FTSE 100: 7471.01 ▲ 17.53 (0.24%)
Markets are in somewhat of a risk-on phase at present; many cyclical and small cap stocks have done well, as the recent interims of Henderson Smaller Companies (HSL) and Aberforth Geared Income (AGIT) show. Noises coming out of the US have generally helped markets in this regard.
Despite initial reservations, there is a broad consensus that the Donald Trump administration will support business and the market has warmed to its talk of a $1 trillion dollar infrastructure spend, likely financed through debt. I do not see anything approaching that necessarily derails this view, and I think that markets can continue to move ahead, but I can also see many challenges coming over the horizon in the UK, Europe and the US and I believe further volatility is likely.
With this in mind, I started to think about what strategies have been working well but could also offer some protection, or maybe benefit, should markets wobble? The things that came to mind were multi-asset strategies, private equity and perhaps value / contrarian ideas as these all tend to operate with more absolute return mindsets.
Seneca Global Income and Growth (SIGT) arguably has one of the more diverse portfolios in this space. It invests in UK equities, overseas equities (via funds), fixed income and specialist assets (property funds, infrastructure funds and the like). However, with a market cap of £64 million, it is one of the smaller funds and could be easily overlooked but, unlike its peers, it has a zero discount policy, which offers investors some assurance that they can enter and exit around net asset value.
Looking at the private equity sector, a fund that caught my eye recently is Standard Life Private Equity (SLPE), having dropped 'European' from its name, as it has been making some interesting changes. It is a fund of private equity funds, focused on Europe, which, like its peers, has been benefiting from a high rate of realisations. These strong cash flows have stimulated interest in this area and led to a general narrowing of discounts across the private equity funds during the last year.
Although cash levels have paused during the last three months, they have been on a rising trend. The manager is not rushing to deploy the incoming cash and expects to see better opportunities to acquire assets further down the line when the market is less buoyant. In the meantime, its board has decided to change the dividend policy so as to increase the yield and return more cash to shareholders.
For the 2017 year, the board is more than doubling the dividend to 12p (2016: 5.25p) and it says it intends to grow the new dividend at least in line with inflation. I think this may appeal to some income investors. The performance fee is also being removed, although the quid pro quo is the manager gets a higher base fee (0.95% of net asset as opposed to 0.8%).
However, the board feel the combined effect is beneficial to shareholders and, at the very least, it will be easier to understand. Perhaps one of the more interesting developments is the removal of geographic restrictions which currently tie the fund to Europe. The name has been changed to reflect this, although the trust will still be predominantly focused on Europe. The managers say that, by lifting the restriction, they will no longer be excluded from other strong opportunities they would otherwise like to allocate to.
Looking at contrarian or value opportunities, Fidelity Special Values (FSV) stands out for me. Its Citywire A-rated manager, Alex Wright, added to cyclical stocks when they were out of favour and looking cheap and so the trust therefore positioned for, and has benefited from, the recent rally.
The key to being successful in this space is, of course, being able to avoid the value traps. Wright (pictured) has a decent record in this regard – since his appointment in 2012, FSV’s performance is way ahead of its peer group and I think this reflects the fact that Wright does not purely focus on value. He also looks for a margin of error (balance sheet strength, earnings resilience, absolute and relative valuations) that should help limit the downside. This is important as value ideas can take time to come to fruition.
Given Wright’s track-record, I find it interesting to read that he has been reducing FSV’s exposure to cyclicals recently, and I wonder if there is a note of caution for other investors that are expecting the market to provide further gains. However, I also note that Wright still has strong allocations to banks and other financials, which tend to be economically and interest rate sensitive.
Ultimately, time will tell if further caution is currently warranted. If risk on markets continue for some time then funds targeting growth stocks will likely be the winners. However, things are not yet that certain and some additional diversification can sometimes be useful for those that fancy a more restful night’s sleep!
Matthew Read is an investment company analyst at Marten & Co. James Carthew is currently away. The views expressed in this article are his and do not constitute investment advice.