011 to what is now Janus Henderson, helping to found Miton Group, which recently announced a merger with Premier Asset Management.
Today Williams is best known for running the Diverse Income and Miton UK Microcap investment trusts as well as the Miton UK Multi-Cap Income and Miton UK Smaller Companies funds with Martin Turner.
A passionate advocate for smaller companies, arguing they play an invaluable role in broadening investors’ sources of growth and income in the post-financial crisis world, Williams has struggled since the 2016 EU referendum which ushered a difficult period for his asset class.
With the UK stock market looking more polarised than ever between large and small, we caught up with the manager to get his latest views.
A global industrial recession, led by Germany, China, South Korea and Japan, is underway and the yield curve has inverted – short-term bonds paying more than longer-term debt has been a reliable indicator of economic recessions over the past 50 years. Is fund manager Gervais Williams concerned? ‘You bet I’m concerned. We have recessions from time to time, but how do we get out of it this time? What doesn’t happen next is 2009,’ he said, referring to the inability of central banks to repeat the extraordinary monetary stimulus that lifted the economy out of recession and reignited stock markets in the wake of the 2008 global financial crisis.
‘A chaotic Brexit isn’t very likely. There might be short-term queues on motorways or difficulty getting foodstuffs over the border, but we’ve seen this type of thing before.’
Gervais Williams
Williams and his co-manager Martin Turner are value investors – looking for overlooked and unloved stocks in the UK stock market. It has been devalued in global terms over the past three years as most international asset allocators have scaled back exposure – so is arguably better placed going into a recession than other developed world equity markets.
Attractive potential
Williams is ‘very intent’ on managing downside risk. One way he does so is through put options – effectively insurance against a UK stock market sell-off – which enable him to lock-in a higher level for the FTSE 100 if the index tumbles. Put options now protect 45% of his Diverse Income Trust (DIVI), up from 40% last year, and have recently been introduced to Miton UK MicroCap Trust (MINI). Taken out in May, they cover 30% of the portfolio.
That was the case with Gartmore Growth Opportunities, an investment trust he ran before founding Miton. Williams recalled, ‘we had FTSE 100 put options covering 100% of the trust’s portfolio in 2008, and were able to sell these at will during October 2008 for a very large profit when the markets were at their worst after Lehman went bust.’ Other portfolio protection measures include a distinct lack of borrowing, or gearing, and a focus on companies better placed to grow in a downturn. Diverse Income and Miton UK MicroCap have a facility to gear up to 15% of net assets but have remained ungeared since their inception in April 2011 and April 2015 respectively. ‘The last thing you want is to be geared on the way down,’ said Williams. He has scaled back exposure to consumer stocks, such as retailers, and is instead focusing on companies with strong balance sheets and the ability to ‘find opportunities to expand in a stagnant world’.
‘We might scale those up at some stage,’ said Williams, who successfully deployed the tactic at Gartmore in 2007. ‘They cost money, but if things get really nasty it’s nice to have an asset that goes up.’ Despite his focus on small and micro-cap stocks, the options are linked to the blue-chip, larger company FTSE 100 index. This is partly due to them costing less than specialist options, such as those linked to the FTSE AIM (Alternative Investment Market) index, but more so because the market in this instrument tends to be open even in the middle of a crisis.
Put protection
Williams recently spoke to one financial adviser who had cut allocations to UK equities to zero. ‘To put all your equity capital to work overseas when your clients are based in sterling is a big statement,’ he said. Miton’s analysis shows that the FTSE 100 index would be almost double its current level if the cashflow of its constituents was valued on the same basis as the S&P 500 in the US. UK smaller companies have tended to underperform large caps this year, and the lower valuations on many small and microcaps listed on the AIM exchange imply the upside might be even greater for them on the same basis.
A fund manager since 1985, you’d think Williams would have seen it all. But even for someone who has invested through sterling crashing out of the European exchange rate mechanism in 1992, the Russian financial crisis of 1998, the dotcom bubble bursting in 2000 and of course the global financial crisis of 2008 these are extraordinary times.
‘There is an astonishingly attractive potential for the UK market to enjoy a period of outperformance over other markets,’ said Williams. In the face of Brexit, Williams – author of The Future is Small: Why AIM will be the world's best market beyond the credit boom – is quietly optimistic. Brexit uncertainty and a rotation out of UK domestic stocks have hurt both trusts, which have underperformed their peer groups and benchmark indices since the referendum and so far this year. Shareholders in Miton UK MicroCap have lost almost 30% in the past year, while Diverse Income is down 16%. Oil stocks are among the few shining lights. RockRose Energy has soared 200% in the year to date and now accounts for more than 5% of the microcap trust. Williams expects to see a post-Brexit flurry of takeovers, particularly among smaller companies with international earnings. ‘We’re in a period of flux. We don’t know where we’ll end up – it could be a really uncomfortable place or it could be a better place,’ he said. ‘A chaotic Brexit isn’t very likely. There might be short-term queues on motorways or difficulty getting foodstuffs over the border, but we’ve seen this type of thing before – migrants jumping onto lorries in France – and “no agreement” doesn’t mean no agreement. There will be lots of little agreements – on aviation, medicines and financial services.’
One-third of Diverse Income is invested in large and mid-cap stocks, a weighting that has remained relatively stable albeit the managers increased FTSE 100 holdings amid the stock market rout at the end of last year. The other two-thirds is in small and micro caps. The lion’s share (86%) of Miton UK MicroCap is in FTSE AIM stocks. There is plenty worth catching in their main hunting grounds. ‘It’s extraordinary to be at this juncture in a bull market,’ said Williams. ‘Ten years in, usually everything has been picked over and every possible alleyway investigated. Instead, we are seeing opportunities to make all sorts of profits.’
They are also in the process of buying into an ‘astonishing’ opportunity in a stock that has cash on the balance sheet and yields almost 6%, but is on a low price-to-earnings ratio (a measure of how much investors are willing to pay per pound of earnings) of 10 times. ‘We almost got killed in the rush,’ said Williams. ‘People are a bit anxious about it, but the risk/reward profile is just fantastic. We’ll just have to dig in.’
Extraordinary times
Miton fund manager Gervais Williams
He points to ‘evergreen’ growth stocks, like Rentokil Initial, Diageo and Unilever, trading on low dividend yields of 1.1%, 2.1% and 2.9% respectively – well below the UK stock market average – mainly because their share prices have risen so much. ‘Most investors believe it’s likely that these companies will sustain their sales and hopefully incrementally add to them over the coming years, even were the economy to suffer a downturn,’ said Williams. ‘I don’t ever remember seeing such a disparity [in valuations] between the majors and the microcaps.’
It’s been an extraordinary bull market
The pound may recover after Brexit
The trusts are already benefiting from a pick-up in takeover activity. One example is Earthport, the cross-border payments firm which Visa acquired in May at 37p – more than five times the 7p or so the shares were trading at before news of the potential bid broke. It is one of two takeovers for Miton UK MicroCap this year, while Diverse Income has reaped the rewards of eight. The managers are busy reinvesting the proceeds. They added Redde, an accident management solutions provider, to Diverse Income this summer after distressed fund manager Neil Woodford was a forced seller of the stock.
Oil stocks have worked for Williams
Performance of Gervais Williams trusts and funds under the Brexit cloud
ANALYST VIEWS
CHRIS SALIH, FUNDCALIBRE
Given Williams’ experience and track record those holding these trusts should perhaps be a little more patient, particularly if they are considering switching to a similar offering. There have been challenges – both in and out of the managers’ control. Microcaps have been particularly out of favour, but investors may end up kicking themselves if the Brexit fog clears and valuations improve. Those who do not want the risk of considerable exposure to smaller companies in an income portfolio might want to consider City of London Investment Trust (CTY), which has more of a large cap bias.
EMMA BIRD, WINTERFLOOD SECURITIES
Diverse Income Trust’s greater small cap bias differentiates it from peers and the managers’ willingness to invest across the market cap spectrum makes good use of the closed-ended structure. Its diversification across many holdings [139] and sectors reduces stock specific risk. We view the fund as complementary to other UK equity income funds and believe its current discount of 9% offers considerable value relative to its five-year average discount of 0.3%. Furthermore, the fund’s redemption facility, which allows a full exit at net asset value on an annual basis, alleviates downside discount risk.
JAMES CARTHEW, QUOTEDDATA
The overriding influence on both these trusts has been Brexit. It seems to me that bar a miracle we are going to have a no deal Brexit. This may trigger a final capitulation in UK stock prices that could mark the low point. Even if we see this in Q4, it could take a very long time to climb back out the other side. The other thing that strikes me is that the discounts on these trusts aren’t especially wide – they don’t look like bargains. My inclination would be to sit and wait until November before reassessing the situation.
PRIYAN RAYATT, PEEL HUNT
Uncertainty regarding the UK outlook has left a large swathe of the smallest UK companies trading on sub-normal valuations. Clarity will attract capital back to the markets and Miton UK MicroCap would be a beneficiary. Its area of focus has fewer competing investors and greater opportunities to find good companies at attractive valuations. Despite poor headline performance, the managers note that the portfolio is exhibiting strong underlying revenues. Its annual redemption facility should provide a strong discount control mechanism in contrast to other trusts in the sector that may experience more severe discount volatility.
PRIYESH PARMAR, NUMIS SECURITIES
Gervais Williams is a highly experienced manager with a strong long-term track record in small cap investing. Diverse Income is differentiated from its UK equity income peers by its all-cap approach. As a result, we wouldn’t expect it to perform in line with the UK market or its peer group over short periods. A period of weak relative performance has impacted sentiment towards the trust, which has moved to a 9% discount. We believe this presents an attractive buying opportunity given that the best time to buy a manager with a strong long-term record is often after a period of weak performance.
ROB MORGAN, CHARLES STANLEY
These trusts don’t currently feature on our preferred list; we favour others in their respective areas – Aberdeen Standard Equity Income Trust (ASEI) in UK equity income and Aberforth Smaller Companies Trust (ASL) in smaller companies. However, we note some attractions. In an increasingly under-researched and overlooked small cap market, the highly experienced management team should be able to unearth good opportunities. Both trusts might perform particularly well in a Brexit bounce scenario that favours small cap value stocks, sees discounts unwind and impedes international stocks as the pound rallies. It could add up to decent value for contrarian investors happy to look past political noise.
Justin King is a retail expert having served as chief executive of J Sainsbury for a decade until 2014 after a string of senior roles at Asda and Marks & Spencer.
He is currently putting his wealth of grocery experience to good use as a senior adviser to Atrato Capital, fund manager of the Supermarket Income (SUPR) real estate investment trust which is building a portfolio of ‘omnichannel’ stores catering to shoppers on foot and online.
The following Q&A was recently published in Supermarket Income’s annual results. In it King addresses some of the misconceptions he perceives around property in the grocery sector in response to the downturn in high street retailing.
This distinction between bricks and mortar vs online is a largely false one, and will diminish in the future. The line between what is online and what is in-store is already blurred. Take UK online grocery, over 75% is actually fulfilled from a supermarket operating as a hub for click and collect and home delivery, so the share of the market which is fulfilled from the traditional supermarket is actually over 60% or £120 billion. You need to remember that customer preference for choice, convenience and fresh produce combined with operators’ need to optimise ‘last-mile’ delivery logistics, results in large supermarkets being ideally placed to operate as fulfilment centres and that’s exactly what’s happening in what’s now known as ‘omnichannel’ stores.
Doesn’t online grocery and the shift in growth away from bricks and mortar change that?
Supermarkets are the big draw
In my career I always taken the view that if you see consensus run away from it, because the opportunity will often lie in the contrarian view.
The UK grocery sector is experiencing significant structural change. How do you think this impacts the traditional supermarket shop and is this now a thing of the past?
Super superstores will survive
There is still no greater retail proposition than a large, grocery-led supermarket selling fresh food in the right location. Supermarkets generate significant cash flow, and the core of how and where consumers perform the grocery shop is substantively unchanged. If you look at the UK, the grocery sector is heading to be a £200 billion market and some 60% or £120 billion, is still done in or fulfilled from a supermarket as part of a weekly grocery shop. That cash value is unchanged from 10 years ago. Clearly market growth has come from convenience, discount and online, in that order, but the dominant channel remains, and I believe will remain, the supermarket.
Home delivery is a niche
Pure-play, home-delivered grocery has not been profitable, and I believe it is unlikely to ever generate sufficient profit as a standalone sales channel. However, you need to recognise that online grocery is, for most customers, a pivotal part of the overall relationship with the operator. I once described online grocery as no different to selling a can of beans below cost, you do it because your competitors do it, and you accept that it’s required to generate a long-term, loyal relationship with your customer, and that ultimately drives a profitable overall relationship with the customer.
It’s worth remembering that presence of discounters in the UK grocery market is not new, and nor is their business model. Aldi and Lidl have opened stores and gained significant market share in recent years, however previous discounter brands such as Netto (acquired by Asda) and KwikSave (acquired by Co-Op) have all but disappeared.
Do the discounters threaten your view on supermarkets?
I consider the most significant retail transaction in the last 10 years was Amazon’s purchase of Whole Foods. Amazon was not motivated by acquiring technology, it was a technology company acknowledging that a successful grocery business can only be achieved through well-located shops with great customer service, operating an omnichannel business model with a well-developed supply chain. It seems to me that the property market doesn’t understand that when it comes to supermarket property as an investment class.
UK Commercial Property 2018-2019
‘There is still no greater retail proposition than a large, grocery-led supermarket selling fresh food in the right location.’
The current market share of Aldi and Lidl (14%) is similar to the market share of previous discounters as far back as the mid-80s. The ability of discounters to compete with large supermarkets is limited as most UK consumers cannot meet all their needs in a small 10,000 square foot discounter store, with 90% of shoppers at a discounter also shopping elsewhere. Most consumers want a wider range of products including well-loved brands and own brand fresh food that are typically not available in discounters. For this reason, amongst others, I do not believe that the discounters will grow to the same extent as Germany where the discounters hold 40% market share.
Amazon’s acquisition signalled change
Aldi and Lidi have not been able to copy the low-cost German model like for like. In contrast, they have been forced to invest heavily on store layout to make them attractive to the British shopper. For example, Aldi’s ‘Project Fresh’ was a £300 million investment in redesigning the store experience with wider aisles, clear signage and more focus on fresh food. This serves to increase the cost base of the store, thereby diluting somewhat the discounters’ cost advantage. I believe discounters are now through the zenith of their expansion programmes and disruption in the UK. They will continue to keep pricing sharp, of course but not result in further incremental disruption to market share.
Grocery operators have maintained that level of leadership on the most significant sustainability issues of the past 100 years. They were the first to make women a major contributor to their work force, first to implement significant recycling programmes in response to shortages during both world wars and that innovation continues today with environmental sustainability. It is an embedded value of the sector. The grocery operators have one of the clearest articulations of what environmental sustainability means to their business model. Supermarkets have invested significant capital into ongoing carbon reduction initiatives such as solar panels, switching to natural
Discounters like Aldi may have peaked
refrigerants, green gas using combined heat and power (CHP) plants and installing LED lighting. The scale of the operator’s business means they can and are making an important contribution to sustainable grocery development in the UK and internationally. Sainsbury’s created five values for environmental and economic responsibility as part of its 2020 sustainability plan and it’s encouraging to see Supermarket Income taking a leading role in recognising how important environmental sustainability is to the operator’s business model, by investing in on-site renewables across its supermarket estate as part of its asset management policy.
Grocery shopping online is only 6% of the UK grocery market, yet we are 20 years into that journey with every major operator, and a pure play in Ocado, between them investing billions in the opportunity. Today, around 1%, out of 30 million households in the UK, do more than 50% of their grocery shop online, of which most live in the London area. Online grocery remains a minority channel in and of itself.
Do you think there is a threat from the likes of Ocado and Amazon to that model?
Sainsbury’s recently celebrated a 150-year anniversary, and it’s worth remembering that Sainsbury’s was founded in response to the largest sustainability issue of the Victorian era, which was how to provide safe affordable food and strengthen the representation of the consumer in the supply chain.
How environmentally sustainable is the traditional supermarket?
Returns from UK commercial property investment companies and real estate investment trusts (Reit) have varied widely in the past year. Trusts generating good dividends from long, inflation-linked leases like Supermarket Income have done well while others have suffered from exposure to struggling, high-street retailers and Brexit economic uncertainty.