Mid caps are generally considered to be high-growth alternatives to more established names in the FTSE, thanks largely to their stellar run in recent years.
According to FE Analytics, the FTSE 250 index has returned 700.47 per cent over 20 years, beating the FTSE 100 by more than 350 percentage points.
Performance of indices over 20yrs
Source: FE Analytics
However Dobbie (pictured), manager of the five crown-rated Rathbone Blue Chip Income & Growth fund, says investors should not take these statistics at face value.
Although he has a number of FTSE 250 names within his £50m portfolio, Dobbie maintains a bias to large caps as he believes this area of the market is fairly valued and will outperform over the long-term. "We do have five overseas names in the portfolio – which all happen to be European – and we do own three mid caps," said Dobbie. "We could own a lot more than that, but we have chosen not to."
"Yes, mid caps have outperformed large caps over the last 10 years, but the 10 years before that they didn’t. There is the argument that mid caps are under-researched and are more nimble while larger companies don’t offer much growth, and there is some truth in that."
"However, we think that one of the major drivers of mid cap outperformance has been that the majority of mega-cap stocks were de-rated about 10 years ago."
"Larger companies like Vodafone and GlaxoSmithKline had been trading on 30x earnings and though Glaxo has tripled its profits over the last decade, it has underperformed against mid caps because of its previous de-rating."
Our data shows that during the 10 years prior to 2003, the FTSE 250 index lagged the FTSE 100 quite considerably. The graph below shows the relative outperformance and underperformance of the mid cap index against the FTSE 100 over the last two decades.
Relative performance of indices over 20yrs
Source: FE Analytics
The manager says that because UK mega caps are now trading on lower price/earnings ratios, he expects them to outperform as the UK economy recovers.
His thoughts are echoed by Premier’s David Hambidge, who recently told FE Trustnet that large caps may well outperform in the future if disillusioned bond investors turn to larger and safer equities.
"If there’s a general move back into the equity market it could be the mega caps which have their day in the sun," Hambidge said.
Dobbie joined Julian Chillingworth as co-manager on the Rathbone Blue-Chip Income & Growth fund in January 2012, having previously run Rathbone Recovery from mid-2009 through to December 2011.
Since running funds in the IMA universe he has returned 95.55 per cent, while his peer group composite is up 77.54 per cent.
His Rathbone Blue-Chip Income & Growth fund is a top-quartile performer in the IMA UK Equity Income sector over 10 years, with returns of 148.32 per cent, compared with 136.35 per cent from its FTSE All Share benchmark.
Performance of fund vs sector and index over 10yrs
Source: FE Analytics
The fund has a headline yield of 3.74 per cent.
Dobbie and Chillingworth invest in a concentrated portfolio of just 31 holdings. This, Dobbie says, differentiates themselves from a lot of their rivals.
"Because we have such a concentrated portfolio, we only hold 20 FTSE 100 stocks – so we are very selective," he said.
"When you see a fund like ours, you could well assume that it is basically a tracker, but there are so many stocks within the index that we don’t hold. We have just as many conversations about what we shouldn’t hold as about what we should hold," he added.
Dobbie admits that there is a mentality within the UK market to flock to "safer" large cap stocks, so instead he and Chillingworth use their overseas allocation to diversify the portfolio.
"Certain UK mega caps are owned by a large number of people because of their high dividend yields."
"That’s why we supplement our UK exposure with a few overseas names, specifically ones where we feel we can find better exposure to certain sectors," he said.
"For instance, we own GlaxoSmithKline as well as Sanofi. Sanofi is another good business that was de-rated. It had been very successful in the mid-90s with its drug-discovery programmes, however it then struggled to secure patents for those new drugs."
Rathbone Blue Chip Income & Growth has an ongoing charges figure (OCF) of 1.61 per cent and requires a minimum investment of £1,000.
