While many investors will have swapped one of the above for the CF Woodford Equity Income fund when it opened its doors a month ago, experts say that many investors will be in very similar UK Equity Income mandates because they are run by star managers.
The UK Equity Income sector punches above its weight when it comes to talent.
Sixteen of the 89 funds in the sector are run by at least one FE Alpha Manager, and the search for yield has made it even more popular with investors.
John Blowers, (pictured) head of Trustnet Direct, says that investors who have taken a sizeable stake in Woodford should look through their portfolios and make sure they’re properly diversified.“Most of the big-selling UK Equity Income funds – those run by Artemis, Invesco Perpetual, Threadneedle and so on – have a strategy of investing in top-tier large companies with a defensive bias,” he explained.
“There is a lot of sense in doing this, but having all your eggs in one basket can be dangerous. No sector or asset class is safe from a sell-off, be it because of extreme valuations or a single-stock event.”
“Just look at what happened to BP in 2010, which at the time was perceived as safe and stable. If something similarly out of the blue happened to the large cap healthcare sector, a lot of funds and indeed investors would be in trouble.”
“It’s a safety in numbers mentality to some extent. Investors want to be in the biggest and most popular funds run by a high-profile manager, but the more important thing is to be diversified.”
Blowers says that there is a big overlap in the top holdings of the most popular funds in the UK.
“The top-10s in some cases look remarkably similar to one another,” he said. “It’s no surprise they are so highly correlated.”
“We are not just seeing a concentration of wealth in one sector. We are actually seeing a concentration of wealth in one specific strategy. They may be very good funds, but you can’t hold them all.”
According to FE data, Invesco Perpetual High Income, Income and UK Strategic Income, as well as Trojan Income, Threadneedle UK Equity Income, CF Woodford Equity Income and Artemis Income all hold GlaxoSmithKline and AstraZeneca in their top-10.
All but Trojan Income hold BT in their top-10 as well. As Blowers suggests, the funds have a high correlation to one another.
With the exception of CF Woodford Equity Income, which was only recently launched, all of those mentioned above have a correlation of more than 0.9 to one another over three years.
The Invesco Perpetual Income and High Income funds have a perfect correlation of 1 over the period, while Artemis Income and Threadneedle UK Equity Income score 0.97 and Invesco Perpetual High Income and Invesco Perpetual UK Strategic Income score 0.94.
A correlation of more than 0.7 is considered high by FE.
Performance of funds over 3yrs
Source: FE Analytics
Rob Morgan, pensions and investment analyst at Charles Stanley Direct, says private investors should choose between the likes of Woodford, Mark Barnett, Francis Brooke and Adrian Frost because there’s so much overlap in their holdings.
“There is a lot of overlap with Invesco Perpetual Income, High Income and UK Strategic Income, and also with Trojan Income and lesser known funds such as Liontrust Macro Equity Income,” he said.
“For that reason, there’s very little point in owning more than one of these.”
He points out that Invesco Perpetual Income and High Income are particularly similar to Woodford’s funds as he only stopped running them in March. Morgan says it will take some time for Barnett to put his own slant on the portfolio and believes it is unlikely to change that much anyway, as the two managers share the same ideals and worked alongside each other for many years.
He says that a fund that has the flexibility to invest in more cyclical companies including those lower down the market cap scale would make a much better pairing with CF Woodford Equity Income.
“Woodford would dovetail better with something like JOHCM UK Equity Income, which typically has a bit more cyclicality and mid cap exposure,” he said.
JOHCM UK Equity Income has a correlation of 0.8 over three years to Invesco Perpetual High Income, which was headed up by Woodford until March 2014.
Performance of funds over 3yrs
Source: FE Analytics
Blowers agrees, highlighting Unicorn UK Income and PFS Chelverton UK Equity Income as his favourite choices. Relative to Invesco Perpetual High Income, they have a correlation of just 0.47 and 0.62 over three years, respectively.
FE Trustnet looked at the ideal funds to sit alongside CF Woodford Equity Income in an article last month.
Mark Dampier, head of research at Hargreaves Lansdown, says that it’s reasonable for professional fund of funds managers to hold Woodford, Barnett and Frost together. However, he thinks investors who are putting portfolios together by themselves or with the help of an adviser should be more selective, as they don’t have the time to manage and keep track of a huge number of holdings.
He points to Gervais Williams’ CF Miton Multi Cap Income fund and Giles Hargreave’s Marlborough UK Multi Cap Income fund as obvious options to sit alongside another UK Equity Income fund with a large cap defensive bias.
That said, Dampier thinks that holding more than one manager with the same kind of focus can have its rewards.
“Barnett is obviously very close to Woodford, and I think Trojan Income is as well, though this is a bit more defensive,” he said.
“I certainly wouldn’t have five or six [large cap defensive] managers like Woodford if I was a private investor, but there is the question of fund manager risk.”
Dampier highlights Bill Mott as a case in point. Mott announced his retirement from fund management earlier this week after a poor period since Psigma Income’s launch in 2007.
“In many ways Mott is Woodford-like in that he’s quite cautious and tends to stick to mid caps,” he said.
“However, I’ve been really disappointed by how he’s performed. Stockpicking hasn’t been as good as he’d hoped.”
Performance of funds over 3yrs
Source: FE Analytics
“That’s why having two managers in the same area can be a good thing. You can’t be too arrogant about these things – I thought Bill would do a lot better. That’s the risk you take with active fund managers.”
In spite of the significant difference in returns, the Psigma Income fund has a correlation of 0.92 relative to Invesco Perpetual High Income over three years.
Dampier points out that Frost’s Artemis Income fund has less in single companies than CF Woodford Equity Income, which means it could be used to reduce the single-stock risk that comes hand-in-hand with Woodford.
CF Woodford Equity Income, Invesco Perpetual Income and Invesco Perpetual High Income currently have more than 7 per cent in GlaxoSmithKline and AstraZeneca.
Frost has no more than 4.8 per cent in any single company, as is the case for Trojan Income and Invesco Perpetual UK Strategic Income.
At the moment Dampier believes there is very little point in holding Barnett with Woodford, but says that he is open to adding one of the multi-billion pound Invesco income funds in the future.
“I think in some ways the Invesco team will be quite pleased he left. They’ve very much been in his shadow,” he said.
“I often asked Neil 'how much is you and how much is Mark?', and he always said that he never told the team what to buy and what not to buy. Having said that, this is a great fund manager we’re talking about and he was head of the team, so it’s unlikely that he didn’t have a big influence.”
“At the moment there’s a big overlap for obvious reasons, but I’ll come back to it at a later date – some point next year – and look at the portfolio then and see how it’s performed.”
