Capital Gearing has had another difficult year but the views of Peter Spiller, its Citywire AA-rated lead manager, who has overseen the trust for 42 years, are still very much worth noting.

In commentary for its annual results also attributed to Alistair Laing, chief executive of CG Asset Management, and Chris Clothier, co-chief investment officer, Spiller says the team has added to infrastructure funds, lifting them to 8% from 6% of the £1bn defensive, multi-asset portfolio since the financial year-end at 31 March.

Infrastructure holdings were the worst performing part of the portfolio, which gained just 1.8% in the year to March. Renewable and core infrastructure funds fell 15.1% as their shares derated to an average 20% discount to net asset value, which Spiller now believes is ‘fantastic’ value.

‘These discounts cannot be explained by investor concerns that the net asset values of these companies are overstated - our major holdings reported extensive sales of assets at or above book value. 

‘Instead, their performance reflected technical dislocations in the wider alternative sector of the investment trust market,’ Spiller said, as investors switched to short-dated government bonds whose yields shot up, and their prices fell, after a rapid series of interest rate hikes by the Bank of England.

‘With the supply of shares fixed (at least in the short term), a collapse in demand meant that price inevitably took up the slack. We think these offer fantastic returns with relatively low risk and have added materially to our holdings such that infrastructure now makes up 8% of the portfolio.’

Although the full annual report has not yet been published, previous disclosures show Capital Gearing holds small weightings in GCP Infrastructure (GCP ) and BBGI Global Infrastructure (BBGI ). Last month Spiller told us he had topped up Foresight Solar (FSFL ) while Morningstar data showed additions to International Public Partnerships (INNP ), Bluefield Solar Income (BSIF ) and 3i Infrastructure (3IN ). 

A full listing of the portfolio for last September shows at the time the highly diversified trust also held Greencoat UK Wind (UKW ), HICL Infrastructure (HICL ), NextEnergy Solar (NESF ), Cordiant Digital (CORD ) C-shares, Sequoia Economic Infrastructure (SEQI ), Digital 9 Infrastructure (DGI9 ), Greencoat Renewables (GRP ), Aquila European Renewables (AERI ), Renewables Infrastructure Group (TRIG ), Gore Street Energy Storage (GRID ) and Downing Renewables (DORE ).

Capital Gearing did better from its stakes in equity trusts. A small position in Bill Ackman’s US hedge fund Pershing Square Holdings (PSH ) leaped 47.8% and fellow investment company bargain hunter AVI Global (AGT ) rallied 28.6%.

Equities and property returned 12.6% and 11.6% respectively but only 17% and 3% were held in these risk assets at the end of March. 

Linkers lag

More significant for the trust’s underperformance against inflation was the 44% in index-linked bonds which struggled with rising interest rates and slipped 0.5%, with US Tips (Treasury inflation-linked securities) faring worst, hampered by the strength of the pound against the dollar. This was a better result than the Bloomberg Global Index-Linked Bond index, though, which fell 1.9%.

UK ‘linkers’ were a ‘bright spot’, however, after the team snapped up the 2028 and 2029 gilts last summer when their yields rose and their price fell, and had recently taken some profits after they recovered. 

Spiller said Capital Gearing had been too cautious in its defensive positioning at the start of the year. A spat of US bank failures hadn’t proved contagious and although the managers were right in predicting inflation would be sticky and interest rates higher for longer, this hadn’t upset equity markets which rose to record highs. 

That puzzled Spiller who said the real return on equity falls in times of inflation as the cost of replacing property and equipment rises, which should have led to falls, not rises, in the valuation multiples applied to company profits.

US overvalued

Looking ahead, notwithstanding the uncertainty of a potential second Trump presidency, the US stock market looked massively overvalued, trading at 34 times cyclically adjusted price-earnings ratios. Spiller said this was not far off the 38 multiple reached in the ‘everything bubble’ of 2021 and was only significantly exceeded in history by the dotcom tech bubble in 2000.

He said it looked inevitable that US corporation tax would have to rise to tackle the yawning US budget deficit, providing a further headwind to its stock market. 

The outlook for conventional bonds was also poor, confronted by structurally higher inflation and the need for G8 countries to sell down some of the vast bond holdings they accumulated under quantitative easing after the 2008 financial crisis when interest rates were held at near zero.

Prospects for index-linked bonds were ‘more nuanced’, however, weighed down on the one hand by the forces against conventional fixed income bonds but, on the other hand, benefiting from inflation, particularly if central banks let interest rates stay below the cost of living in order to reduce the real value of governments’ debts.

Trusts shine

In the midst of this gloom, investment companies provided one ray of hope. Spiller said the outlook for their depressed share prices, which trade on average 13-14% below their invesments, was the most attractive it had been for years and offered better returns than the broader market. 

‘Discounts on investment trusts are the widest they have been since the global financial crisis. Furthermore, these discounts are broad based and include the larger, more liquid, high quality trusts. In response we have added to our investment trust holdings, partly financed by sales of ETFs [exchange traded funds] and partly from cash,’ Spiller said.