William Meadon’s £423m vehicle is on a discount of 6.1 per cent, according to the AIC, compared with a 1.8 per cent premium for the £1.15bn City of London trust, headed up by Job Curtis.
Both give investors exposure to a core portfolio of UK large caps, with a well-covered and growing dividend.
Cade says that the trusts complement a UK Equity Income manager who takes more sector and stock specific bets, but because of the JPM trust’s discount, he currently favours Meadon over his rival.
“This is very much a mainstream equity income play, with a secure dividend,” he said.
“There are a lot of trusts in that sector that have very big sector bets, such as those run by Invesco as well as Temple Bar and Finsbury Growth & Income.”
“However, this is a lot less punchy with more risk controls.”
Cade points out that the trust’s performance has improved significantly since Meadon took over as lead manager in early 2012, and though the discount has already closed considerably, expects further contraction in the future.
“The performance of JP Morgan Claverhouse has improved significantly since changes were made to the investment approach in March 2012, with an NAV total return of 40.7 per cent versus 28.6 per cent for the FTSE All Share,” he said.
“The trust continues to focus on quality large cap UK equities with positive earnings momentum priced at reasonable values. However, stock selection is now more focused and driven by fundamentals.”
“Since the change in approach, Claverhouse’s discount to NAV has narrowed from double figures, helped by a switch in classification to the UK Equity Income sector from UK All Companies.”
“However, the trust’s discount remains wide in relation to the peers, which are trading at a premium of 0.3 per cent, on average.”
“The trust yields 3.3 per cent, fully covered, and we see potential for the discount differential to narrow, so long as the improvement in performance is sustained. As a result, we believe that Claverhouse provides an attractive way to gain mainstream exposure to UK Equity Income.”
According to FE data, the trust has returned 52.31 per cent since Meadon’s appointment, compared with 50.92 per cent from the IT UK Equity Income sector average and 31.54 per cent from the All Share.
Performance of trust, sector and index since Feb 2012
Source: FE Analytics
The trust is also ahead against its City of London rival, which has managed 41.57 per cent over the period.
In the three years prior to Meadon’s appointment, Claverhouse underperformed significantly over three and five years, thanks to a particularly poor 2007, 2008 and 2011. Previous manager Sarah Emly remains on the team.
Meadon (pictured) says he has made significant changes to the portfolio since taking over.Prior to March 2012, Claverhouse operated a behavioural finance approach, seeking to create a portfolio equally exposed to quality, momentum and value factors.
Following a period of underperformance, the trust’s board reviewed the strategy and decided to replace it with a higher conviction, more fundamental stockpicking approach.
“Historically this trust has been on a premium, but like a lot of JPM portfolios, it had a tough credit crunch,” he said.
“This was down to stock selection and not helped by the structural gearing.”
“At the end of 2011 the board wanted to be seen to be making a change, and brought me in as lead manager. They wanted a more focused trust – previously it had held around 100 stocks, but they wanted this to come down to between 60 and 80 stocks.”
“They wanted us to back our convictions while keeping risk controls in place, and I think we’ve got a good balance.”
Meadon is restricted in how much risk he can take relative to the benchmark. He and his team can only hold 2 percentage points more than the FTSE All Share in single companies, and 3 per cent in sectors.
“The trust has quite a modest target, attempting to beat the market by 2 per cent per annum. Over the long-term, if this is achieved this results in a great deal of outperformance,” he said.
“While we have conviction, we also recognise we can be wrong. We are up against certain rivals like Finsbury Growth & Income which take much bigger risks. You are banking on a star manager getting it right and Nick Train has done a very good job, but this is a very different trust.”
Meadon says that the risk controls have helped the trust on certain occasions – notably in the case of life and insurance companies earlier this year.
“Before the Budget we were very positive on the sector, and news flow was only going in one direction. Then Osborne’s Budget came out of the blue, and stocks fell very sharply,” he said.
“This is a classic example of an event we couldn’t anticipate. We would have had a lot more in the sector if we could, which initially was frustrating but turned out to be a good thing.”
Meadon says he sees City of London as a direct competitor.
“I look at Job [Curtis’s] numbers before anyone else,” the manager said.
“It is again risk-controlled, but has a longer track record. We’ve grown our dividend for 41 years in a row and they’re at 46 years.”
“If we’re able to return 1.5 or 2 per cent above the index, and deliver dividends growing at least in line but hopefully above inflation, we think the trust is very attractive. Especially given the discount it’s on,” he added.
Numis notes that the trust has had a more mixed 2014 after a stellar 2013, but remains confident that the trust is going in the right direction.
“Some of these returns have been given back in 2014 year-to-date, with the NAV down [0.9 per cent] versus a rise of 1.5 per cent in the index, as momentum stocks have suffered a reversal,” said Cade.
Performance of trusts, sector and index in 2014
Source: FE Analytics
“Nevertheless, we believe Claverhouse has the potential to deliver more consistent performance relative to the FTSE All Share than many of its UK Equity Income peers. This is because it has a diversified portfolio focused on FTSE 350 companies, whereas most of the peers have a heavy weighting to small/mid cap stocks or specific sectors.”
The Numis team also notes that the trust’s aggregate dividend in 2013 grew 3.4 per cent compared with 2012, and was 114 per cent covered by earnings.
“This marked the 41st consecutive year of dividend growth, and we expect this record to be maintained, supported by revenue reserves equivalent to around 11 months’ dividend,” Cade added.
JP Morgan Claverhouse IT has ongoing charges of 0.74 per cent and a 15 per cent performance fee over three years on top of that. City of London IT is much cheaper, charging 0.44 per cent.
It also doesn’t have a performance fee.
The trust has structural gearing of 10 per cent, but Meadon can use tactical gearing of 7.5 per cent either way, using futures to offset the borrowing if he’s particularly bearish. Net gearing is currently at 10.5 per cent.
“I’m relatively neutral on markets. I think there are some oversold areas,” he said.
“If pushed I would say that they will go down before they go up, but on a medium-term horizon I think investing in a portfolio of companies with a yield of 3.5 per cent, growing in line or faster than inflation, means the risk/reward balance is in my favour.”
Meadon is currently overweight defensive sectors such as tobacco and healthcare, but underweight food retailers such as Morrison and Tesco, which announced another profits warning today.
