Small cap exposure continues to weigh on Diversified Income, managed by Miton's Gervais Williams and Martin Turner.
Diverse Income (DIVI) has negotiated a fee cut with its Miton managers Gervais Williams and Martin Turner after it was burned by its bet on small caps, which have sold off in the run up to the Brexit deadline.
The £324 million trust has the heaviest weighting to smaller stocks of any UK equity income trust, according to Numis Securities data.
Small caps accounted for more than half of the portfolio at the end of May, the period covered by the trust’s annual results.
Net asset value (NAV) total returns came in just ahead of the index, falling 6%, against the 7% drop in the FTSE All Share over the period but the trust's share price doubled benchmark losses, falling 14%.
‘Anxiety about the terms of the UK’s imminent withdrawal from the EU became increasingly pressing during the year,’ said chairman Michael Wrobel.
‘The absence of specific detail and slippage to the exit program weighed particularly heavily on the share prices of UK small caps later in the period. Many drifted lower, even as the mainstream markets staged a recovery.’
While the performance leaves something to be desired, some of the sting has been removed as the board has renegotiated the management fees with Miton. It has reduced the annual management charge from 1% on the average market capitalisation of the trust up to £300 million, to 0.9% at this level.
It has then agreed a fee of 0.8% on between £300 million and £600 million and 0.7% on a market capitalisation above £600 million.
UK stocks still undervalued
The worst performer for the fund was Alternative Investment Market-listed software group Amino Technologies (AMO), due to a slowdown in investors agreeing new contracts. Amino also decided to close its set-top box business and focus solely on its software services business.
The managers said Amino’s strong balance sheet meant it was able to commit to maintain its current dividend in the future.
Infrastructure services business Stobart Group (STOB), 1% of the portfolio, was another detractor after it halved its dividend to fund further investment in London Southend airport.
The managers kept hold of both the stocks, expecting investment in their operations to deliver better returns in the future.
The managers took profits on their remaining holding in litigation financier Burford Capital (BUR) but added two of its recently listed peers Manolete (MANO) and Litigation Finance (LIT). This seems to have been a shrewd move by the duo as Burford's shares tumbled after a short-selling attack and the new additions, despite having only been in the Diverse portfolio since December, ‘appreciated rapidly’, although both have taken a knock following the Burford sell-off.
A series of acquisitions enabled Diversified Gas & Oil (DGOC) to ‘boost its dividend growth considerably’.
The managers also exited 11 holdings during the year on premiums as a result of takeovers that left them on modest yields.
‘The good news is that this capital can be reallocated to new holdings at a time when many UK quoted companies appear to stand on undemanding valuations given the current Brexit uncertainty,’ the managers said.
The undervaluation of small caps and subsequent uptick in buyouts is a trend that could become ‘much broader’ once there is more certainty over Brexit, they added.
Diverse has issued three interim dividends and proposed a final dividend for the year, amounting to 3.65p per share, compared with 3.4p in the previous year, representing a 7% increase. It sits on a yield of 4.3%, according to data from the Association of Investment Companies, just above the sector average of 4.1%.