The manager of Henderson International Income Trust tells Kyle Caldwell why he is willing to play a game of patience.
The past three and a half years of Brexit uncertainty have seen a clear investment trend play out, which has turned into herd-like behaviour. Investors are reducing exposure to the UK, and redeploying proceeds into funds that invest with an unconstrained global remit.
Whether investors’ focus is on capital growth or income, that has been a smart move: global funds of both descriptions have comfortably outperformed their UK counterparts since the EU referendum vote. While some analysts argue that the UK is a screaming buy on valuation grounds, the naturally higher levels of diversification global funds offer should continue to serve investors well, particularly at a time when macroeconomic uncertainty is so prevalent.
Going global for less risk
But, as Money Observer has previously pointed out, including in our May 2019 cover story, care needs to be taken when assessing global funds, particularly those with an income remit. Some funds have a sizeable level of exposure to the UK in order to achieve a dividend yield of between 3% and 4%, and that in turn means UK investors may have more exposure to their home market than they perhaps realise.
Henderson International Income Trust (HINT), managed by Ben Lofthouse since its launch in April 2011, deliberately avoids the UK for this reason. “Following the financial crisis we asked investors where they felt a gap was in their portfolio, and it became apparent demand existed for the strategy we put together. There were a number of reasons for this, one being there’s a significant amount of income concentration in the UK market, and going global reduces that risk. The UK is a great market for income, and Janus Henderson has a strong footprint there, including Henderson High Income and City of London. But as a whole the UK is held significantly by UK investors.”
While HINT avoids the UK, it targets a yield similar to UK equity trusts, and on that front scores reasonably well, with a current yield of 3.5%. This, though, is a fair distance off the FTSE 100’s yield of 4.8% at the time of writing in late October.
A hint of things to come
However, investors who backed the trust at launch will have no complaints. “We do not want an enormous yield, because to achieve this we would be forced to buy companies whose dividends will not be sustainable,” says Lofthouse. “At launch HINT was yielding 4%, and those who have remained invested have seen the annual dividend grow over time, with the yield increasing to 5.4%.”
From a total return standpoint, investors since day one will also be very satisfied, with annualised share price and net asset value returns of more than 10% a year since launch. But relative to the trust’s benchmark (the MSCI World ex UK index), performance has lagged over various time periods. The five-year figures make particularly uncomfortable reading, showing that HINT has underperformed by 25.6% to the end of September – although, as the chart below shows, it is ahead of the AIC global equity income sector average return over the same period.
In fairness the index is not exactly a like-for-like comparator, as it features various non-yielding stocks. Moreover, these shares, led by the US technology titans, have been highly fashionable in recent years. In contrast, Lofthouse has a bias towards ‘value’ investing, a style that for the majority of the past decade has been firmly out of favour.
In addition, the index has a much meatier weighting to the US, of 66.7% versus 31.4% for HINT. Lofthouse adds: “There have been certain low-yielding companies that have been leading the index higher, but in comparison to the yield of the benchmark (2.3%), HINT has consistently outperformed.”
Going forward, Lofthouse expects stocks that fit the value description to have their day in the sun again; but rather than being seduced by cheap valuations on paper, he looks for situations whereby some form of positive catalyst could play out.
“We look for well-positioned companies that are market leaders and have secure dividends but are in unloved and underappreciated situations, which allows us to be paid to wait,” he says. He cites underappreciated corporate change as something he looks to take advantage of. “In response to a slowing global economy, a number of companies are positioning themselves to compete more effectively. Siemens, for instance, has split off some of its divisions, while companies in the pharmaceutical sector, Roche, Novartis and Sanofi, are addressing the issues they have.” But he adds that the market can be slow to appreciate these changes, and he seeks to take advantage of that lag.
“Europe has been an increased focus of late, as companies are trading on cheap valuations, and positive action is being taken by management to address the reasons they’re trading cheaply.” BNP Paribas and ING are two “bargains”, he says – though he concedes that, given investor scepticism over banks, “I don’t know if they will make as much money as I hope”.
Overall, Lofthouse favours developed markets, but in future he expects HINT to have a greater weighting to Asia Pacific, which currently stands at 25%. Another area of focus is tech, which accounts for 13% of the trust. He favours semiconductor businesses, an industry he expects to be a long-term winner of technological change, and added exposure to Lam Research and BE Semiconductor a year ago to take advantage of share price weakness.
But the biggest sector weighting of all, at around 20%, is to financials, which includes retail banks, investment banks, insurers and financials. The sector has had to deal with an avalanche of regulatory reform in the past decade, but those that have invested wisely have put themselves in a stronger position, notes Lofthouse.
Hint outpaces wider sector over five years
It’s a similar story for equity markets that have shaken off various macroeconomic headwinds since the financial crisis. Lofthouse points out that “there are more risks at the moment than normal”, but does not believe the curtain is closing on the most unloved bull market in history. He adds: “Rather than markets being late in the business cycle, my view is there have been lots of cycles within the cycle. Both oil and mining have endured recessions, so rather than there being a big event coming along like the financial crisis, I think there will continue to be lots of mini-events for markets, with Brexit being one of those.”
He further stresses that cycles usually end when valuations reach extreme levels, and on this front there are simply too many value opportunities in the market for this to be the case. “Investors are paying high prices for certainty in response to macroeconomic headwinds that are hard to analyse,” he says.
This trend cannot continue indefinitely, and when it ends HINT is positioned to capitalise. In the meantime, Lofthouse is willing to play a game of patience, and can afford to as long as the dividend cheques keep coming in, enabling HINT to continue growing its income payout. “The portfolio is significantly cheaper than the market and there’s a lot of potential upside, but at the moment it’s not obvious how the valuation gap closes between growth and value shares,” he says.
Ben Lofthouse in six
1 Best investment: Microsoft. I bought it when management was hated and they had bought Nokia’s mobile operations.
2 Worst investment: UK banks during the financial crisis.
3 In my spare time I like to: Be with family, which fills most of my spare time. But otherwise, sport.
4 The one thing I would like to see change in financial services is: More incentives for younger and lower earners to save.
5 My alternative career would have been: Probably a teacher, following in my parents’ footsteps.
6 Do you invest in the fund? Yes. It is a core part of my pension and deferred remuneration.
Listen to Ben Lofthouse talk about investment lessons in a Money Observer Greatest Hits podcast.