Despite the significant outperformance of UK small and mid-caps versus the FTSE 100 in 2015, investors will have noticed a distinct change in pattern since the start of the year. All indices have made a loss to-date, but the blue chip index has lost 3.04 per cent compared to the FTSE 250’s fall of 5.74 per cent and the FTSE Small Cap’s loss of 6.48 per cent.
Performance of indices in 2016
Source: FE Analytics
As such, investors who have previously been deterred by high valuations in the smaller companies space but still want to reap their long-term benefits may be looking to increase their exposure now.
Given the hunt for income has stepped up a notch and market volatility has led to an increased amount of nervousness, multi-cap income funds with a bias towards smaller stocks could be seen as an attractive option at the moment.
The two funds at the top of the IA UK Equity Income sector for their total return over three years fit this bill and are Gervais William’s Miton UK Multi Cap Income fund and FE Alpha Manager Siddarth Chand Lall’s Marlborough Multi Cap Income fund.
Both investment vehicles have five FE crowns, an FE risk score significantly lower than that of the FTSE 100, were launched in 2011 and are run by two popular managers with strong long-term track records.
The similarities don’t stop there though, with both funds providing closely-matched returns since Miton UK Multi Cap Income’s launch in October 2011 until the latter half of 2015, where there is some divergence due to the Marlborough fund’s slip into the bottom quartile over the last six months.
Performance of funds vs sector since Marlborough launch
Source: FE Analytics
While Miton UK Multi Cap Income has 138 holdings and a 48.7 per cent weighting in small-caps and AIM stocks, Marlborough Multi Cap Income has 132 holdings and a 51.4 per cent weighting in small and micro-caps.
Given the similarities, does this mean that now is the time to buy the Marlborough fund while its performance has suffered a blip?
Charles Younes, research manager at FE, says both funds are good investment vehicles to buy into, but if he were to choose between the two he would opt for Gervais Williams’ fund.
“They are investing in the same type of companies, they have the same approach to income and they both have a large number of holdings so there is no dominating stock that will drive the portfolio. It is about the winning ratio on average and not about having a top-conviction holding they think will do better, it’s about balancing the win/loss ratio,” he explained.
One of the reasons the FE Research team opted for Miton UK Multi Cap Income is partially because of its smaller size – the fund currently has an AUM of £585.6m whereas Marlborough Multi Cap Income has an AUM of £1.4bn. However, Younes says that this still shouldn’t deter investors from buying it.
“I don’t think there is any link with the Marlborough fund’s recent performance and its capacity, it’s just that [Williams] has performed better over the last six months and for the first time there was a big difference in performance between the two funds,” he said.
“That’s why we went for Miton. But ultimately they’re both really good funds. They have great managers, they have the same strategy which allows you to diversify your income revenue, it’s just that one has more flexibility and greater capacity.”
Miton UK Multi Cap Income’s largest holding is currently a FTSE 100 put option, which allows the manager to sell a certain amount of the index at a specified price within a specific time frame – it is essentially a means of hedging against the index.
This is one of the few differences between the funds though and Younes says that there are several overlaps between them in terms of stock selection.
This is interesting, given that a majority of the investment professionals that FE Trustnet asked hold Williams’ fund and not Lall’s.
Ben Willis, head of research at Whitechurch Securities, “significantly” invests in Miton UK Multi Cap Income and has done so since 2012 – it is now a core position for the firm.
“We were aware that Gervais Williams had launched an UK equity income-focused fund, and were investors with him during his days at Gartmore,” he explained.
“As such, we had benefited from his UK small-cap expertise and this, combined with our focus on an equity income approach, made the prospect for an excellent blend.”
“Although the fund is multi-cap, it has a small-cap bias and Williams is a highly experienced small-cap manager. Clearly, because of this small-cap bias, it will have periods where it does well and vice-versa. However, with Williams at the helm, the fund should deliver superior income and capital returns over the long term, something which it has already achieved since launch.”
Tom Jemmett, fund analyst at Brewin Dolphin Securities, also holds the Miton fund but not the Marlborough fund, and agrees that one of its stand-out features is the level of experience that Williams brings to the table.
“Allied to his extensive experience is a highly successful, well-developed, liquidity cognisant investment approach that’s delivered strong risk-adjusted returns for investors,” he said.
“An attractive underlying growth rate coupled with a well-covered dividend makes the fund an attractive option for those seeking both growth and yield in a risk-managed framework.”
Since its launch, Miton UK Multi Cap Income has a higher Sharpe ratio, which measures risk-adjusted performance, a lower annualised volatility and a lower maximum drawdown, which measures the potential money lost if bought and sold at the worst times, compared to Marlborough Multi Cap Income.
That said, both funds are in the top decile for all of these ratios with the exception of Lall’s annualised volatility, which is currently second-decile. For those who prioritise income over risk levels, on the other hand, Marlborough Multi Cap Income has a yield of 4.76 per cent while William’s fund is yielding 3.8 per cent.
Dan Boardman-Weston, head of portfolio management at BRI Wealth Management, has held Williams’ fund since 2011 when it first launched and is apprehensive about Lall’s fund despite its higher yield.
“We prefer the Miton fund due to greater performance, a smaller size, which makes it more nimble, we also are more familiar with the investment process and like the greater level of smaller companies in the fund,” he said.
“Size and capacity is a key area to look at. The Miton fund is only £580m (the strategy is slightly larger because of the Diverse Income trust) whereas Marlborough is over £1.43bn. Investors need to understand whether a multi-cap income fund can really invest in all of the ideas they have if they are over £1bn in size. In my mind, this would prohibit investment in some of the smaller companies.”
Jason Hollands, managing director at Tilney Bestinvest, has chosen not to invest in either of these funds despite acknowledging their good track records. However, he does point out that their performance record falls over a time frame when small and mid-caps outperformed compared to larger companies.
“We do strongly advocate a multi-cap approach to UK equity exposure. UK equity income funds are incredibly popular with investors, but most are over 70 per cent invested in large caps, and crowded around the same names. This can lead to quite a lot of stock concentration, as the 15-largest dividend payers in the UK, account for around 55 per cent of the overall UK dividend pool,” he pointed out.
“Despite the ‘multi-cap’ names, however, in reality both of these funds are at heart small-cap income funds run by firms with strong smaller companies expertise, with additional mid-cap exposure. There is very little in the way of large-cap exposure in either funds (less than 10 per cent), so you might use these to supplement a holding in a more traditional, blue-chip biased income fund, rather than as a replacement. Unicorn UK Income has a very similar profile and should also be considered.”
For a more flexible, and what he would argue to be a more genuine multi-cap, approach, Hollands would recommend FE Alpha Manager Thomas Moore’s Standard Life UK Equity Income Unconstrained fund, which is currently 40 per cent invested in FTSE 100 stocks, has 47 per cent in mid-caps and 13 per cent in smaller companies.
Over the last three years, the fund has provided a total return of 33.92 per cent, outperforming its average peer by 12.93 percentage points.
Performance of fund vs sector over 3yrs
Source: FE Analytics
It has a clean ongoing charges figure of 1.15 per cent and yields 4.17 per cent. Miton UK Multi Cap Income and Marlborough Multi Cap Income have clean ongoing charges figures of 0.82 and 0.79 per cent respectively.
