Bill Jamieson: End of an era for UK income funds

Popular income trusts have turned in a 'lacklustre' performance, says Bill Jamieson. Picture: Daniel Leal-Olivas/AFP/Getty Images
Popular income trusts have turned in a 'lacklustre' performance, says Bill Jamieson. Picture: Daniel Leal-Olivas/AFP/Getty Images
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A striking feature of the fund management industry has been the dominance of income orientated funds and trusts.

Across the investment trust sector there are more than 20 from which to choose – 37 if you include the UK small companies sector.

The free lunch is over from blindly following small and mid-caps

Robin Geffen

And in recent years UK income trusts have done well, with an average share price rise of almost 70 per cent over five years. The bias towards smaller companies has certainly helped: between 2011 and mid-2016 the FTSE 250 Index has risen by a stonking 81.4 per cent – more than double the 31 per cent advance of the FTSE 100.

But this outstanding run may have ended. A combination of slowing growth, interest rate anxieties, Brexit uncertainties, the fall in sterling (helpful for large exporters but worrisome for UK-focused businesses with higher import costs) and the prospect of political turbulence across Europe have cast a deep shadow over the UK smaller companies sector.

This is already evident in the lacklustre performance of some of the most popular income trusts this year. While the FTSE 100 Index has gained 4.8 per cent over the past year, the average UK equity income performance shows a fall of 1.1 per cent, while trusts in the UK Smaller Companies sector have managed an average gain of just 0.9 per cent.

Among notably weak performers are Invesco Income Growth, down 1.6 per cent, Edinburgh Investment Trust down 2.1 per cent and the popular Standard Life Equity Income Trust, down by 5.4 per cent over 12 months. Now performance over a period as short as a year should not give undue concern.

More worrisome is that we may be witnessing a sea-change and that a prolonged period of rising values in the mid and small caps sector has come to an end. According to Robin Geffen, manager of the Neptune Income fund, small and mid-caps performed well during a period of low interest rates, low inflation, a stronger pound and higher consumer and business confidence.

However, higher interest rates and inflation are on the horizon, together with political, social and economic uncertainty. In Geffen’s opinion, these represent headwinds for small and mid-caps. Only genuinely active stock pickers, he told TrustNet last week, will prosper in today’s extraordinary investment environment. “We have a FTSE 100 that derives around 70 per cent of its earnings from overseas.

“As a fund manager who has been running a UK equity income fund through the last five years and before that, this has been quite an unpleasant headwind to negotiate. We have even seen [sterling] overvalued against the euro, but the game has changed.”

The Neptune Income fund has a bias towards large and mega caps and the fund’s large cap allocation has paid off more recently, enabling the fund to feature in the nine per cent that beat the index so far this year.

Geffen likes US banks and UK life insurers and increased exposure to mining and energy stocks after commodity prices stabilised.

“The free lunch is over from blindly following small and mid-caps and bond proxies. Large caps with overseas earnings streams have been completely mispriced because of the events of the last five years, but they are the place to be over the next five to ten years.”

Depressing reading

Last week’s report from the Pensions & Lifetime Savings Association (PLSA) made for depressing reading. It revealed that 87 per cent of pension funds say executive pay is too high. Pension funds also have serious concerns about the pay gap between executives and their workforce with 85 per cent of respondents highlighting it as a problem.

The report’s analysis of remuneration-related shareholder votes at company AGMs found that overall levels of dissent did not change dramatically in 2016, and that of the five FTSE 100 companies with the highest level of shareholder dissent – BP (61 per cent), Smith & Nephew (57 per cent), Shire (51 per cent), Babcock (48 per cent), and Anglo-American (48 per cent) – none was prepared to acknowledge they had their approach to remuneration wrong.

It’s hardly a blazing advertisement for shareholder activism. Perhaps a requirement that individual executive director remuneration is subject to shareholder approval before being enacted and that an approval hurdle of 60 per cent of votes cast is put in place might help bring some sanity back to those pay packages.

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