Income investors tend to swim against the tide, buying companies that are undervalued and therefore are paying out yields above the market. This method of investing has been a tough one in recent years as growth investors – and in particular those favouring technology – have thrived.
Yet David Cumming, who manages the £1.6bn BNY Mellon UK Income fund, is sticking with his contrarian stance. “One of my favourite lines is: only dead fish swim with the stream,” he said, implying that investors should challenge the conventional wisdom.
He is a big believer in meeting with company management and through these conversations, he aims to identify trends early and take counter-consensus views. These currently include owning oil companies, going overweight banks and going “slightly long” property, which he thinks has “probably bottomed”.
Real estate investment trusts are trading at 30% discounts while the underlying assets are yielding around 6%, he said. He owns Land Securities and Hammerson and favours retail property, which should benefit from the UK’s economic recovery and interest rates plateauing.
His contrarian bets are paying off. Cumming has been running the fund for just over two years, having joined Newton Investment Management (the BNY subsidiary where he leads the UK equity team) in March 2022 from Aviva Investors.
Performance of fund over 2yrs vs benchmark and sector
Source: FE Analytics
Between 1 April 2022 and 28 May 2024, the fund has delivered top-quartile performance and ranks 13th amongst the 77 funds in the IA UK Equity Income sector. Over three years to 28 May 2024, it is the second-best performing fund within its sector.
One of his biggest calls has been to buy banks, which used to be a lonely position but is becoming more mainstream, with Barclays and NatWest rallying strongly since February.
Performance of banks year-to-date
Source: FE Analytics
Banks underperformed for a decade after the financial crisis while they steadily built up their capital reserves. “A lot of people just stopped owning them and ignored the fact that they've become very cheap,” he observed.
As interest rates increased, banks’ profit margins improved, which was the catalyst for a re-rating but even Cumming, who has been long banks for a while, was surprised by the speed and scale of their recovery this year.
He owns Barclays, Lloyds, Standard Chartered and HSBC, all of which he said have good management teams, good cash flows and high dividends. “If you add buybacks and dividend yields together, you're getting 10% plus,” he said. Barclays and Standard Chartered are still trading at around half book value despite the recent rally, he added.
The fund can invest up to 20% of its assets outside of the UK and Cumming has bought shares in Swiss private bank Julius Baer, which should be able to take market share following the collapse of Credit Suisse and its merger with UBS, he argued. The company also has a strong position in Asia where wealth is growing quickly.
Cumming has also invested in asset management group M&G this year, as it pays a 9% yield and has “double-digit upside potential”.
“There's a high payout ratio and growth, which is quite a combination,” he said. M&G’s shares should track or beat the market but he expects a higher total return because of the dividend.
M&G has a strong position in fixed income, robust distribution capabilities, good investment performance, an established market position in Europe, and it is growing its business in the Middle East, he concluded.
Cumming also thinks oil companies have plenty of upside, good recovery prospects and low valuations. BP and Shell tend to trade at 30% discounts to equivalent US-based companies and have double-digit free cash flow yields.
Demand for oil and for energy is increasing and while climate change is still a vital issue, people are acknowledging that oil is a necessary part of the transition. “I would say the [environmental, social and governance] ESG zeitgeist is going more pro-oil,” he said.
BP could be vulnerable to bids from international acquirers given its low valuation, he said, although he is not entirely sure that the government would allow BP to be acquired.
Cumming is also leaning into the UK’s economic recovery by increasing his exposure to economically sensitive sectors, including materials and industrials, as well as financials and energy. On the other hand, he is light consumer staples, telecoms and utilities. “Most income funds are low beta but we’re the opposite. We hope to outperform in a rising market,” he explained.