Most investors have missed out on the UK’s recent rally and need to re-examine their domestic exposure, according to Nick Wood, head of fund research at Quilter Cheviot.
The UK equity market is one of the few delivering positive returns in 2022, managing to cut through the major volatility in markets caused by rising interest rates, high inflation and (latterly) the invasion of Ukraine by Russian forces.
The FTSE 100 is up 1.9% while the next best index – the MSCI Emerging Markets – is down 3.9%. In the US, the S&P 500 index, which has been the go-to for investors for many years, is down 7.1%. Global stocks are down 6.4% in total.
However, this is a shift from the norm. Indeed, over the past decade the domestic market has lagged most major indices by a wide margin, as the below chart shows.
Major indices returns 10yrs
Source: FE Analytics
UK stocks are flying high thanks to an “inherent value bias”, Wood said, as the makeup of the UK market, particularly among large-caps, has a heavy exposure to cyclical sectors, such as banks, utilities and energy. This caused it to lag during the equity bull run of the past decade when growth and tech stocks led markets higher.
Coming out of the pandemic this environment has changed significantly, with markets pricing in multiple interest rate hikes, which in turn has a direct, detrimental impact to growth stocks’ returns but benefits areas such as financials. There has also been a run on oil and energy, with prices driven to generational highs by rising inflation.
While this has helped the UK market pull ahead in “somewhat of a renaissance”, Wood said,this has not translated into higher returns for UK funds.
“Most active managers will have had some exposure, but certainly very few were overweight the top five stocks in the index,” Wood said. “With performance drivers flipping, this has meant many UK investors have missed out on some of the strong performance from their home market.”
According to Quilter’s data, just 29% of funds in the IA UK All Companies sector outperformed the main market in January.
Following this, investors may want to reconsider their UK exposure, Wood said, highlighting three funds worth considering.
Schroder Recovery
First up is the £1.1bn Schroder Recovery fund, which Wood said would be an attractive option if central banks continue their tightening policy – something that is expected by many.
The fund is run by Kevin Murphy and Nick Kirrage, who are both part of the Schroders Value Investment team and highly experienced at investing in this part of the market, he added.
“This fund is making the most of recent turnarounds in fortune for the UK and the value segment of the market,” Wood said, with the portfolio up 1% since the start of the year. The average IA UK All Companies fund is down 7.1% during that time.
Even though it has a strong value focus, the fund has made decent returns in the long-run when this style was out of vogue, making 151% over 10 years, ahead of the sector and FTSE All Share benchmark.
Performance of fund vs sector and benchmark over 10yrs
Source: FE Analytics
JO Hambro UK Dynamic
Next up is Alex Savvides’ JOHCM UK Dynamic fund, which recently reopened to new investors after being soft closed since December 2019.
“The manager describes the investment process as being ‘value plus’ and seeks cheap companies that have a potential catalyst to unlock long-term growth potential,” Wood said.
Although the fund has a value bias it is not as “extreme value” as some of its peers, Wood said, investing in companies that are unloved but prioritising liquidity, which means when these companies recover they are able to thrive.
This makes it a more palatable option for investors who might not want to dive headfirst into a ‘pure’ value fund “and will feel more comfortable not being overexposed to more challenged areas of the market,” Wood added.
Year-to-date the fund has underperformed the FTSE All Share but has not lost as much as the average IA UK All Companies fund, down just 1.6%. Over 10 years it has made 129.5%, well ahead of the sector and benchmark.
Performance of fund vs sector and benchmark over 10yrs
Source: FE Analytics
City of London
The final pick was for income-seeking investors, an area that Wood was very positive on for 2022 given that many major income stocks have enjoyed a recent market turnaround.
Many of the big UK income stocks are in rallying sectors, such as British American Tobacco, Shell and BP. To capitalise on this, Wood recommended the City of London Investment Trust, which holds all of the aforementioned stocks in its top 10.
The trust has been a “dividend stalwart” for investors over the long term, raising its dividends throughout the pandemic when many investment trusts had to pause or cut them.
The trust has been run by Job Curtis since 1991 and typically trades on a premium, but Wood argued it was still worth buying “given its history and credentials” as it “may be a price worth paying for investors to increase their value exposure”.
Performance of fund vs sector and benchmark over 10yrs
Source: FE Analytics
Over 10 years the trust has made 110.2%, beating its benchmark but just falling behind the IT UK Equity Income sector. In 2022 it has delivered the third best returns in the sector (4%), whereas the average IT UK Equity Income trust has lost 3.3% since the start of the year.
| Name | Sector | Fund Size(m) | Fund Manager | Yield | OCF | IT Net Gearing | IT Pub. NAV Discount |
| Janus Henderson The City of London Investment Trust | IT UK Equity Income | £1,808.50 | Job Curtis | 4.74% | 0.38% | 8.26% | 5.61% |
| JOHCM UK Dynamic | IA UK All Companies | £1,249.10 | Alex Savvides | 2.28% | 0.80% | ||
| Schroder Recovery | IA UK All Companies | £1,090.70 | Nick Kirrage, Kevin Murphy | 1.51% | 0.89% |