Fund managers spoke about their portfolio strategies and market views at the inaugural Investment Week Funds to Watch UK Equities conference.
Margaret Lawson, manager, SVM UK Growth fund
The sell-off in recent months has opened up good value in some areas, such as mid-cap property groups, housebuilders, and some of the consumer discretionary businesses.
Fear of a Brexit has seen international investors hold back, hitting the pound and taking UK equity exposure by global managers to a seven-year low.
If the vote is to remain in the EU next month, we expect the UK market to return to favour, with domestically-focused businesses benefitting the most.
We have been adding to positions in companies where we have confidence in management’s ability to implement some self-help: Paddy Power Betfair, Beazley, and DCC.
Some of the recent headwinds to global growth should dissipate as the year progresses, with some recovery in oil and metals prices already evident.
However, we see some sectors as structurally challenged, open to disruption and pricing pressures. We have very low exposure to banking and retail, and this is unlikely to change.
Mark Martin, head of UK equities, and Holly Cassell, manager, Neptune UK Opportunities
With sentiment still subdued around the Brexit referendum, we believe there are some outstanding opportunities on a stock-specific basis.
In what continue to be volatile times, we prefer companies which exhibit stable margins, often as a result of pricing power derived from operating in niche markets with substantial barriers to entry.
These companies do not need to be large; rather they exhibit market leadership within their chosen fields, which may be highly specialised.
In our experience, smaller companies tend to be more nimble in their response to changing market conditions, a quality which should be highly beneficial in the months and years ahead.
We are also excited by M&A prospects at this stage of the cycle and expect small and mid caps to benefit disproportionately as the Brexit vote concludes and uncertainty recedes.
David Urch, manager, TB Garraway UK Equity Market fund
Pressure on global GDP forecasts has left corporate profits under pressure. Avoiding significant downgrades will be a critical part of portfolio protection. Many cyclical and consumer stocks look challenged.
Our exposure to gold through an ETC and direct equities, Randgold Resources and Centamin, reflects the attraction of gold as a physical asset in this challenging environment. It is another way of playing the material sector, where we remain cautious.
We have added to mega caps, such as GSK, BAT, Imperial Brands and National Grid, where earnings momentum has picked up, and dividends look secure – funding such moves with a reduction in exposure to mid- and small-cap stocks.
Still underweight energy, we own John Wood Group, a beneficiary of continued outsourcing by its global client base. We have no exposure to domestic banks, preferring to play the financial sector through companies like Provident Financial and Mortgage Advice Bureau.
Currently companies in consumer-related sectors are very attractive. We are paying particular attention to stocks potentially involved in mergers and acquisitions like takeover targets, for example.
We have identified a lot of opportunities in personal and household goods, media and healthcare. UK water companies are also well adapted to the current environment, with a high dividend yield and good visibility of their revenues.
We remain cautious about companies that are very sensitive to the UK economy, especially the banking sector which could suffer from a Brexit. For the time being we are staying away from the mining industry, due to its volatility and where several corporates are facing a deterioration of their balance sheet.
Regarding industrial sectors, we prefer to focus on names with a global exposure and a less cyclical profile. Indeed, many of them could benefit from a weaker sterling.
Colin Morton, portfolio manager, Franklin UK Rising Dividends fund
Our unique focus on companies that have grown their dividend in eight out of the last ten years and not cut during that period, as well as reinvesting at least 35% of their earnings back into their business, means we are investing in companies that have had all manner of economic circumstances thrown at them.
If a company has demonstrated the ability to grow or maintain its dividend through this period then you can take some confidence they can maintain this going forward.
However, there are some large companies in the UK that have been reliable dividend payers which have come under real pressure recently. They offer attractive yields, but we question their ability to sustain this yield in the long term.
Key companies in the FTSE 100 have underlying cashflows significantly below their absolute yield and so are paying out of borrowed money rather than cashflow.
With no yield hurdle to achieve for this fund we do not have to hold these companies because of the income they generate, and instead can focus on areas of the market with improving cashflow fundamentals.
Recently, we have been adding to more cyclical names and those companies which are trading on very attractive valuations, but most importantly have sufficient cashflow to sustain and grow their dividend over the longer term.
Blake Hutchins, portfolio manager, Investec UK Equity Income fund
For many UK income investors it has been a challenging few months as a number of traditional income paying companies, particularly in commodity-related sectors, have cut or cancelled their dividends.
For us this is not a problem, however, as our investment approach seeks to identify quality companies which can return a sustainable and growing dividend to investors, even in uncertain markets.
These companies typically have strong competitive advantages that create barriers to entry, enabling them to sustain high levels of profitability, and generate significant amounts of cash.
Unlike capital intensive areas of the market such as the utilities, materials and energy sectors which have experienced significant dividend cuts recently, the capital-light cash-generative nature of these quality companies has enabled them to sustain a strongly growing dividend.
The companies we seek include such names as Reckitt Benckiser, Compass and Sage. While many believe these companies are too expensive, we would argue the strength and quality of the businesses we select justify the valuations they currently have, particularly in the uncertain, low-growth, low-return environment that we are in.
Nigel Kennett, senior fund manager, CF Canlife UK Equity fund
UK economic fundamentals remain robust and the prospects for long-term secular growth are positive. However, in the current slowing economic backdrop, it is important to identify those companies truly offering superior and sustainable growth.
One structural growth theme we are optimistic about over the long-term is the increase in online consumption. There are many examples of companies currently disrupting incumbent industries by taking advantage of the rise of the online consumer – such as Just Eat, one of the world’s leading online food order and delivery service groups.
Another attractive area of the UK market currently is the housebuilders. While companies such as Taylor Wimpey and Bellway operate in a highly cyclical space, the long-term structural growth environment remains intact, due to the dynamic of limited supply and excess demand.
While the sector has witnessed recent pressure due to fears over a potential Brexit, we still see upside over the medium to long term.
Fraser Mackersie, co-manager, Unicorn UK Income fund
In the run up to the Brexit vote we have seen a significant relative discount appear between large caps and small and mid caps. On a forward P/E basis small and mid caps now sit at their largest relative discount to larger companies in several years.
Our regular yield screen has started to produce more names as companies slip into higher yield territory on short-term share price weakness, and we are also seeing increased instances of smaller income stocks using excess cash to pay special dividends.
Special dividends in our view signal both confidence in underlying trading and a sensible approach to capital management.
However, in terms of trouble spots, companies are using a more cautious tone with respect to the short-term trading environment in the run up to the Brexit vote. This is a sensible approach to the near term uncertainty, but is creating buying opportunities for investors with a longer-term investment horizon.