Standard Life UK Equity Unconstrained has an excellent track record since the period after the financial crisis, due to Legget's decision to buy into higher risk, often out-of-favour, areas of the market. The now £944.3m fund is the best performer in the highly competitive IMA UK All Companies sector (and the third best performing portfolio in the whole IMA universe) over five years with returns of 348.71 per cent.
Performance of fund vs sector over 5yrs
Source: FE Analytics
However, the fund has almost doubled in size over the last year and Legget admits that if this trend continues, he may be forced to soft-close it to protect his investment approach.
“It [the capacity] is something we monitor pretty closely. We have some pretty firm views that a bigger a fund gets, the more limited you become,” he said.
“The fund’s benchmark is an equally weighted FTSE 350 index and the portfolio is made up of 50 holdings. This means the average holding size is 2 per cent, and to keep round numbers, the fund is now £1bn.”
The manager says that if he were to take a position worth 2 per cent of the fund in a company, that would mean he would own £20m worth of shares. Legget says that the smallest sized company he can invest in at the moment must have a market cap of £400m because he doesn’t ever want to have more than a 5 per cent stake in a stock.
He continued: “The bottom end of the mid cap is £750m, so we have a bit more room to manoeuvre. However, as you go above £2bn then your options become limited as you can’t get an average-sized holding in that part of the market.”
“The fund is still open, but if it were to double again then it is something we would have to think about closely,” Legget added.
Gavin Haynes, managing director at Whitechurch, is a big fan of Legget and rates his fund highly, but he says that size could start to become an issue this year.
“First of all, Ed is a manager we hold in very high regard,” Haynes said. “It isn’t a fund for orphans or widows as he takes an aggressive approach and when markets fall it can be hit hard. However, he has done well at making the most of the recovery.”
“When the fund becomes larger, this is going to present issues and he will become more constrained as he has always been fairly active in terms of getting in and out of stocks,” he added.
Haynes says it is commendable that Legget has admitted the fund is nearing capacity. However, he warns investors that managers have in the past changed their tune in regard to what size their fund can grow to.
“It will be interesting. Sometimes managers say one thing and then, funnily enough, the circumstances change and they say they can run more money when they eventually reach the size they had highlighted before.”
“The figures Ed has said look pretty realistic though. However, if you are buying this fund now, the size is something you have to be aware of, and also the fact it has had an exceptional run of late,” Haynes said.
UK domestic-facing stocks and cyclicals have largely driven the outperformance of the Standard Life UK Equity Unconstrained fund over the last few years.
Although Legget says it is coincidental and not to do with the amount of money he is running, he has begun to trim down some of that exposure and is now looking at some of the mega cap names from the FTSE 100 instead.
“Some parts of the market have had a significant re-rating recently and now really need earnings growth to pick up,” he said. “Areas we have been trimming down include some of our UK domestic stocks. We still think the world is getting better, however the recovery is now priced into their valuations.”
Since the financial crash, the Standard Life UK Equity Unconstrained fund has been renowned for capturing huge amounts of upside when the UK market has performed well.
In the years 2009, 2010, 2012 and 2013, for example, the fund has beaten the IMA UK All Companies sector by an average of more than 30 percentage points.
Source: FE Analytics
However, when the market fell in 2011, the fund lost a hefty 20 per cent. Legget says that although it is difficult to gage what sort of year 2014 will be for the fund, its performance is likely to be more conservative than it has been in the past.
“All the years are different over time. Over the past five years since the Lehmans crisis, we have looked at the world more positively than most and hence we have generally seen more value than most in equities.”
“In that environment, we have been happy to buy shares that were £1 but dropped to 80p on the back of Italian elections or something. We don’t have people talking about the eurozone crisis, a Japanese tsunami or the US fiscal cliff any more.”
“People are going to get more positive on the recovery and as a result, valuations of more economically sensitive stocks are either close to full value or overvalued.”
Despite his concerns about high valuations, Legget says that markets will still perform well this year due to an economic recovery, investor optimism, and expectations of rates remaining low.
Performance of sector vs index in 2013
Source: FE Analytics
Although the manager says the FTSE All Share could beat its 2013 returns of 20 per cent in 2014, he thinks his fund and others like it will struggle to replicate their returns from last year of more than 40 per cent.
“Every fund basically beat the FTSE All Share last year because the biggest stocks in the market pulled back. This year it is going to be harder to outperform. However, if there are any wobbles this year, we could see a correction,” he explained.
The manager adds that he has begun to buy mega caps, which will make his fund sturdier than it has been in falling markets before.
“If you look at the risk profile of the fund, it is different from what it was last year as we are finding different opportunities,” he said.
“Our sector exposure is slightly broader than it has been. The fund is still positioned for a world that is getting better and we are still relatively well-placed to outperform in that sort of environment, but if say the eurozone crisis reappears, then its current make-up looks more resilient than it has in the past,” he added.
Standard Life UK Equity Unconstrained has an ongoing charges figure (OCF) of 1.9 per cent and requires a minimum investment of £1,000.
