Investment update: Premier UK Equity Income Funds

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  • 15 mins 58 secs
Chris White, Head of UK Equities and Manager of the Premier Monthly Income Fund and Premier Income Fund, Premier Asset Management, discusses the core objectives of the funds, income and growth performance, views after the UK election, where he finds value and what the key considerations and threats are that may affect the funds moving forward.

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Premier Asset Management

Premier Asset Management

Tel: 0333 456 9033

Email: [email protected]

Web: www.premierfunds.co.uk

MIKE HAMMOND: Hello and welcome to this fund update on the Premier UK Equity Income Funds. My name’s Mike Hammond, Sales Director at Premier Asset Management, and I’m joined today by the fund manager Chris White. Hello Chris.

CHRIS WHITE: Hello.

MIKE HAMMOND: So Chris, you’re the Fund Manager of the Premier UK Equity Income fund range. It’s probably worth starting with looking at what the core objectives of those funds are.

CHRIS WHITE: So we have two funds in the Premier Equity Income range. We have the Premier Income Fund and the Premier Monthly Income Fund. The funds should be considered to be the same in terms of the underlying investments. The difference between the two funds is the way they distribute the income. The Premier Income Fund distributes income twice a year and the Monthly Income Fund, as the name suggests, distributes income on a monthly basis. So it’s very effective for income planning.

Both funds are what we call value and income funds. What that means is we’re very focused on the valuation that we pay for companies when we purchase them and we’re very focused on the amount of dividend yield and dividend growth that can be obtained from the underlying investments. And secondly the funds are multi-cap funds, and that means that they invest in large cap companies, mid cap companies and small cap companies, depending on where we see the value and the income in the market.

MIKE HAMMOND: So Chris, you took over the management of these funds at the backend of 2010, so what’s the total return of the portfolios looked like since you took over the management?

CHRIS WHITE: Well I’m pleased to say that the income and income growth has not come at the expense of total return. When you look at the funds on an absolute total return basis, we’ve made a positive absolute total return in every year for the last six years. So I think that’s a reasonably good starting point when you’re looking at absolute total return. On a relative basis, the funds have performed well over the last six years against the All Share Index and the funds have increased by 28.9% and 30.9% respectively against the All Share Index. So I think it does prove the value of active management.

MIKE HAMMOND: OK. So if we just look back at 2016, which as we know was a year of particular marked uncertainty, with the EU referendum, whilst you still generated a positive return of just over 8%, how did this and other events impact performance both in absolute and relative to the market?

CHRIS WHITE: So there were two big events last year which had a big impact on markets. In June last year we had the EU referendum and the vote to leave the EU was clearly, took the markets by surprise. If you were a small-cap fund manager, a mid-cap fund manager or a multi-cap fund manager like ourselves you will have struggled to keep up with the index last year and underperformed the market, so we were no exception. But we still managed to get an overall return of 8½% on a total return basis. So I think we can be reasonably satisfied with that despite our underperformance against the All Share Index.

That was clearly a big event, but the performance was really all about what happened to the currency. Because before we had the referendum, the pound was trading at around about 1.55 against the dollar; after the referendum the pound was trading at 1.20 against the dollar, just over. So it was really all about the currency effect and how the currency effect behaved in the stock market favouring the large cap multinationals over the small cap and mid cap, more domestic companies.

So the second event which was much better for our fund was actually the election of Donald Trump in the United States to the presidency in November. He was elected on a reflationary mandate. And he went to the American people and said we’re going to reflate the economy by three things: we’re going to spend money on capital expenditure, we’re going to deregulate and we’re going to cut taxes. And those policies are pro-growth and pro-inflation, and that again had a significant effect on markets. The markets moved away from bonds and bond-proxy type investments and more towards financials and industrial cyclicals, and that was a big benefit to our fund because our fund is overweight in the more cyclical areas of the market.

MIKE HAMMOND: So, looking at the performance of the portfolios since you took over the management of the funds, you’ve outperformed the index by 25% over that period of time. So how has this been achieved and is it sustainable?

CHRIS WHITE: Well I think it does prove the value of active fund management. We are active fund managers, we believe in active fund management, and we believe that by a combination of judicious stock selection and sector allocation you can outperform the markets over the long term. So I think our 6½ year track record goes someway to proving that. And do we think we can carry on outperforming the market? Well, I think clearly there’s been a big inflow into passive funds over the last few years. They now represent a much more significant part of the market than they used to. But if you add up the number of passive funds and the number of sort of quasi-trackers that there are in the market, that’s a lot of investors who are buying stocks because they have to buy them rather than looking at the fundamentals, and that creates a lot of opportunities for active fund managers. So I feel very confident about the future of active fund management and our ability to outperform over the next few years.

MIKE HAMMOND: Just looking back to the income, you mentioned that you had increased the dividend quite significantly by about 11%. So what is it that’s really driven that increase?

CHRIS WHITE: There are two factors. Firstly, stock selection. Clearly by buying good companies that have strong cashflows and growing cashflows you’re selecting companies that have the ability to pay high and growing dividends. So buying the right sort of companies is obviously important and that really came through for us last year. But secondly there was question of FX. The pound’s fall against the dollar and other currencies post the referendum gave us a big tailwind when it came to dividends, because around 40% of the dividends in the UK market are paid in dollars, and clearly when those dollars are translated back into sterling they’re translated at a higher rate, and that was a big tailwind for dividends on the income funds.

MIKE HAMMOND: So given the level of income that you’re currently paying do you believe that that is sustainable and more importantly do you think you can grow it from here?

CHRIS WHITE: I’m confident that over the medium term that we have the ability to grow the dividend in the same way as we have done over the past six years, providing we have a reasonably stable economic backdrop; however, over the next 12 months I think it does depend a little bit on what happens to sterling and the exchange rate. Sterling is probably likely to remain volatile because we have firstly a hung parliament at the moment and secondly we have our Article 50 in our Brexit negotiations just beginning and that’s likely to lead to currency volatility.

It’s possible if the market starts to expect a hard Brexit we may see the currency fall to 1.20 against the dollar or even below that which would provide a tailwind for dividend growth over the next year or two. But at the same token if the market starts to expect perhaps a softer Brexit we could see sterling rally to maybe 1.40 against the dollar and that would be a headwind for dividend growth going forward. So the answer is it really depends. I think our underlying holdings we have a lot of confidence in in their ability to grow dividends, but the currency effect is something that’s out of our control.

MIKE HAMMOND: At the outset you mentioned that you were a multi-cap manager so where are you currently seeing the real value in the market now?

CHRIS WHITE: We’re finding it difficult to see value in the FTSE 100. We’re finding more value further down the market cap scale in the mid cap index or the small cap index. So that’s really been a focus for us really over the last few months. But also we’re not really finding income in the traditional sectors where equity income investors have found income historically. We believe that the consumer staples sector, the utilities sector and the pharmaceutical sector are all quite expensive relative to their long-term valuation. And there are also political risks surrounding particularly utilities and pharmaceuticals at the moment. So our fund is avoiding those areas and finding value in other areas around the market which where we see a greater potential for steady cashflows and steady dividends.

MIKE HAMMOND: And we’re one week after the general election result, have your views changed significantly since then?

CHRIS WHITE: Well it’s difficult to sugar coat the result of the General Election. It’s not ideal having a hung parliament as we go into Brexit negotiations. It doesn’t mean we have a particularly strong hand in terms of negotiation. So I think there are uncertainties in the market going forward. We’ve clearly got uncertainty over how a sort of potential coalition will play out in government. We’ve got uncertainty about Brexit and whether we’ll have a hard Brexit or a soft Brexit. And there’s uncertainty about the slowing consumer backdrop in the economy. So I think there are all those concerns. My central case is that the UK economy will sort of muddle through over the next 12 months and I have every confidence in our underlying holdings in our portfolio that they’ll be able to continue to generate good dividends for our investors.

MIKE HAMMOND: Chris, from a sector perspective, where are you really seeing the real value at present?

CHRIS WHITE: So I break down the market into three areas at the moment: you’ve got the expensive, the risky and the good value. The expensive areas of the market are areas like consumer staples and the bond proxies which have performed very well over the last five or six years but now trade at valuations well above their historic norms. The risky would include areas like mining which are very dependent on the outlook for Chinese metal demand. And it’s very difficult to predict with exactly how that’s going to take shape going forward. But there are still some very good value areas of the market where we are heavily focused at the moment and the fund is very skewed towards these areas. These areas would include areas such as financials which includes banks and life assurance for example; areas like industrials, which includes support services and defence stocks; areas like consumer discretionary and the oil sector where we hold the companies such as BP and Shell.

MIKE HAMMOND: So in terms of companies within those sectors then what is it that you really look for in terms of identifying a company that offers you the value that you’re looking for?

CHRIS WHITE: We like two types of companies. We like quality companies and we try to buy those at the right price at an attractive valuation. And we like improving companies. So we like companies that are improving their returns on capital and companies that will become quality companies we feel in due course. We’re value and income investors. We’re very focused on the valuation we pay for companies and the most important metric we look at is free cashflow yield, because at the end of the day it is free cash flow that pays the dividends. So we try and find companies that have got very long, very strong robust free cashflow and the ability to grow that free cashflow. Because if we find those companies we’ll be able to find companies that are paying decent dividends and have the ability to grow those dividends going forward.

But also we don’t just look at the upside potential when it comes to investing; we look at the downside risk also. It’s impossible in equity markets to eliminate your downside risk but you can help to mitigate it by looking at the fundamentals, by buying companies that have got good dividend yields, strong dividend cover and have robust balance sheets, and that will be a good starting point for not losing money when it comes to an investment.

MIKE HAMMOND: So, finally, Chris, what are the key considerations and threats going forward that affect or impact on the funds delivering their core objectives both in terms of income and capital growth?

CHRIS WHITE: I think we’ve touched on a few. As we move through this year, we have to see how the political backdrop develops in terms of the Government and how it deals with our Brexit negotiations. So there’s clearly going to be a lot of noise over the next few months and it’ll be interesting to see how the market deals with that. Secondly, we have inflation now which has ticked up to 3%, well ahead of wage growth, so people are getting a little bit poorer. I think the good news is that both the bank of England and ourselves would see that as a transitory level of inflation and by the end of this year will probably start to see inflation falling and it will probably fall further as we move into next year. So I’m a bit less worried about the inflation level at the moment.

But clearly there’s a lot of uncertainties in terms of the economic backdrop at the moment, so I think it’s really important to just focus on the companies that you own and the ability of those companies to generate profits and cashflow and dividends. And it’s, when you look at the individual names in our portfolios we’re very confident about the ability of those companies to continue to generate a little bit of profits growth, cashflow growth and dividend growth as we move forward over the next 12 months. So that gives us some degree of confidence.

MIKE HAMMOND: Chris, thank you very much for your time today. And I hope everybody has found this fund update useful, thank you.

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