While Woodford’s argument may be theoretically sound, when UK domestic stocks will recover is unknown and unknowable.
In the star fund manager’s latest note to investors, he pointed out the UK stockmarket, as of March 2019, had provided its best quarterly total return in six years. However, he said, this was largely driven by “large, global dollar-earners, such as the oil majors, mining companies and consumer goods companies.”
Woodford, who is instead favouring domestically focused stocks, failed to benefit from this strong performance.
That, however, is set to change, says Woodford. He points out that data from across much of the world economy is starting to disappoint while the Federal Reserve’s decision to hold off on further monetary tightening shows a loss of momentum in the US economy.
At the same time, he points out that bond markets have become more bearish, with the yield curve inverting, while the S&P 500 has had its best quarter in almost a decade. “It is hard to reconcile this price behaviour in bond markets with the more buoyant mood in equity markets,” says Woodford. “We have more sympathy with the view expressed by bond markets currently and are positioned accordingly.”
But, he says, UK domestic facing equities remain a potential bright spot. Arguing that “valuation is the only reliable predictor of long-term investment returns,” Woodford points out that domestic UK equities have been unfairly punished since the Brexit vote in June 2016, creating “a valuation opportunity, the likes of which I haven’t seen for more than 30 years.”
At the same time, he argues the UK economy has performed better than expected. He writes in his note: “During March, we saw better-than-expected economic data in many different parts of the UK economy, including industrial production, unemployment, wage growth and retail sales.”
Woodford’s funds are well positioned to benefit from any potential recovery of UK domestic stocks, with his flagship Woodford Equity Income fund holding around 60%. Woodford adds: “The portfolios are populated with profoundly undervalued companies, many that are exposed to the UK economy.”
However, the cheapness of domestic stocks is only half the story. A successful active manager should also be able to pick the best shares. On this front, Woodford’s recent performance has not been promising, with a number of favoured holdings turning sour, including the doorstep lender Provident Financial and outsourcing firm Capita.
In terms of current holdings, in his Woodford Equity Income fund, he is heavily exposed to UK housebuilders with Barratt Developments the largest holding in the portfolio.
However, when the market will agree with Woodford’s view is uncertain. UK domestic focused equities do appear undervalued and the tendency in financial markets is for undervalued stocks to rise.
But this is not the first time Woodford has made his argument about UK equities. Last year, he told Money Observer that there is a “mismatch between reality and perception,’ when it comes to the UK economy. “What stands out as being completely and utterly wrong is the negative perception towards UK equities and the UK economy. Since the Brexit vote, the UK economy has outperformed the consensus,” he said in February last year.
In the meantime, Woodford Equity Income has continued to disappoint. The fund is the worst performer in the IA UK All Companies sector over the past three years, losing 8.1% compared to the sector average of a 28% gain.
The obvious retort is that the fund is full of value stocks, by definition those out of favour with the market, so of course it would have underperformed the rest of the market. As Woodford notes: “From time to time, markets become detached from valuation reality and while they are, fund managers like me appear to be incapable of delivering good outcomes.”
The argument is that these undervalued stocks are due a recovery.
Many investors, however, are likely to be sceptical. While Woodford’s argument may be theoretically sound, when UK domestic stocks will recover is unknown and unknowable. Being in an underperforming fund for another year while markets around the world continue to reach news highs would be a considerable opportunity cost to investors. But then so would potentially missing out if Woodford is correct in his assertion that this is the “best investment opportunity in 30 years.”
Woodford Patient Investment Trust
Like many others I have invested in the Woodford Patient IT and like most others I am sitting on a small per loss.
I intend to hang on and hope that he is right. If it all goes down the pan then I will shrug it off. After all Woodford has made very good profits for me over the last 10 years and I read the prospectus and fully realised this was highly unlikely to be a route to quick riches. It was obvious that there would be casualties and I do wonder about the decision process that led him to buy Provident but he also has some good quality companies on his books. Just look at Reneuron for example.
"star manager" as applied to Neil Woodford [if only!]
Re the MoneyObserver article April 25, 2019 by Tom Bailey- re Neil Woodford and his funds.
You do no favours to potential investors with "In the star fund manager’s latest note.....". Please do not use the phrase "star manager". It is more than misleading.