Experienced. Professional. Trusted. Threadneedle Investments. UK Equity Income Fund.

Transcription

1 Rayner Spencer Mills Research & Financial Consulting Experienced. Professional. Trusted. Threadneedle Investments UK Equity Income Fund January

2 Contents About the Authors...3 The UK Equity Income Sector...4 Threadneedle Investments...4 Threadneedle UK Equity Income Fund...5 Fund Managers & Team...5 Fund Objectives & Targets...5 Investment Process & Strategy...5 Portfolio Construction...5 Investment Process & Strategy...6 Macroeconomic and Thematic Research...6 Stock Selection...6 Portfolio Construction...6 Risk Management...7 Performance & Statistics...8 Current Positioning/Strategy...10 Summary & Evaluation...11 page 2

3 About the Authors Rayner Spencer Mills Research & Financial Consulting For many years we have researched and analysed mutual funds culminating in the launch of our Rated Fund Service in Given the continuing need for independent research and commentary on funds being recommended by UK advisers we have developed the Fund Profile concept, providing more in-depth analysis on specific funds which can then be used by advisers, research analysts and Para planners when constructing recommendations for clients or generally to support fund a firms research and selection process. Specific commentary on the management team, fund objectives and process can be found on our fund factsheets available through our online services and are free to download. Our team of researchers is led by our two Investment Directors, Ken Rayner and Graham O Neill who between them have over 40 years experience in researching funds. Our services focus on providing advisers with outsourced investment solutions through a robust and structured process to ensure adherence to current legislation; helping them in the delivery of a first class services to UK investors. Experienced, professional and trusted; Rayner Spencer Mills is an independent company established in 2004 to deliver quality, independent research and consulting services. Our recommendations, whether to advisers or providers are made with total impartiality and without any conflict of interest. Ken Rayner BA (Hons) Economics, ACII, IMC After graduating from Leeds University with a Degree in Economics and Economic History, Ken joined Sun Life which provided an excellent grounding in the life, pension and investment industry. He joined Bradford & Bingley in 1990, where he held a number of product and marketing roles and latterly had responsibility for all financial services product development and pricing. In addition he was Investment Fund Manager for Bradford & Bingley s PEP and ISA Discretionary Management business where he controlled in excess of 700m of clients funds. In 2004 he was a founding director of Rayner Spencer Mills now a leading investment research consultancy supporting over 5,000 IFAs. Graham O Neill BA (Hons) Economic Analysis History & Policy Graham graduated from the University of Kent with a Degree in Economic Analysis History and Policy and then joined Royal Insurance as an Investment Trainee. He later joined GRE as a UK based fund manager for their newly launched Irish funds. He then moved to Abbey Life Ireland as CIO, where he was instrumental in restructuring their investment operations taking personal responsibility for managing their Managed and large Equity funds. He established his own investment research consultancy in 1993 and now works with both UK and Irish based Distributors. Graham is well known in the investment world and is very highly regarded by fund managers across the industry. Graham runs his own consultancy business in Ireland and is a Director of Rayner Spencer Mills Research Limited which was formed in August 2010 to relaunch our Rated Fund Service. The data and information in this document does not constitute advice or recommendation and is not a substitute for independent financial advice. The data and information in this document has been prepared with reasonable skill and care, but Rayner Spencer Mills do not warrant that the data collected by us, or supplied by any third party is wholly accurate or complete and we will not be liable for any actions taken on the basis of the content or for any errors in the content supplied. Our two Investment Directors are also supported by a focussed team of research specialists and analysts who have many years experience between them. page 3

4 The UK Equity Income Sector Threadneedle Investments The IMA UK Equity Income sector remains an important investment sector for financial advisers and UK-based investors looking to generate a reasonable level of income where the volatility associated with equity investment is an acceptable risk. The UK remains relatively dependent on a small number of high yielding stocks with companies such as Shell, Vodafone, HSBC, AstraZeneca and GlaxoSmithKline generating a reasonable proportion of the overall income from the UK stock market. What is common to these stocks, and an increasingly large proportion of the UK market as a whole, is their global presence and the capability to generate significant revenues from outside the UK. The UK is currently going through a period of reasonable economic recovery, which has led to a general increase in yields from fixed income securities, which are the primary competitor to income-bearing UK equities when investors are looking to generate income from their portfolios. With fixed income yields likely to increase further from this point it will become increasingly important for UK equity income funds to generate a sustainable level of income and to demonstrate an ability to grow that income over the medium-term, as funds with above average yields that are unable to generate dividend growth are unlikely to attract the same level of investor interest as they have done over the recent past. Founded in 1994, Threadneedle Investments is the international asset management arm of Ameriprise Financial, a leading US diversified financial services company and one of the 40 largest asset management firms globally, with a presence in 16 countries. Threadneedle Investments currently manages just under 85 billion (source: Threadneedle Investments, end September 2013) of assets across various asset classes on behalf of individuals, pension funds and corporations and employs over 150 investment professionals across developed and emerging market equities, fixed income, commodities and UK property. page 4

5 Threadneedle UK Equity Income Fund Managers Leigh Harrison (February 2006) Richard Colwell (September 2010) Structure OEIC IMA Sector UK Equity Income Launched 30/09/1995 Fund Size 2.48bn (as at 31/12/13) Fund Managers & Team Leigh Harrison Co-fund manager Leigh Harrison joined Threadneedle in 2006 and is currently Head of Equities with overall responsibility for the management and performance of Threadneedle s equity products. In addition, he is also co-fund manager on two UK equity income funds. Before joining Threadneedle he was a director and senior portfolio manager for UK equities at Credit Suisse Asset Management with principle responsibility for their UK equity income products. Prior to this he was an associate director at Rowan Dartington and a director at Hill Samuel Investment Management. Richard Colwell Co-fund manager Richard Colwell joined Threadneedle in 2010 and is a fund manager within the UK equity income team. He is lead fund manager on two UK equity income-orientated funds and is co-manager on three others, including the UK Equity Income fund. Prior to joining Threadneedle, Richard ran high alpha UK equity portfolios at Aviva Investors. He has also held fund management roles at Credit Suisse and Schroders and worked at the Bank of England. Richard has a degree in Banking, Insurance & Finance and is a member of UKSIP and the Chartered Institute of Bankers. UK Equity Income team Leigh Harrison and Richard Colwell are members of the UK Equity Income team, which itself is part of the wider UK Equity team (see below). The other key member of the UK Equity Income team is Jonathan Barber: Jonathan Barber Jonathan Barber joined Threadneedle in He manages the Threadneedle UK Monthly Income Fund and the Allied Dunbar UK Capital Growth Fund and is also Deputy Manager for the Threadneedle UK Equity Alpha Income Fund. Jonathan started his career with Scottish Equitable as an investment analyst before joining Eagle Star Investment Managers as a fund manager. He holds a BSc (Hons), Business Administration from Bath University and is also an associate member of the UK Society of Investment Professionals (UKSIP). UK Equity Team Threadneedle s UK Equity team consists of eleven people, nine of whom are fund managers who also have dedicated research responsibilities, each looking after specific stocks and sectors. The team is led by Simon Brazier: Simon Brazier Simon Brazier is Threadneedle s Head of UK Equities with responsibility for all UK equity products. He began his career at Schroders in 1998 and, since 2002, he was a member of the Schroder UK Specialist Equity team with responsibility for running a variety of institutional mandates as well as the Schroder UK Equity Fund. Simon holds a BA (Hons) in Economics with French from Durham University and also studied at the University of Aix-Marseille. Fund Objectives & Targets The fund s aim is to provide income with the potential to grow the amount invested as well by investment primarily in UK equities. The fund s reference benchmark index is the FTSE All Share Index and the outperformance target is 2% to 3% (net of fees) per annum whilst producing a yield in excess of 110% of the index yield. The manager also looks to perform in the top quartile of the IMA UK Equity Income sector over a rolling three-year period. Investment Philosophy The majority of Threadneedle s funds are managed using the same overall investment philosophy that revolves around three key factors. The first relates to investment style. Threadneedle is an active, flexible, conviction-driven fund management company and any investment biases within a portfolio are a residual output of the stock, sector and top-down thematic inputs. Secondly, the investment focus is on identifying key changes that are occurring either at market level or at a macroeconomic level and then identifying companies that are most likely to benefit from these changes through an analysis of companies and their management teams. Finally, the emphasis is very much on teamwork and using the collective resources within both the regional teams and the global teams. A consistent approach is applied so that any top-down strategic and thematic views can be reflected across different portfolios. page 5

6 Investment Process & Strategy Threadneedle s investment process across the majority of their funds combines top-down macroeconomic and thematic research with bottom-up stock selection and this is applied to the UK Equity Income fund. Macroeconomic and Thematic Research Rather than driving the overall direction of the portfolio, the top-down research aim is to identify ideas, themes and trends that will then feed through into the individual stock research and selection. These top-down elements come from a variety of sources, including internal asset allocation meetings, internal Threadneedle research from the UK team, other regional teams and global team, plus external broker research and individual company meetings. All ideas are discussed and debated within the UK equity team so that the key outputs can be identified and represented within all relevant portfolios. As Head of Equities, Leigh Harrison has a lot of interaction with other Threadneedle teams and is actively involved in the regular asset allocation and thematic meetings, often acting as chairperson. Stock Selection As mentioned earlier, each fund manager/analyst within the UK equity team is responsible for research into specific stocks and sectors, although company meetings are available to attend for the whole team with the sector analyst acting as the lead analyst. Comprehensive fundamental analysis is produced on a stock by the relevant analyst, looking at factors such as industry dynamics, business model, future profit potential, cash flow generation, balance sheet strength and management s allocation of capital, which is then debated by the whole team in conjunction with an assessment on valuation. Estimates of market value are compared with what is currently being implied by the market and downside risks are quantified together with at least a 12-month price target. Final decisions as to whether or not a stock is included within the portfolio and the size of a particular position, if applicable, is the responsibility of the fund manager(s), in this case Leigh Harrison and Richard Colwell with major changes only occurring after discussion between both managers. For the UK equity income funds the focus is on identifying companies with sustainable dividends that have the ability to grow over the medium to longer-term, matching the overall focus on consistency of returns. The fund can invest in companies that do not currently produce a dividend but they would be expected to do so in the near future. A key part of the process is trying to identify hidden gems, stocks or businesses that have either been overlooked or are unloved but have strong medium to long-term potential, using shorter-term volatility and market movements to build up positions. The managers try to avoid overemphasising large macroeconomic or thematic positions, so there is no reliance on strong market movements or strong economic growth to drive a stock s return. Valuation is a very important part of the process and the analysts take a pragmatic approach with different parts of the market looking more/less attractive during different times of the economic cycle. The analysts approach valuation and performance potential from an overall market perspective rather than within sectors. Sales or reductions for a particular stock can occur for one or more of a number of reasons. The stock may have reached the limit of its potential or there may be another stock idea that has been identified as having greater potential. A company may not be delivering as expected and may have underperformed or the original reasons for investing in the stock may no longer be applicable. There are no strict price targets set for sales but these will often be a case for re-assessment of a stock s future growth potential. Companies are often held for the medium to long-term with the managers prepared to hold stocks through the cycle, so turnover is typically low at around 20% per annum. Portfolio Construction Despite the fund being a core equity income holding there is a large degree of flexibility within the investment process. Tracking error relative to the FTSE All Share index is expected to be less than 8%, which allows for a reasonable degree of flexibility at stock and sector level. Individual stock weightings are permitted to be plus or minus 5% relative to the index and sector positions are permitted to be plus or minus 11% relative to the index, although this often refers to minor sectors rather than the broad sectors (e.g. banks rather than financials). This allows the managers to take significant stock and sector positions relative to the index, including avoiding investing in some of the largest index stocks if this is deemed appropriate. There are no restrictions in terms of market capitalisation exposure, although the fund will typically be overweight medium-sized companies relative to the index whilst maintaining a bias towards companies within the FTSE 100 index within an overall portfolio that will typically contain between 45 and 60 holdings. The managers have the ability to invest up to 20% of the portfolio outside the UK but have not done so to date and there are no immediate plans to do so. Derivatives are only allowed for efficient portfolio management and covered call options are not used to enhance the fund s yield. page 6

7 Risk Management Threadneedle Investments believe that risk management is a critical part of the investment process. They use a proprietary risk system which combines internally developed tools and external risk systems to closely monitor every portfolio covering both investment and non-investment risk. Reports are produced every day to ensure potential risks are identified, weightings are not stretched and the portfolio is sufficiently diversified. Information flows from the risk team to the investment teams to assist them in their decision making process. The in-house risk management team is independent of the portfolio managers and consists of 15 risk and quantitative analysts who are organised into specialist risk control functions and meet weekly. The risk team meet with the investment management teams on a quarterly basis and discuss both market and portfolio issues, if there are more significant risk issues, they will meet monthly. Should any conflict arise between fund management and the risk team, then the issue is referred to senior management for a definitive decision. page 7

8 Performance and Statistics (All figures are taken from Financial Express Analytics, to 31st December unless stated otherwise) Cumulative Performance Discrete Performance Total Return Bid-Bid discrete calendar performance Threadneedle UK Equity Income Ret Inc GBP TR in GB Sector: IMA UK Equity Income TR in GB 2013 Qtl 2012 Qtl 2011 Qtl 2010 Qtl 2009 Qtl 2008 Qtl 2007 Qtl Index: FTSE All Share TR in GB Volatility and Drawdown Threadneedle UK Equity Income Ret Inc GBP TR in GB Sector: IMA UK Equity Income TR in GB 5 year Cumulative Ann. Volatility to Last Month End 5 year Cumulative Ann. Volatility to Last Month End 5 year Cumulative Ann. Volatility to Last Month End 5 year Cumulative Ann. Volatility to Last Month End 5 year Cumulative Ann. Volatility to Last Month End 5 year Cumulative Ann. Volatility to Last Month End Index: FTSE All Share TR in GB

9 As illustrated in both the graph and the table on page 8, since Leigh Harrison took over as the lead fund manager in February 2006 the fund has been very consistent on a discrete basis leading to very strong cumulative performance against both its benchmark index, FTSE All Share Index, and its IMA peer group. The performance numbers reflect the strength of the overall investment process with stock selection adding significant value. This consistently strong performance has been achieved without excessive volatility, which has remained at relatively low levels since the launch of the fund. Performance during 2009 The only discrete period when the fund underperformed the FTSE All Share Index and sector average since Leigh Harrison became lead fund manager was At the beginning of the year Threadneedle maintained the view that they had held later in 2008 that economic recovery would not be as strong as the consensus suggested and that, although they expected the UK economy to bottom in 2009, recovery would be weak and growth would be lacklustre. This meant the fund continued to be underweight both financials and cyclical businesses with a preference for stable growth businesses and strong franchises despite acknowledging that the market valuation was beginning to look attractive. As a result, the fund did not fully benefit from the strong market rebound that occurred from March 2009 when more cyclical businesses and companies that still had debt issues led the way. page 9

10 Current Positioning / Strategy Within the current economic climate the managers are looking to maintain a relatively balanced portfolio rather than taking any significant economic views on issues such as growth in the emerging world and US tapering of its quantitative easing programme. The managers are continuing to focus on companies that are cash generative and have the ability to generate organic growth and deliver dividend growth to shareholders over the medium term. The analysts are particularly looking for businesses where the ability to grow is not reflected in the current valuation. From an income perspective, the fund has a slight bias towards stocks yielding 90% or more of the FTSE All Share index with greater exposure to stocks yielding more than 110% of the index than those yielding between 90% and 110%. There is a focus on stocks that have the ability to grow their dividend ahead of inflation with over half the portfolio invested in companies expected to growth their dividend by at least 5% per annum, including around a quarter of the fund in companies expected to grow their dividend greater than 10%. The largest exposure in the fund is to companies that the team believes can continue to compound their free cash flow, deliver consistent higher returns on capital employed and use their free cash flow to self-fund future growth. There is healthy exposure to the Industrials sector, which has some of the structural growth stocks such as Rolls Royce and BAE Systems, and continued exposure to the Consumer Staples and Consumer Discretionary sectors through stocks such as Unilever. There is selective exposure to more economically sensitive cyclical stocks where companies have structural drivers of growth and the managers are prepared to ride out any share price volatility but exposure has been reducing through 2013 in favour of more stable growth stocks, e.g. Imperial Tobacco and National Grid. The managers have not bought into the Housebuilding sector, as they are concerned about the durability of the recent economic growth pick-up, which has been driven by a more buoyant housing market through schemes such as Help to Buy, which will now cease in January 2014 for residential mortgages but continue for commercial lending. The fund has had no exposure to the UK banking sector for some time and this continues to be the case, although this is being constantly re-evaluated and discussed. Without quantitative easing the team believe there would have been greater impairments in the banking sector and they remain concerned about the extent of leverage in the UK banking system, quality of assets and potential regulatory changes. The Mining sector is another area where the fund currently has no exposure, as the UK team believes there is a need to reduce spending further despite company managers talking about reducing capital expenditure, particularly as they believe the outlook for China and other Emerging Markets is very uncertain. In total, the fund has no exposure to more than half of the twenty largest companies in the UK stock market. page 10

11 Summary & Evaluation The UK Equity Income sector continues to be popular with financial advisers and UK investors and the qualities of a reasonably attractive starting income level and the possibility of growing that income over time are particularly relevant during the current economic and market environment. Threadneedle has a strong, experienced UK equity team and within that they have built a very strong equity income franchise, led by Leigh Harrison. Harrison has been involved in the management of this fund since 2006 and has been a key part in building the fund s excellent performance track record against both the UK Equity Income peer group and the UK stock market. The addition of Richard Colwell as co-fund manager in 2010 has proven to be an excellent move, as his stock selection skills complement Harrison s macroeconomic and thematic skills. The investment process follows Threadneedle s central investment philosophies of being flexible, focusing on economic and market changes and looking to select companies that will benefit from those changes whilst emphasising teamwork and making full use of the available research and resources. As a house Threadneedle has demonstrated the ability to work in a collegiate fashion, ensuring managers benefit from the strong in-depth investment resource at the company and the UK team has delivered consistent outperformance across a broad range of funds for a number of years. We believe the Threadneedle UK Equity Income fund is an excellent choice for investors looking for a core UK equity income fund and have confidence the fund maintains the potential to continue delivering strong, consistent outperformance going forward. Stewart Smith Investment Research Manager Rayner Spencer Mills January 2014 page 11

12 Contents Experienced. Professional. Trusted. Rayner Spencer Mills Research & Financial Consulting Rayner Spencer Mills Yorkshire House 41 Keighley Road Silsden West Yorkshire BD20 0EH Tel: Rayner Spencer Mills Financial Consulting Ltd is a limited company registered in England and Wales under Company Registration Number Rayner Spencer Mills Research Limited is a limited company registered in England and Wales under Company Registration Number Both companies have their Registered Office at Yorkshire House, 41 Keighley Road, Silsden, West Yorkshire, BD20 0EH. Rayner Spencer Mills is a trading style for both companies.