Equity markets have continued their impressive start to the year, with the FTSE breaking through the 6,700 mark.
Cyclicals and financials led the rally in the latter stages of 2012, but it has been defensive sectors such as pharmaceuticals that have driven returns this year.
Performance of indices over 1yr
Source: FE Analytics
Moore, who co-manages the Psigma Income fund with Neil Cumming and FE Alpha Manager Bill Mott, says that defensive stocks are now so overvalued that any correction in the general market could well mean they are the worst hit.
He says that this could mean a lot of equity income investors who have looked for safer, quasi-bond stocks could be at risk.
"There is the element that equity income investors tend to congregate around the best-yielding companies," he said. "However, this is understandable as the UK market is quite concentrated, with the top-10 largest stocks equating to nearly half of the [FTSE All Share’s] market cap."
"While we think we own more pharmaceutical companies than most, we also have a relatively high exposure to the oil and gas sector and we have also just bought some mining stocks, which is a different approach to a lot of other equity income funds."
"There is a rhetorical question we asked ourselves – if markets were to fall by 10 per cent next week, would economically insensitive stocks outperform? That is what would usually be expected as cyclical stocks should underperform in those circumstances."
"However, given the recent moves in their share prices, those defensive names could do worse. They may well give you economic protection, but at the moment they can’t give you valuation protection," he added.
Moore says he has bought a number of commodity stocks as he believes they will give the portfolio a degree of inflation protection going forwards.
"We think that being in those oil and gas and mining stocks will be a good place to be if we do have higher levels of inflation. However, investors have been squeezed into defensive stocks by the central banks," he continued.
"Dividend yields on a lot of those stocks – which have been the backbone of many portfolios – have now become very expensive."
"Diageo is a great but fairly boring company and throughout my career it has had a yield of 4.5 to 5 per cent. It’s had a good run and now that is 2.3 per cent."
"We hold Royal Dutch Shell, which is very exposed to the oil price, but it is a very diversified company that is well represented across the whole oil, gas and alternative energy industry. It is a boring company, but it offers a yield of 5.5 per cent."
The manager says he still holds Diageo in his Psigma Income fund, but he has been selling down his position quite substantially in recent weeks.
Moore joined the management team at Psigma Income in May 2010, having previously run funds at both Insight and Gartmore Investment Management.
According to FE Analytics, over that time the fund has returned 36.67 per cent which means it has underperformed both the IMA UK Equity Income sector and the FTSE All Share. It has been less volatile over this time, though.
Performance of fund vs sector and index since May 2010
Source: FE Analytics
In a recent interview with FE Trustnet, co-manager Cumming explained why the fund has underperformed.
Three of the fund’s most recent acquisitions are mining giants Rio Tinto, BHP Billiton and Glencore.
"There are three reasons why we have bought Rio Tinto," Moore said.
"There is the inflation angle, as the central banks' great financial experiment could well cause an inflationary environment so the stock gives us a bit of protection. It ticks that box in that respect."
"We haven’t been keen on miners for quite a while because they have been poor custodians of shareholder wealth."
"They had a very good run, but instead of offering that capital to investors it was used for funding terrible acquisitions and opening expensive new mines."
"Rio Tinto buying Alcan was the worst acquisition I have ever seen in my career, it was overpriced and led to billions of dollars being written off. However, there is change afoot which is also coupled with management change."
"The world has got slower and there is a realisation that China won’t be growing at its previous rate, which means mining companies are holding back on extending and building new mines and are instead repaying shareholders."
"This behavioural improvement is a real benefit," he said.
"The third and final point is that Rio Tinto has a dividend yield of 4.2 per cent, which isn’t bad at all. Its earnings are very cyclical but it is a massive company and is the largest producer of iron ore in the world."
"So I would expect it to grow better than most," he added.
Moore says investors have to be extremely selective when it comes to picking mining stocks as there is still a large proportion of "sketchy" businesses that are run by foreign oligarchs in the sector.
Psigma Income has a yield of 3.78 per cent. The £391.5m fund has an ongoing charges figure (OCF) of 1.68 per cent and requires a minimum investment of £1,000.
