2020 has so far proven to be the latest episode in a long period of technology outperformance, as we observed in this article. Over the past decade, technology-related companies have tended to perform like consumer staples or defensives on the downside, and like high-growth discretionary stocks on the upside: an ideal combination from the investor’s point of view. As a result the indices (and fund managers’ portfolios) are increasingly correlated to ‘big tech’. How do investors who want a diversified portfolio deal with this, and how can they introduce more diversification into their portfolios, without reducing the potential for growth? The first step, of course, is to use specialist funds to diversify one’s holdings of individual technology stocks. Allianz Technology Trust (ATT) and Polar Capital Technology Trust (PCT), for instance, are both run by tech specialist managers. But ATT differs from PCT in that the portfolio is significantly more concentrated and, at times, has greater exposure to mid-caps. This combination of features means that ATT can be more volatile and deviate from the benchmark to a greater extent, from time to time. Nonetheless over the last five years, these two aspects of ATT have paid off for its shareholders – having outperformed PCT by a total of 15% in NAV terms. While both trusts have delivered strong returns relative to their Dow Jones World Technology benchmark, both of their fortunes are also inextricably linked to big tech. If the biggest technology companies catch a cold, then the wider technology sector will likely catch it in the short term. At the same time, as we conclude in this article, there are good reasons why the quality characteristics which technology stocks display give them the potential to outperform for years to come. But nothing lasts forever and, while we wouldn’t bet against technology performing strongly in absolute terms over the medium term, it might be that sector leadership could pass elsewhere.
Companies: ATT PCT SMT BBH UKW IBT MHN IEM BERI MWY
Menhaden (MHN) invests in businesses that benefit from the efficient use of energy and resources. The managers see this as a long-lasting secular growth theme, which enables their companies to outperform. With its closed-end structure, MHN can afford to be highly concentrated (only 14 holdings), and invests in both private and public markets. The team aim to identify companies which have the opposite characteristics of ‘commoditised businesses’, exhibiting strong pricing power and high barriers to entry. They invest for the long term and have high conviction: the top ten holdings account for 92.9% of NAV (as at 31 May 2020). An important development is that many of the private investments have now been sold, as we discuss in the Portfolio section. Having received sales proceeds at the end of 2019, MHN had around 15% cash in January 2020, and this was invested in listed equities during March and April. As a result the trust has been able to bounce back, and is now only marginally behind world equity markets YTD; despite having low USD exposure as a result of currency hedging. Performance has been strong against comparators in the past three years, with NAV total returns of 28.5% to 31/05/2020, versus the MSCI ACWI return of 20.5% and the average global investment trust return of 17.8%. MHN’s YTD NAV has proved relatively defensive, as we illustrate in the Performance section. MHN’s discount has historically been wide but, following the trust’s good performance in 2018 and 2019, it regained ground to trade in the high teens. The discount then widened dramatically during March, to c. 50%, but has narrowed to c. 24% currently.
Companies: Menhaden Capital
After a poor start to life, Menhaden seems to be rapidly on the path to recovery. Having had a new management team at the helm since April 2016, the team are now making good ground towards recovering the previous underperformance. The team’s philosophy is very much valuation led, and they aim to identify durable companies with strong pricing power and very high barriers to entry. The portfolio is highly concentrated, and the team aim to remain invested for the long term. One of the overarching multi-decade themes that the managers recognise as being an important influence on future returns is that energy and resources need to be used more efficiently, and so most of the companies in the portfolio benefit from this theme in one way or another. Using the advantages of the closed-ended structure, the managers invest in private as well as public markets. Over the past few months, it is the private investments that have been contributing strongly to returns. As it stands now, the trust’s two largest investments (together representing nearly 30% of NAV) are expected to complete transactions which will see nearly 25% of NAV converted into cash. Elsewhere the public equities portfolio continues to evolve, reflecting the low turnover approach. The team has cut the Airbus holding in half, and recycled capital into a new position in Charter Communications, a business they believe is a classic Menhaden stock with high barriers to entry and a dominant market position at an attractive price. Having lagged whilst the portfolio was being repositioned, the trust has slowly been catching up with world equity markets and the average global investment trust. It is worth noting that this is despite around half of the overseas currency exposure being hedged back into sterling. More recently, over September Menhaden’s NAV increased by 6.8% driven by the value increase of ADO Group, the trust’s second largest holding, whilst the MSCI was +0.9%. The shares trade on a discount of 20%.
There was palpable shift in sentiment over the third quarter with the cautionary undertone perhaps best reflected by gold’s resurgence. Ongoing trade jockeying between the US and China did not help the mood and neither did the Argentine debt default in August. At the real economy level, manufacturing output has been trending lower across some of the major global economies.
Companies: AEMC BIOG SIGT IBT JEFI MHN MERI MTE PSHD RSE SIR FJV LTI MVI SEQI SOND SLI EGL SUPP VNH CSH VSL BRLA UTL ADAM SOHO GPM TPOU LEAF JRS JLEN SEC IGC MPO LIV INTU THRL
At Hardman and Co, we try to answer the questions of why to invest in a company and what the risks are in doing so. For many investors, simply having a deep discount to NAV is a good enough answer to the first question. However, investors need to appreciate the risks and, in particular, the reasons why the shares are at a discount. Having understood those risks, investors need to be convinced that there is a catalyst for change on the part of the manager and how long (if at all) it will take for market sentiment to reflect this in a lower discount. In this report, we examine the companies with the largest discounts and review those very issues.
Companies: ADAM BC12 BGHL CGI HAN JZCP LMS MPO MVI MHN NSI NAS OCI PSHD RSE SIHL TFG TPOU UTL VIN ELTA ELX
In our February article 'Sweet Treats', we launched our list of discount opportunities - trusts we felt had the potential to see their discounts close significantly and, in turn, supercharge investors' returns. Our list has had a good beginning to its life, with the majority seeing their discounts close slightly in the almost three months since, aided by a good period for the markets. The investment trust universe has seen its average price rise by 3.2% since 13 February, as the below graph shows. We can trace the rally in the market to the meeting of the Federal Reserve’s interest rate setting body, the FOMC, on the 20 March. Shortly after that meeting, global equity markets began their rise, as investors lowered their expectations for future interest rates.
Companies: ASCI HOT ASCI HOT RMMC OCI MHN TFG BEE
ESG stands for Environmental, Social and Governance. It is a broad term, covering the analysis of investments by metrics other than traditional financial ones. It has also been the stand out trend in the investing world over the last five years. ESG analysis represents a different way of at looking at companies and reflects the growing awareness that there are consequences of being a shareholder or owner of a business (other than receiving dividends), as well as a broader understanding that purely financial metrics only catch part of what a financial analyst should be looking at. In this article, we review the rise of ESG, the impact on funds and investment trusts, and the various ways ESG has evolved in the fund world, before taking a look at which investment trust managers incorporate ESG analysis in their management process.
Companies: SDRC HGG STS MHN MNP
One of the attractions of investment trusts is the potential to pick up discounted bargains, which can supercharge NAV returns if correctly anticipated. As we have remarked before, closed-ended funds have historically delivered superior NAV returns. But buying shares on a substantial discount can significantly enhance those NAV returns should the discount narrow on a sustained basis. The reasons for investment companies long run NAV outperformance of equivalent open-ended funds, lies with their structural advantages, as we discussed in detail last year. Firstly, they have the ability to make the best use of less liquid assets and managers can manage those assets without having to worry about inflows and outflows. Secondly, they can employ gearing, which should be accretive to returns over the long run even if timing isn’t attempted, assuming equity markets continue to rise over the course of each cycle. While we tend to focus on the trusts with long-term potential, here we are considering those trusts currently sitting on discounts that have caught our eye. These trusts are trading on unusually wide discounts (at least 10% in absolute terms), but most importantly, have the potential to produce attractive NAV returns (in relative or absolute terms) as well.
Companies: BEE AAS RMMC MHN OCI TFG
Menhaden has evolved over its relatively short life. It is possible that many investors are under the misconception that it is a “green” fund, aiming to save the world rather than deliver good investment returns. Having met with the management team, we believe the philosophy can be better described as using a “value” focus to identify durable companies, with strong pricing power and very high barriers to entry, aiming to remain invested for the very long term. In taking a long-term view, the managers feel they need to consider a wide range of long-term factors and make various macro assumptions about the future. One of these assumptions is that environmental considerations - and more specifically resource efficiency - will become increasingly relevant for businesses of all types. Those that provide their products or services in the most resource efficient way will be more successful - both in terms of having lower costs / taxes, and their products will appeal more to an increasingly aware consumer. Using this philosophy, Menhaden has a resulting portfolio which is highly concentrated, currently with only 19 positions. From a top down perspective, the team try to balance the portfolio across three “buckets” (public equities, private investments and “yield”), each expected to be around 30% of the portfolio over the medium to long term depending on the opportunities the team find. Otherwise, there are no restrictions to the shape of the portfolio; the team tend to look for opportunities within four broad sectors- being renewable energy, sustainable transportation, resource & energy efficiency and water & waste. We discuss the rationale for various holdings in the portfolio section. However, the current largest holding (representing c 21% of NAV) is X-Elio, a private investment in a Spanish solar PV developer. It is currently held at a valuation 50% above the price that Menhaden bought the stake. The team at Menhaden were tight lipped on the potential for this investment, but we note that there has been some press coverage in Spain (link) on what El Pais speculates might be one of the (Spanish) deals of the year. According to the newspaper, KKR put its 75% stake up for sale in October 2018. The trust, launched in 2015, had a difficult start in life which explains the current very wide discount. However, since the portfolio was repositioned (Q1 2017), performance has started to improve. Over the past year, Menhaden has outperformed the average of the global investment trust and open-ended peers, as well as the MSCI ACWI index.
Menhaden Capital - Leverage limits
Menhaden Capital is a value-focused investment trust that seeks to generate long-term capital growth and income by investing in businesses that deliver, or are well placed to benefit from, the efficient use of energy and resources. The trust, launched in 2015, had a difficult start in life – coming to market as the oil price slumped, in some minds undermining the case for renewable energy as a cost-effective alternative. In addition, the trust suffered from two particular stock specific disappointments and an underperforming private equity fund. The team has subsequently moved aggressively to turn the trust’s fortunes around. The distinction between this trust – with its focus on ‘efficient energy’ – and a full-on ‘green’ mandate – is made clear by the fact that two of the largest holdings in the portfolio are Airbus and Safran. Both of these holdings form part of the trust’s focus on efficient use of energy: Airbus aeroplanes are among the most fuelefficient airliners in the world and the latest Safran engines are 35% more efficient than anything else on the market. The portfolio was re-positioned in 2016, offloading a large stake in one of two private equity funds, which had been a major drag on performance after suffering write-downs. The team reallocated the overall exposure more evenly between public equities, private equity and yield investments, while taking more of the management responsibility for these in-house. The portfolio is under the stewardship of Ben Goldsmith (CEO) and Luciano Suana (portfolio manager). Graham Thomas, CEO of Stage Capital and previously chairman of the executive committee at RIT Capital Partners, chairs the trust’s investment committee. The team has recently been bolstered by two new hires who support the senior team while the four board members (as we discuss in the management section) have extensive experience in the energy and resources sector as well as in investment management more broadly. Performance has improved and the trust has seen its discount narrow to c.24% after reaching lows of c.34% in June last year.
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FY20A results largely reflect a period prior to the Covid-19 lockdown, yet show Duke entering a more challenging FY21E with momentum. Yesterday's trading update demonstrated another notable rise in quarterly cash receipts for Q2/21, as royalty partner trading continues to improve. As some partners' forbearance measures will expire this month, Q3/21 receipts should continue this upwardly momentum. This opens the door to a return to cash dividends at some future point. Today, Duke also confirms it is now seeking new royalty partners, alongside follow-ons.
Companies: Duke Royalty
Litigation Capital Management has announced FY20 results with gross profit up 7% to A$21.7m and PBT of A$9.2m, slightly behind expectations albeit the Group had already flagged that delays to 3 cases during the year would result in resolutions in FY21, thereby impacting FY20 results. That said, excellent strategic progress through the year and good news flow as well as increasing scale suggests more value to come. Reiterate buy
Companies: Litigation Capital Management Ltd.
With the sale of the Singaporean operations for £1.6bn, the new CEO, Amanda Blanc, shows her intention to focus rapidly on its preferred markets (the UK, Ireland and Canada). The next candidate for sale is the French unit. This transaction is more complicated than the previous one, with the necessity to obtain the agreement of Afer, its key partner in France. With potential proceeds of £2.9bn, Aviva could reduce its debts significantly and allocate more capital to the UK bulk annuity business.
Companies: Aviva Plc
The COVID-19 pandemic has had a significant impact globally in many areas. While primarily a health issue, it has had wide-ranging implications for stock markets, which have now rallied after the plunge in share prices in mid-March when the full severity of the emerging pandemic became more widely appreciated. Nonetheless, the FTSE 100 Index remains almost 20% off its late February 2020 figure.
Companies: AVO ARBB ARIX CLIG DNL GDR ICGT NSF PCA PIN PXC PHP RECI STX SCE TRX SHED VTA YEW
Frontier IP has announced it has invested £320k in a £720k convertible loan financing of Nandi Proteins. Nandi Proteins is developing functional proteins for food ingredients aimed at reducing levels of fat, additives and gluten in processed foods addressing important social, health and environmental concerns about processed food. Frontier IP holds a 20.1% equity stake in Nandi Proteins; the last disclosed value of the holding was back in July 2017 at approx. £2.9m. Connected in part to the announcement today, we have used the opportunity to refresh our cash flow forecasts to reflect the net £2.1m proceeds of the July 2020 fundraise, the planned deployment of proceeds into bridge financing and refreshed our Sum-of-the-Parts valuation analysis to reflect the excellent portfolio progress made in FY’20. We anticipate a 50% increase in the unrealised profit on the revaluation of investments in FY’20e to £5.82m (vs. £3.0m prior estimate; £3.85m in FY’19). Applying the peer group multiple of 1.6x on Yr1 Book value of late-stage assets and incorporating the £2.1m proceeds and dilution associated with the July placing, implies an intrinsic value of 82p/share, 27% above the current share.
Companies: Frontier IP Group Plc
Interim results demonstrate YoY growth and a resilient outcome that has exceeded management's expectations from the start of the Covid-19 pandemic. This is testament to the degree of recurring revenue generated across the business. FY21 trading looks to be more challenging, as notably lower new insurance sales post-lockdown will translate into lower premium income. A number of organic opportunities are being worked on to fill the shortfall. Rising UK redundancies and their impact on policyholder retentions creates great uncertainty, hence our forecasts remain withdrawn and recommendation remains Under Review.
Companies: Personal Group Holdings Plc
Sigma Capital (“Sigma”) has partnered with global alternatives manager EQT to deliver and manage a £1bn GDV private-rented sector (“PRS”) housing fund focused on Greater London. EQT will invest £300m equity, complemented by debt (including a Homes England facility), to build 3,000 homes in 5 years. Sigma will generate fee income as development manager, a recurring fee income stream from managing completed assets, as well as participation in returns via a minority co-investment (£16m) and a profit share. We estimate that the fee income alone is worth £45m to Sigma in the first five years: 50% of the current market cap. Crucially, this is a step up in AuM bringing a high quality long-term recurring earnings stream. We will reforecast following interim results (expected tomorrow) to provide full context.
Companies: Sigma Capital Group Plc
A number of REITs have the ability to thrive in current market conditions and thereafter. Not only do they hold assets that will remain in strong demand, but they have focus and transparency. The leases and underlying rents are structured in a manner to provide long visibility, growth and security. Hardman & Co defined an investment universe of REITs that we considered provided security and “safer harbours”. We introduced this universe with our report published in March 2019: “Secure income” REITs – Safe Harbour Available. Here, we take forward the investment case and story. We point to six REITs, in particular, where we believe the risk/reward is the most attractive.
Companies: AGY ARBB ARIX BUR CMH CLIG DNL HAYD NSF PCA PIN PXC PHP RE/ RECI SCE SHED VTA
It was a remarkable second quarter with global markets staging the sort of comeback few would have thought plausible, at the end of March. With some countries still battling the first wave of infection and others seemingly headed to a second, not to mention what happens when governments start to remove direct stimulus measures, uncertainty still abounds.
Companies: NCYF EGL NAIT NAIT THRG GCP IGC HHI JLEN PCT VNH ASLI IBT HRI CSH SIGT
Belvoir’s H1 results evidence both strategic progress and profits growth. Given the challenges presented by COVID-19, this bodes very well for the group’s long-term growth potential. H1 adj. EPS grew +16%, the acquisition of Lovelle contributed well and in July the group entered into a strategic alliance with The Nottingham Building Society. Cash flow remained strong and the progressive dividend policy has been reinstated, with a 3.4p interim declared plus an additional 2p, as partial compensation for the missed 2019 final. With the resilience of lettings and the current record activity levels in sales and new mortgages the Board is optimistic that full-year results will hit its pre-COVID expectations and we make no changes to our PBT/EPS forecasts. Our target price of 233p (48% upside) assumes a 10% discount to the small/mid cap market. Given the above average performance in H1 and continued evidence that the long-term growth strategy is yielding value we see good upside to this target over time.
Companies: Belvoir Group Plc
Artemis Alpha Trust (ATS LN) has undergone a radical transformation over the past two years following a comprehensive strategic review. In April 2018, the trust held around 90 stocks with approximately 25% of NAV held in unquoted positions. Following the implementation of the review, Kartik Kumar (who has been with Artemis since 2012) was appointed lead manager alongside John Dodd remaining in place with an overseeing role. Kartik has since significantly reduced the number of stocks to a much more concentrated high conviction portfolio of just 36 stocks, and has significantly reduced the unquoted exposure to only 7%. This shift in focus has at the same time improved portfolio liquidity by moving up the market capitalisation scale.
Companies: Artemis Alpha Trust
There have been few structural shifts in the property sector as profound as the one currently taking place in retail. Consumer spending patterns have drastically changed over the past five years, with online sales now accounting for 19.7% of all retail spend in the UK (August 2019, source: ONS), compared to 11.5% in August 2014. When you look at fashion retailing specifically, online sales accounted for 26.8% of consumer spend on clothing in 2018 (source: Mintel).
Companies: CAPC CAL HMSO INTU NRR SHB
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
BB Healthcare Trust (BBH) is a differentiated trust within the AIC’s specialist Biotechnology & Healthcare sector. The managers invest in companies providing new approaches to what they view as fundamentally broken healthcare systems around the world. As we discuss in the Portfolio section, the managers employ a highly active approach to stock-picking on a global basis. It’s a concentrated portfolio, holding a maximum of 35 stocks which are at times augmented by gearing (to a maximum of 20%). The managers are entirely benchmark-agnostic, therefore the current portfolio has high exposure to the US (94.4%) and no specific bias (in absolute terms) in terms of market capitalisation. Returns since the December 2016 IPO have been strong, and are ahead of the trust’s twin objectives set at the time of launch. BBH has performed significantly ahead of the benchmark, delivering strong absolute returns and outperforming both its UK-listed healthcare peers over three years. Discount volatility since launch has been muted, thanks to an annual redemption facility which allows investors to exit close to NAV at each year end (30 November). However, as we show in the Discount section, over the short term the discount can widen. BBH seeks to achieve high total returns over the long term, whilst also paying a dividend to shareholders. The portfolio’s organic yield’s relatively low, but BBH has so far achieved a consistent dividend through paying it from capital at a rate of 3.5% of the year-end NAV. At the current price this equates to 4.1%. BBH is the only diversified healthcare trust with such a dividend policy, and its yield is thus materially higher than peers’. The board has said it’s committed to this high yield for the long term.
Companies: BB Healthcare Trust
As anticipated, Record has confirmed a material uplift in AUME following the rebound in financial markets from April. We upgrade FY21E forecast EPS by +18%, with higher staff costs offsetting some of the benefit. We expect AUME growth to be more modest from herein. While no performance fees have been recognised over Q1/21 and will be harder to achieve due to Covid-19, any future recognition would have a materially positive impact on earnings. Covid has temporarily paused new client wins, but we expect further additions to come as conditions improve.
Companies: Record Plc