Dunedin Income Growth Investment Trust (DIG) aims to grow capital and income primarily from investments in UK equities, aiming to outperform the benchmark FTSE All-Share Index. In recent years the trust’s investment strategy has undergone a gentle evolution, using its ample revenue reserves to help cushion a migration towards a greater focus on dividend growth at the expense of some initial yield. The managers, Louise Kernohan and Ben Ritchie, believe evolution is now complete within the portfolio on a look-through basis, presently exhibiting superior dividend growth as well as superior earnings growth in the companies held compared to the previous portfolio and wider market. As we discuss under Portfolio, DIG’s portfolio encompasses a diverse array of companies, with the managers focussing on identifying high-quality companies with superior management operating in industries with high barriers to entry. Whilst the majority of the portfolio is invested in the UK, Louise and Ben also utilise the wider resources of the Aberdeen Standard European equity team, and around 14% of DIG is presently invested overseas. The shift in focus has paid off: recent returns have been strong on a relative basis, with DIG displaying both superior downside protection in Q1 2020 and superior upside capture in Q2, as we discuss under the Performance section. DIG’s historic yield is c. 4.9% (as at 30/06/2020). As we discuss under Dividend, the previous financial year’s dividend was not covered by income. However, this was an anticipated result of the shift in the investment strategy, and the board and managers have been aligned in managing the transition to the new investment strategy without impacting distributions to shareholders.
Companies: Dunedin Income Growth Investment Tr
J.K Galbraith’s comment has always seemed to me possibly the most egregiously misused quote in financial markets. It is seemingly a statement of the obvious, but what it is surely saying is that the future is inherently uncertain. To state that markets are discounting mechanisms is also not controversial, because it is making the same point. Nobody knows the future, not even readers of trustintelligence.co.uk, by definition the brightest and most discerning segment of society (and probably the bestlooking too). But when participating in the market we make an assessment of probabilities and then try to measure those against the assessment by the wider market. In this piece, we assess whether there may be a higher probability than the market currently assumes that later in 2020 we will see an equity market melt-up, ripping prices higher; and that this will not be a rational move, thus adding subsequent downside risks. We have looked at some alternative sources of returns which we believe could broadly participate in such a rally while at the same time ultimately serving as an (at least partial) hedge for portfolios. ‘Buy and hold’ is ingrained in the minds of most of us because of recency bias. Yet, among others, Christopher Cole of Artemis Capital1 has highlighted how anomalous this current epoch has been in generating consistent long-term asset price returns. Over time there have been numerous sustained periods in which a typical 60/40 portfolio has delivered poor or even negative longterm returns. With a significant proportion of global government issuance currently exhibiting negative yields, and UK gilts and US Treasuries not far behind, there is incredible duration risk in just allocating blankly to bonds; and this risk is likely also present (to a lesser extent) in your equity book if you invest in high-quality or high growth names. Perhaps it is no surprise then that Terry Smith of Fundsmith recently moved a proportion of his assets from bonds to a long/short equity fund.
Companies: RICA DIG DIG MNL BHMG BHGG BRWM BRWM KIT RICA
A long, long time ago, I can still remember how, that election had us all talking about sterling (well, some of us). Instead now we are hard put not to talk about mass dividend cuts, with Link Group estimating dividend cuts of 47% or more in the UK equity market. Way back in those distant epochs of early December 2019, we appeared to be approaching a greater degree of certainty about the shape of the future in the UK: an election was in the offing which promised to help resolve the outlook for our relationship with the EU and the rest of the world, and to clarify what kind of environment businesses would face going forward. At the time, GBP looked undervalued on the basis of the Economist’s ‘Big Mac’ index (a way of looking at the relative valuations of various currencies based upon the relative cost of a McDonald’s Big Mac in different countries). With signs that global investors’ positions in UK assets were starting to move towards normality from their previous large underweights, it seemed prudent to highlight that a rising currency could prove a headwind for dividend streams. With UK payout ratios (the proportion of earnings paid out as dividends) very elevated, and in general terms a roughly inverse relationship between UK corporate earnings and the strength of the currency, dividends funded by overseas earnings logically seemed somewhat vulnerable. Sure enough, following the general election we saw the GBPUSD rate move up to c. 1.35 in fairly rapid fashion (having traded below 1.30 since May 2019). Even so GBPUSD remained short of the ‘fair value’ level of c. 1.42 suggested by the ‘Big Mac’ index at the time, but there were certainly positive signals in sentiment surveys that suggested sterling was setting up for a more durable rally.
Companies: TIGT ASEI JCH CTY DIG SCF BRIG ASL
Dunedin Income Growth (DIG) sits in the UK Equity Income sector, aiming to grow capital and income in excess of the FTSE All Share. In recent years it has undergone a gentle evolution, using its ample revenue reserves to help cushion a migration towards an investment strategy with a greater focus on dividend growth at the expense of some initial yield. This has necessarily been a long process as the managers slowly wind down positions in stocks with high current dividends but fewer prospects of growing them. The result is a portfolio with a considerably greater bias to the small and mid-cap end of the market, but with the same tilt to quality characteristics. The managers, Louise Kernohan and Ben Ritchie, believe this process of evolution is now essentially complete and the portfolio, on a look-through basis, presently exhibits superior dividend growth as well as superior operational growth in the companies held. DIG’s portfolio encompasses a diverse array of companies, with a focus on identifying high-quality companies with superior management operating in industries with high barriers to entry. Whilst the majority of the portfolio is invested in the UK, Louise and Ben are also able to utilise the wider resources of the Aberdeen Standard pan-European equity team, and around 17% of the trust is invested overseas. Although the process of moving towards a higher dividend growth strategy was expected to result in some depletion of the substantial revenue reserve to help bridge any income shortfall, this has largely proved unnecessary, with only minor reductions in reserves required to support the move towards an improved income growth profile. The shares currently yield c. 4.2% and stand on a discount to NAV of c. 6.8%, as of 31/12/2019.
In our recent research, Measure for Measure, we discussed the importance of a manager’s activeness and the difficulties involved in gauging it. As we have highlighted before, the chance of generating alpha generally rises with how active a manager is, and the UK closed-ended universe has become significantly more active in response to the challenge of cheap passive products. In that article we took a look at a range of measures for assessing the ‘activeness’ of a manager and their strengths and weaknesses. In this article we take a deep dive into the numbers, using tracking error, concentration, gearing and sector movements to look at how active the managers are across the major closed-ended equity sectors; the UK All Companies, UK Equity Income, Global, Global Equity Income, Japan, Europe and North American sectors. We rank the trusts based on each individual metric, but also relative to the rest of the sectors. Finally, we discuss which trusts stand out across the different metrics, and establish an overall ranking for each trust which shows how ‘active’ they are. As always, we are not recommending anything here, and this ranking should not be construed as anything other than a scale showing how ‘active’ each fund is relative to the other funds in the study, according to the metrics we have used. Neither are we suggesting that being very active is, in itself, meritorious.
Companies: IIT LTI SMT JEO FSV BGEU SCF JMF DIG
Dunedin Income Growth (DIG) sits in the UK Equity Income sector, aiming to grow capital and income in excess of the FTSE All Share. The trust is unique within the AIC sector due to its large exposure to European stocks, helping the managers to diversify their distributions and take advantage of their extensive knowledge of the Pan-European space. The trust is run by Ben Ritchie and Louise Kernohan at Aberdeen Standard, who have been implementing a change in strategy since 2016. The portfolio has been shifting towards stocks with more attractive growth characteristics, whilst maintaining the dividend at a high level throughout – the current yield is 4.6%, compared to a sector average of 3.8%. This has necessarily been a long process as the managers slowly wind down positions in stocks with high current dividends but fewer prospects of growing them. The result is a portfolio with a considerably greater bias to the small and mid-cap end of the market, but with the same tilt to quality characteristics. The turnaround has started to bear fruit: over 2018 the trust outperformed both the FTSE All Share, its benchmark, and the peer group. This has continued into 2019, and over the first four months of the year the trust has delivered just under 15%, beating both the peer group and the benchmark. This has also begun to be reflected in the discount and, after starting April trading at a discount of around 10%, the trust is now trading at close to 5%. Alongside this, the trust has grown its dividend at a rate of 2.4% per annum over the past five years, considerably more than the rate of inflation. Dividends are paid out quarterly, and having not seen in the interim pay-out amount change since 2013, 2018 saw a large uptick in order to make the distribution of income more balanced. In April of 2019, the trust’s expensive debenture, which was taken out in 1997 at rates which then appeared favourable, expires. This will dramatically decrease the headline gearing for the trust.
Dunedin Income Growth invests in mainly UK equities with around 20% in European stocks, and aims to generate a growing income plus capital growth in excess of the FTSE All Share. The yield of 5% is partly a result of the discount, but mainly due to the historic holdings in high yielding stocks with lower growth. After a poor 2015, the managers have been implementing a turnaround strategy which aims to slowly transition the portfolio to stocks with faster growing earnings and dividends while at least maintaining the distributions. Returns have improved over the past year, but the trust has slipped onto a wider discount than the sector average thanks to the historic poor performance, and the board has been active with buybacks around the current level of 10%.
We have for some time argued that traditional equity income funds are too heavily dependent on a narrow range of stocks, and that the stocks themselves are perhaps looking overstretched in terms of the dividends they pay compared to their underlying earnings. In November last year we published research showing that 25.1% of the capital in the AIC UK Equity Income sector is invested in just ten stocks, and across those companies the average dividend cover is 1.17x. We found that open-ended funds are even more heavily concentrated, with just under 30% of assets invested in ten stocks, among which the average dividend cover is just 1.04%. The mood amongst investors seems to be changing as awareness of this concentration grows, not least because of articles like this one in the Times warning of a ‘squeeze’ ahead for investors and, where once UK Equity Income was regularly the top selling Investment Association sector, outflows have been building steadily for some months. In fact the IA UK Equity Income sector saw bigger retail outflows in January this year than any other bar the Specialist sector. Even after recent outflows, however, the sector remains one of the largest overall with assets of more than £62bn under management – accounting for roughly ten percent of all assets invested in open-ended funds. Among investment trusts, assets amounting to £10bn are held in UK Equity Income trusts. Income still commands a strong pull, then, and within the Investment Trust sector, the practise of boosting income by paying out a proportion of capital profits has become increasingly common as a means to attract new investors. The appeal of this practice from a fund manager’s point of view is obvious. Many investors clamour for income, so introducing a yield can encourage greater demand for shares. International Biotechnology Trust (IBT), which we cover in detail here, announced plans in September 2016 to convert some of the capital it generates into income, aiming for a yield of 4%. As the chart below shows, the discount has come in sharply since it did so, moving to a premium earlier this year having previously rarely traded inside a double figure discount for a large proportion of its lifetime. Invesco Perpetual UK Smaller Companies (IPU) saw a similar re-rating when the board announced plans to pay a significantly enhanced dividend partly funded by the capital account in September 2016. Like IBT, the trust, which yields 3.5%, has seen its discount tighten up sharply, moving in from a consistently wide double-digit discount to trade in single figures since the enhanced dividend was introduced. Looking at these share price movements, we thought it might be interesting to examine the broader investment trust sector and see whether a correlation exists between discount and yield.
Companies: IVPU IBT MVI MUT DIG EDIN PLI BEE BRWM IVI SCF AAIF PLI
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Trading in the royalty partner portfolio over Q1/21 shows a material rebound from May, which has been sustained to date, as the portfolio as a whole returns to more normalised trading. Consequently, Duke's cash receipts, while down 20% YoY currently, are set to step up in H2/21 as forbearance measures largely expire and deferred royalties realised. This bodes well for a rebound in earnings and a return to cash paid dividends. A share price down over 55% since Feb 20, standing at p/book of 0.56x H1/20A's NAV p/s thus appears overdone. We await further clarity on the portfolio before reissuing forecasts, thus leave our recommendation U/R.
Companies: Duke Royalty
L&G reported an operating profit from continuing divisions (excluding Mature Savings and General Insurance businesses) of £1,128m, -2.2% yoy. The COVID-19-related cost was £129m. LGR posted a growing operating profit to £721m. Net profit amounted to £290m vs. £874m a year before, being affected by the reduced discount rate used to calculate LGI reserves. The Solvency II ratio stood at 173%. The Board recommended an interim dividend of 4.93p/share, stable relative to H1 19.
Companies: Legal & General Group Plc
H1 20 operating profit declined by 12% to £1,225m and the COVID-19 claims impact was £165m. Cash remittances from business units to the group was only £150m. The insurer said that it will focus on the UK, Ireland and Canada, which means an exit from other European and Asian markets. The Board has declared a second interim dividend in respect of the 2019 financial year of 6p/share and will inform shareholders about the 2019 final dividend in Q4 20.
Companies: Aviva Plc
We believe now is an interesting time to invest in Northgate, with a new executive board and a capable management team in place who have already delivered progress on an ongoing turnaround as we await a full strategic review. The group now has a clear and well communicated capital allocation strategy in place and improved earnings quality, in our view. We believe that the growth opportunity in the UK, the value of the Spanish business and the progress made to date with the turnaround are not being reflected in the share price, which is currently 15.9% below book value (414p per share in FY19A rising to 468p in FY22E). We use a variety of valuation methods including P/B, SOTP, DDM and DCF modelling and arrive at an average implied share price of 450p, 29.0% above the current share price.
Companies: Redde Northgate Plc
Opportunities which have presented themselves in the wake of the COVID pandemic have been too good to ignore. Two assets have been acquired for £17m with 5%+ NIY; one having material reversionary potential. An attractive forward funding opportunity has been born out of COVID uncertainty with ULR stepping in to fund the £20m development of two assets pre-let to Amazon and DHL. March’s equity placing has now been fully deployed, and a new £151m loan facility provides additional £40-50m headroom. The structural trend towards e-commerce has been catalysed by COVID. ULR offers exposure to this resilient, attractive segment with a 5%+ yield and potential capital gains from rent reversion.
Companies: Urban Logistics REIT Plc
For this Monthly, we are delighted that Rooney Nimmo and 24Haymarket have allowed us to reproduce a recent report they jointly published, entitled An analysis of UK exits (2015-2019), which provides a granular analysis by sector of the activity in our dynamic private companies world. We hope you find the insights of interest.
Companies: AVO AGY ARBB ARIX CLIG ICGT NSF PCA PIN PXC PHP RECI SCE TRX SHED VTA
Vacancy strongly increased in Q2 20. LTV surpassed the 50% mark on 30 June 2020 due to strong value destruction in H1 20. Hammerson announced a £550m cash capital increase coupled with a disposal of £270m. Its ex-post pro forma net debt should be £2.2bn, i.e. LTV of 42% on a proportionate basis. Too high?
Companies: Hammerson Plc
The Law Debenture Corporation (LWDB) has reported another strong set of results for its independent professional services (IPS) business in H120, with EPS growth remaining in the target mid- to high single-digit range despite a more challenging economic backdrop. With the trust’s largely UK investment portfolio having been hit by the widespread stock market sell-off in February and March, IPS has provided a larger than average contribution to revenue returns. This means fund managers James Henderson and Laura Foll can continue to search for attractive total return opportunities in a broad range of sectors, while maintaining LWDB’s focus on both capital appreciation and above-inflation dividend growth.
Companies: Law Debenture Corporation
S&U motor finance sales are recovering even as credit criteria have been tightened. There is still uncertainty about the impact of the wind down of employment support schemes and how collections will recover following repayment holidays, but S&U expresses cautious optimism on the latter point. The current year results will be significantly affected by lower sales and higher arrears but management indicates the group is still profitable, is maintaining its high customer service levels and has liquidity headroom to respond once it is sensible to target stronger growth.
Companies: S&U Plc
Duke delivered significant YoY growth in H1/20A results, as earlier efforts to broaden the royalty portfolio came through this year. This strong growth will continue with recent debt & equity raises forward funding investments to income levels of £15m by FY21E. Met with an enhanced, but now stabilised cost base, operational leverage should drive continued strong adj EBIT growth (to £13m, at a c85% margin) and further DPS rises.
What’s new: Purplebricks Group results for the year to 30 April 2020, show the Australian and US units as discontinued; but include the Canadian unit sold for C$60.5m (i.e. £35m) in July. Investors will focus on the UK unit which revealed:
11% fall in UK revenue to £80.5m (FY19: £90.1m), as the number of instructions fell 23% (impacted by early Covid uncertainty and lockdown), but the average revenue per instruction “ARPI” rose 12% to £1,394;
UK gross profit margin improved to 64.1% (FY19: 63.0%);
UK marketing costs to revenue improved to 25.6% (FY19: 29.6%);
Spend on Digital capacity pushed UK operating costs 32% to £26.2m (FY19: £19.9m), as new management team pursued initiatives which are being “delivered at pace with significant opportunity for further innovation.”
UK adjusted EBITDA fell 53% to £4.8m (FY19: £10.2m).
Companies: Purplebricks Group Plc
Frontier IP has announced it has invested £50k in a £500k convertible loan financing of PulsiV. Frontier IP has a 18.9% equity holding in PulsiV, which was last valued at £0.9m on the balance sheet. Whilst the commercial terms of the loan are unknown, it is not expected to have any material difference to the balance sheet at this stage. This direct investment by the Group is in line with a wider strategy to use proceeds of the recent fundraising to support portfolio companies financially to accelerate portfolio growth. PulsiV is taking significant steps to commercialising its technology and a solar microinverter prototype developed in collaboration with Bosch is expected to move into field trials of the “Engineered by Bosch” product in the nearfuture. Funding will enable PulsiV to step up development of its technology for use in a wider range of industrial applications, at least one of which is nearer to market. The potential of the micro-inverter market is vast, estimates of the global solar inverter market ranges from $2.4bn to $7.3bn per year.* Proceeds are expected to fund the development of its technology into a wider range of industrial applications. We note that PulsiV continue to be in discussions with potential investors to raise further funding in the form of equity, an event outlined in our January initiation as a near-term catalyst for Frontier IP’s valuation of its equity holding. Frontier IP expect this equity fund raise to be at a substantial valuation premium to the current book value of PulsiV (last reported at £0.9m on Frontier IP’s balance sheet). There is no indication given as the size of any potential uplift, but any increase in the Company’s book value will be reflected in the Group’s results to 30 June 2020 financial year. If achieved it would demonstrate that positive momentum from an excellent FY’20 period has continued into the new financial year.
Companies: Frontier IP Group Plc
With 90% of contracted rental income paid directly or indirectly by the UK or Irish governments and the balance primarily coming from co-located pharmacies, rent collection remained robust through H120, contributing to a strong H120 financial performance. Primary Health Properties (PHP) is well on track to meet its fully covered 5.9p (+5.4%) FY20e DPS target, which will mark the 24th year of uninterrupted growth.
Companies: Primary Health Properties Plc
Tinexta’s Q220 results were much better than consensus expectations, as all business units produced improved organic growth trends versus Q120, in the face of the COVID-19 lockdown, and cost control helped improve profitability. The group is well positioned to benefit from structural growth drivers, including the digitisation of economies. We increase our EBITDA forecasts for FY20 by 7.6%, taking us 6.6% above management’s reiterated and recent guidance for FY20.
Companies: Tinexta SpA
Swissquote released this morning its numbers for H1 20. These were, once again, above expectations and our own expectations (which were already quite demanding). Guidance is drastically revised upwards with profit before tax expected at CHF100m (vs CHF90m for our own forecasts). Management will update its 2022 guidance during the Q4 20 release (in March 2021). Management expects to increase that guidance.
Companies: Swissquote Group Holding Ltd.