Money Observer Rated Funds in the third quarter 2019: laggards and watchlist

We evalaute the prospects for Rated Fund laggards and update the status of funds previously flagged for issues of concern.

It is perhaps not surprising to see several funds and trusts managed by Baillie Gifford included among the Rated Fund laggards over the three months to 30 September.

The Edinburgh-based investment partnership makes no bones about its liking for innovative companies – quoted and unquoted – that it believes can deliver sustainable growth in profits for years to come, and it is prepared to hold such companies through periods of market stress.

What are Rated Funds and how are they chosen?
Rated Funds: top performers in the third quarter of 2019

Baillie Gifford American is the worst-performing Baillie Gifford-managed Rated Fund with a 6.6% loss over the quarter, followed by the group’s flagship investment trust Scottish Mortgage, which lost 5.1%.

Baillie Gifford UK Growth, the investment trust it took over from Schroders in June last year before embarking on a wholesale restructuring of the portfolio, also fell back by close to 5%.

Despite the loss of 4% at Edinburgh Worldwide, that has not put much of a dent in the year-to-date gain of 25% from this smaller and more diverse cousin of Scottish Mortgage, which in contrast, is up 8.2% since January.

Some of our Rated Funds in the European Equities group also took a bit of a pasting in the third quarter – two equity income choices that focus on companies at different ends of the market capitalisation spectrum did poorly.

The smaller company trust European Assets lost 7%, undoing some of the good work of the year to date, over which it remains up 16%. The yield, which is paid mainly from capital on a quarterly basis, remains attractive to income-seekers at around 6.4%.

It was a similar story at fellow investment trust JPMorgan European. Its income shares were down 5% over the quarter, but the income shares remain up 9% over the year to date and are supported by a 4.4% yield that is generated from ‘natural income’ rather than the capital distributions that European Assets makes.

Several UK smaller company funds and trusts also suffered with losses of up to 5%, but this is hardly surprising given the febrile investment environment that Brexit angst has engendered.

Miton UK Microcap’s short and medium-term performance continues to give us cause for concern (it lost 7.3% in the past quarter) and we will look closely at its Rated Fund status in the forthcoming annual review.

We will also review the Rated Fund status of Picton Property Income, which converted to a real estate investment trust late last year and is no longer recognised by the Association of Investment Companies. A steep fall in its discount to NAV contributed to a loss of 9.7% over the quarter, making it the worst performer of all our Rated Funds, with specialist fund Polar Capital Biotechnology not far behind with a 9.4% loss.

Rated Fund Watchlist updates

Renewables Infrastructure – Rating suspension extended due to continued high premium

In the previous half-year Rated Funds review, we suspended TRIG’s rating due to a persistently high premium to net asset value (NAV). The company raised an additional £227 million via a placing of new shares in early October, in an offer that was heavily oversubscribed, with allocations scaled back.

The premium on TRIG had been as high as 20% in the second quarter, dropping back to 11.4% by 1 October. The one-year average is 9.6% and the average for the Renewable energy infrastucture sector is 11.7%.

As a rule of thumb we consider premiums to net asset value of more than 5% as becoming excessive. At a price of 126.2p, the shares yield 5.9%. However, we continue to think that the premium on the shares (and the sector) is excessive, so we reaffirm the current suspension of its Rated Fund status pending full assessment at the annual review.

Existing investors should not interpret the suspension as a ‘sell’ rating, particularly those who are primarily attracted to the company for its income characteristics.

JPMorgan Global Growth & Income IT – reaffirm Rated Fund status

The Rated Funds investment committee placed this member of the Global Equity Income group under review in April following the announcement that  Jeroen Huysinga was leaving the fund management industry. Huysinga was the sole manager of the trust from September 2008 until August 2017, when he was joined by Timothy Woodhouse as co-manager.

Rajesh Tanna and Helge Skibeli have since joined Woodhouse as co-managers. Huysinga supported the new team through the summer and the investment process remains unchanged.  

Having returned 8% in the second quarter, broadly in line with other global equity income funds, this trust made a respectable 2.6% gain in the third quarter. Its popularity and continued decent performance has been reflected in a 3% premium to NAV.

The investment committee has now decided to reaffirm the trust’s rating.

Fidelity American Special Situations – retain ‘under review’ status

In the April review we placed Fidelity American Special Situations under ‘performance watch’, and at the mid-year review we formally placed the fund under review. Lead manager Angel Aguro has now been joined by a deputy manager, Ashish Bhardwaj, who joined Fidelity in 2009.

The third quarter was not particularly exciting for US equities and this fund made a very small positive return.

Compared with the S&P 500 index, the fund continues to be heavily overweight in the financials sector, illustrated vividly by its large holding in Warren Buffett’s Berkshire Hathaway, which represents 6% of the portfolio. Overall the fund has 26.8% of its portfolio in financials compared with a 12.9% index weighting.

The £853 million fund remains stuck in the third or fourth quartile of the North America funds sector across all performance periods we monitor up to five years. We will retain its ‘under review’ status and make a decision on its future in the annual review.

Jupiter UK Smaller Companies – Rating Removed

Previous manager James Zimmerman left the firm in April to return to the US and the fund was run on an interim basis by Richard Curling. Jupiter hired Matt Cable from M&G to run the fund and he took over on 1 September.

In the past quarter, the fund has lost 3.75%, which is one of the worst performances among UK smaller company funds. It should noted that it was not a particularly fruitful quarter for such funds. Nevertheless, figures from FE Analytics show that the manager has underperformed the peer group composite over most discrete and cumulative periods. With this in mind, and the fact that performance has got off to a slow start, the committee will be seeking a replacement fund in the UK smaller companies group at the forthcoming annual review. As a result, we have opted to remove the rating.

Rated Funds on performance watch

The UK-focused funds and trusts that we placed under ‘performance watch’ in April continue to prove relatively disappointing. In the main, these funds pursue value-based strategies, the success of which are to some extent dependent on a successful outcome to Brexit negotiations.

In the UK equity income group, the two members in question are investment trusts Lowland, managed by James Henderson and Laura Foll, and Diverse Incomemanaged by Gervais Williams and Martin Turner.

Diverse Income’s relative performance improved a little in the last quarter but in the year to end September the shares are barely in positive territory, while over one year they are down by more than 10%, compared with a sector average of -1.5%.

The trust is quite different from other UK equity income trusts in that it has a diverse portfolio of around 130 shares spread across the market and size spectrum. For example, around 60% of the portfolio is invested in Aim-listed shares and companies in the FTSE 250 and Small Cap indices.

Williams and Turner also manage Miton UK MicroCap IT, which is predominantly invested in Aim-listed shares (85% of the portfolio), and continues to struggle at the share price and net asset value level, also underperforming the Aim All-Share index.

In September, the managers stated: “We believe that many share prices of UK small and micro-cap companies are already more than reflecting any downside risks. We look forward to a time when the Brexit uncertainty comes to an end, as we believe this could be a catalyst that brings renewed interest that will drive some of these share prices to more fully reflect their success.

“Alongside, the fund has a reasonable cash buffer at present, which can deployed very quickly when the opportunity arises.”

Meanwhile at Lowland, which is held in two of Money Observer’s model portfolios, co-manager Laura Foll tells us in the quarterly review that its poor performance is due to an underweight position in consumer staples, which outperformed, and an overweight position in financials, which struggled alongside other value-oriented cyclical sectors.

She agrees that a resolution to Brexit and greater confidence in the domestic economy is necessary for a large chunk of the portfolio to re-rate. In the meantime, the trust has raised its dividend by 10% for the past seven years and currently yields close to 5%, with a year’s worth of dividend reserves in the coffers.

The Rated Funds investment committee continues to adopt a ‘wait and see’ approach before considering whether to move the funds we highlighted off performance watch – by either reaffirming their Rated Fund status or placing them formally under review.

In a quarter where there was little to separate the best and worst performers in a variety of popular sectors, the Rated Funds committee is wary about jumping to conclusions as to whether to change the rated status of funds that we are keeping an eye on.

Currently, there are indications that underperforming value-based strategies will become more popular with investors (see the review of top-performing funds, and the strong performance of low volatility-focused index-trackers).

Therefore we will keep Artemis Global Income and Artemis Global Growth – both Rated Funds since 2014 with strong longer-term performance records – on performance watch for now, and make a final decision on their continued inclusion on our lists in the annual review.

In contrast, we are taking Murray International off performance watch after a strong quarter that saw its returns rank among the best of all 266 Rated Funds. Like the Artemis funds, the investment trust has a relatively large exposure to emerging markets.

We will keep Fundsmith Emerging Equities IT on performance watch; we initiated it in the last review after previous manager Terry Smith stepped back from managing the trust. However, Smith continues to oversee the trust’s holdings in his role as chief investment officer.

FEET was a ‘wildcard choice’ for 2019 and the loss of Smith as named manager has undoubtedly hit sentiment – the share price discount to NAV has widened to -11.2% (compared to a one year average of -2.9%). This has masked a respectable performance at the net asset value level: it’s up 11.2% over the year, which is the fifth best NAV performance in its official sector.

Bottom 15 Rated Funds in the third quarter

    % return and official
sector rank after:
Name Rated Fund group 3 months Quartile rank Year to date Quartile rank 3 years Quartile rank
BlackRock Frontiers IT Emerging Markets -3.7 4 1.3 3 15.1 3
Jupiter UK Smaller Companies UK Smaller Cos -3.8 4 9.6 3 60.1 1
Edinburgh Worldwide IT Global -4.2 4 24.7 1 86.2 1
Invesco Asia IT Asian Equities -4.3 3 8.5 3 26.8 4
BlackRock Smaller Companies IT UK Smaller Cos -4.4 3 16.5 1 57.1 1
Rights & Issues IT UK Smaller Cos -4.4 3 -1.5 3 29.3 3
Lowland UK Equity Income -4.9 4 -0.1 4 6.8 4
Baillie Gifford UK Growth UK Growth -4.9 4 11.7 2 20.1 3
Scottish Mortgage Global -5.1 4 8.2 4 57.4 1
JPMorgan European European Equities -5.1 4 9.1 4 31.8 3
Baillie Gifford American US Equities -6.6 4 18.8 3 72.0 1
BMO European Assets IT European Equities -7.1 4 15.9 2 16.4 4
Miton UK MicroCap IT UK Smaller Cos -7.3 4 -11.7 4 -17.7 4
Polar Capital Biotechnology Specialist -9.4 - 5.6 - 32.2 -
Picton Property Income Ltd Property -9.7 - 5.5 - 36.9 -

* Table shows bottom 15 of 266 Rated Funds ranked over three months to 1 October 2019. The quartile rankings refer to  a fund's ranking in its official industry sector. Data source: FE Analytics

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