The questions hanging over the UK equity market due to the uncertain macro climate have not stopped it from producing some good returns after the Q4 slump, according to Royal London Asset Management’s Richard Marwood.
Marwood, manager on the £1.9bn Royal London UK Equity Income fund alongside Martin Cholwill, said bearishness about the UK equity market as the Brexit saga continues, may have led to some investors missing out on some strong returns this year.
The FTSE All Share index fell by 10.25 per cent during the final quarter of 2018, as markets took a tumble globally, but has risen by 12.83 per cent to 20 June 2019, as the below chart shows.
Performance of index YTD
Source: FE Analytics
Where investors have taken exposure is in the more international-facing companies with less exposure to the domestic economy.
However, RLAM’s Marwood said that this might be a mistake.
Marwood said: “I think it’s worth mentioning because those are the sort of macro calls that you could easily make if you were tempted to avoid certain areas of the market.
“We try not to do that in the portfolio. We try to keep a mix of domestic and international and a good spread of sectors so that we aren’t actually trying to make a macro call within the portfolio.
“You can easily make a macro call that is wrong and it poisons your whole portfolio.
He added: “We’re just much more interested in picking individual companies and letting stockpicking being the driver of performance. That underpins the performance that we’re seeing there [at the start of this year].”
So far this year, the fund has returned 12.63 per cent.
Two domestic-oriented stocks that had helped drive performance this year were Dairy Crest, owners of the Cathedral City cheese brand, and landscaping products company Marshalls.
Dairy Crest was the only stock added to the Royal London UK Equity Income portfolio in 2018, according to Marwood, and has been a good driver of the fund’s performance. It was acquired by Canadian dairy firm Saputo earlier this year.
“I think if you had been asked at the end of 2018 what’s really going to drive your performance so far this year, would you have picked out a UK retailer and a very domestically focused building company like Marshalls?” he asked. “You probably wouldn’t actually.”
However, Marwood noted that not all stocks in the portfolio had been positive contributors to performance.
“The two that I would hold my hands up to this year have been Saga and De La Rue,” he said.
“Saga has been weak since it had to reset its expectations in the insurance business. And De La Rue, – which is the business that prints bank notes and is very heavily involved in identity cards and passports – had a profit warning on the back of the competitive nature of the banknote printing market.”
Performance of stocks YTD
Source: FE Analytics
He added: “I would say that we kept the holdings, there is value in Saga: we think that the travel business is very strong and we think that there is value in the Saga brand with their targeting of older customers.
“And in De La Rue there’s a lot of interesting tech – be it making the security features for passports, ID cards or currency – but they also have a very interesting that makes ‘track and trace’ things, such as a hologram for Nike.”
Marwood said it has also made some recent additions in the shape of tobacco company Imperial Brands, which he believes has a combination of yield and strong cash flows, which he said is crucial for producing a sustainable dividend.
Something absent in the portfolio more recently is dividend cuts, which he said was seen in the market with mobile phone operator Vodafone.
“When we’re looking at sustainably of dividends Vodafone has always been one that has looked a bit problematic for us,” the manager explained. “The things that you can look at in terms of predicting dividend cuts are some very generalised things like dividend cover and dividend cover was actually quite low at Vodafone.”
He added: “But the thing we’ve always been concerned about with Vodafone has been the cash flow. It generates a lot of cash but the problem is there’s always a way to actually spend that cash within the business.”
The fund usually hunts at the bottom end of the FTSE 100 and in the FTSE 250 as this is where he is able to find the most interesting companies. As such, he is underweight the largest companies in the UK market.
“[It’s] a very plain vanilla income portfolio,” he said. “There’s of element of barbell in the strategy we don’t own some very high yielding stocks and then have things which are very low yielding in there.”
Performance of fund vs sector & benchmark over 3yrs
Source: FE Analytics
Royal London UK Equity Income has made a 28.03 per cent total return over the past three years, outperforming the average IA UK Equity Income peer’s 22.42 per cent but lagging the 33.49 per cent return made by the FTSE All Share benchmark.
The fund is currently yielding at 4.48 per cent and has an ongoing charges figure (OCF) of 0.67 per cent.