Vaccine optimism and the passage of the US’s $1.9tn (£1.3tn) stimulus bill have helped seal the comeback of the ‘value’ investment style in the first few months of this year, with energy, financials and basic materials climbing across the board.
A number of investment trusts offer exposure to cheaper parts of the market and have the potential to benefit from a cyclical upswing in valuations – and the good news is that some continue to trade at discounts to net asset value (NAV), although genuine bargains are harder to find after a sharp six-month rally in the closed-end funds we highlighted in our ‘rush to value’ table in January.
‘While the extremely attractive discounts available last year have unwound, we continue to believe the outlook for earnings and the attractive valuation starting point should lead to good net asset value growth over the course of the next 18 months,’ explained Philip Matthews, co-manager of the TB Wise Multi-Asset Income fund and a former manager of Schroder UK Growth (now Baillie Gifford UK Growth BGUK ).
He believes that value is now ‘having its moment in the sun’, given the prospect of a strong global economic recovery and ‘historically wide’ levels of dispersion between growth and value returns.
The prospect of a rebound in inflation could be an indirect boon for fixed income yields, which in turn would support some sectors subdued by the coronavirus pandemic, he added.
‘A backdrop of rising bond yields should prove favourable for the continued performance of value, particularly financials as a sector which will benefit from a rising and steepening yield curve and where reduced loan loss provisions should drive earnings growth,’ he said.
Value at a premium
Matthews currently favours Polar Capital Global Financials (PCFT ), which holds groups such as JP Morgan and Mastercard. The trust now trades at a premium of 2.6% over net asset value (NAV) having re-rated from a 10% discount. The shares have surged 50% in the past six months, ahead of the underlying 32% advance in the portfolio’s NAV, according to Morningstar, after a rebound of investor interest.
Adam Carruthers, an analyst at wealth manager Charles Stanley, expressed a preference for trusts which take a broader contrarian approach. One such is Fidelity Special Values (FSV ), managed by Alex Wright, which trades on a small premium of 1%.
Over the past 12 months, the trust’s share price has risen by an impressive 94.5% while its NAV is up 63%, according to Numis. This is largely down to its exposure towards both defensives and cyclicals in and outside the UK. It maintains a tilt towards value stocks such as Imperial Brands (IMP), with Wright’s approach focused on three stages: purchase of the stock, start of perception change, and period of recognised recovery.
Carruthers said: ‘The trust is focused on idiosyncratic bottom-up stories and Wright is not making calls on macro outcomes. His current breakdown isn’t typical of a classic value fund, with underweight positions in both the materials and oils sectors. Wright is clearly positive, as gearing is currently 15%.’
The good news is there are a number of funds that can be accessed at discounts right now, said Matthews. One of these is the £1.2bn Aberforth Smaller Companies (ASL ), the largest UK small-cap trust, which has its biggest sector position in smaller industrials such as Morgan Advanced Materials (MGAM), and trades 3% below NAV. However, that discount has narrowed sharply from around 10% since November and the 12-month average discount of 8%.
Its share price and NAV have both soared over six months, up 80% and 59.7% respectively as a result of this re-rating. That has improved its long-term performance with a 10-year total shareholder return of 203%, beating the 158% of the Numis Smaller Companies (excluding investment companies) index.
AVI Global (AGT ), formerly known as British Empire, is another option for bargain hunters. The investor in undervalued investment and holding companies trades on a discount of 7.5%, which compares with a 12-month average of nearly 10%, but has still seen its share price rise by 77.5%, while its NAV is up by 70.6% over the past year.
Joe Bauernfreund, chief executive officer and chief investment officer at fund manager Asset Value Investors, noted AGT values its own holdings as trading on an average discount of around 30%, from a typical level of around 10% historically. Since 2018 its investments have been concentrated in cash-rich Japanese operating companies, which he sees as ‘probably the greatest value opportunity out there at the moment’.
‘These are not the highest-growing businesses in the world, but they are for the most part growing – generating key cashflow,’ he said.
‘The feature that they all share is that they have accumulated huge amounts of surplus net cash on their balance sheets over the past 20 years, and that is a caution that we see across the board – in Japan it is borne out of the crash that they experienced in 1989 and 1990.’
Fund manager changes may also provide an opportunity to access managers with solid long-term track records on the cheap. A trust Matthews, Carruthers and 7IM senior portfolio manager Peter Sleep all spoke highly of is Temple Bar (TMPL ), the UK equity income fund previously run by Alastair Mundy until his departure a year ago, prompting the board to sack his employer Ninety One and appoing RWC.
Temple Bar is a prime example of a value-focused trust that has benefited from the vaccine-fuelled rally for economically sensitive stocks.
Carruthers likes that RWC fund managers Ian Lance and Nick Purves ‘will not compromise their method in periods of weak performance’. This process involves searching for stocks that have fallen out of favour but still possess measures of quality, such as cashflow net Ebitda in areas of their business.
Since RWC took over on 1 November, Temple Bar’s share price has risen by more than 60%. Temple Bar’s discount has also narrowed from 15.8% in October to 1.1% at the time of writing. Lance conceded the ‘timing could not have been better’, with news of the Pfizer-BioNTech Covid-19 vaccine’s efficacy released a week later.
The team promptly moved the portfolio into financials, energy and retail. Royal Mail (RMG) is the portfolio’s largest position at 8.6%. Despite the company’s lacklustre performance, the team sees strong potential upside in its UK and European parcels businesses, which have been given a boost by the lockdowns.
Rather than simply scooping up stocks that have taken a temporary hit, the managers hope to have built a portfolio that will deliver for ‘several years’. Lance feels we are in a situation similar to the 2000 tech boom and subsequent crash, after which the share prices of stocks such as British American Tobacco rose tenfold over the next decade.
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