Investment Trust Portfolio: Seeking the right equity strategy

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It is fair to say that last year proved challenging – particularly for investment trust investors. However, the year provided much to reflect on and perhaps threw up straws in the wind as to what the coming years may have in hand. Last month’s column focused on alternative assets and diversification. As we enter 2023, it is worth highlighting the portfolios’ equity positioning and some of the reasoning both by way of region and theme.


A challenging year

The performance statistics for the major indices paint only part of the picture. For example, the MSCI World (£) and the FTSE All-Share produced total returns of -7.83 per cent and 0.34 per cent respectively. Yet the UK Conventional Gilts index saw a return of -23.83 per cent while the FTSE All-Share Closed-Ended (investment trust) Index returned -16.57 per cent as discounts widened meaningfully – both helping to explain why more conventional defensively positioned portfolios provided little relief. For example, the MSCI PIMFA Conservative benchmark returned -11.60 per cent.

2022 also saw marked share price volatility as sentiment oscillated in reaction to challenging geopolitical and economic news, including UK inflation (CPI) ending the year at 10.08 per cent, which also helps to explain why many ‘growth’ companies had such a torrid year. It was against this backdrop that the Growth and Income portfolios produced total returns of -11.71 per cent and -7.17 per cent, which compares with returns of -6.12 per cent and -8.49 per cent, respectively, for the MSCI PIMFA Growth and Income benchmarks.

As regular readers know, the portfolios invest for the long term and often take contrarian positions – as such, short-term performance may vary from relevant benchmarks. To aid perspective, and while never complacent, the Growth and Income portfolios have returned 390.1 per cent and 274.9 per cent respectively (in the 14 years to December 2022) which compares with returns of 209.2 per cent and 143.3 per cent for the MSCI PIMFA Growth and Income benchmarks. The performance page on the website provides more detail.

Equity positioning

Recent columns have highlighted concerns about the economic outlook and policymakers’ grasp of the situation both here and globally. I will not reiterate the reasoning. Last month’s column ‘Seeking the right balance’ (IC, 16 December 2022) focused on the importance of recognising that the more conventional and conservative 60/40 equity/bond portfolios was ill-equipped to achieve sufficient diversification in this new market regime, and suggested better alternatives.

These recent columns also help to explain why our equity weightings have ceded ground in recent years to a range of alternative assets. Various headwinds including elevated levels of inflation and interest rates, sluggish economic growth, high debt and geo-political difficulties will continue to buffer markets. Equities usually embrace the early stages of inflation, but fail to produce real returns if it rises and remains high thereafter. Investors are less willing to pay up for future earnings and valuations tend to fall.

Within the reduced equity exposure, over this period the portfolios have seen a reduction in exposure to ‘growth’ companies – having been overweight. Higher discount rates are putting pressure on often lofty valuations. This will not subside any time soon given inflation will remain more elevated than consensus forecasts indicate. By contrast, ‘value’ companies should remain less susceptible as cheaper valuations are less impacted and higher dividend payouts are welcomed by investors given the increasing attractions of cash.

Such considerations influence our regional preferences. Attractive valuations relative to good prospects can often be ballast in turbulent waters. As such, the portfolios remain overweight the UK. Exposure to emerging markets, particularly those companies offering income, is being increased. Japan and Canada are also liked. Most tend to be under-owned by international investors. The quid pro quo is underweight positions in the US and Europe – the former largely on grounds of valuation, the latter for structural and other reasons.

This resume of preferences also reflects the view that markets often embrace long cycles, and the importance of recognising when market regimes shift. Strategists too often refer to history when extrapolating the future – it can proffer ideas, but can only be of limited use in different market regimes. Further to recent columns suggesting the extent to which the investment landscape has indeed changed, investors should expect long swings now in favour of different assets – equity or otherwise.

The big gainer of the past decade was US equities, particularly the technology companies. Bonds were the big beneficiary of the past four decades. Though better value of late, these are unlikely to lead the way going forward for reasons previously highlighted. By contrast, the UK looks well-placed for reasons explained in the column ‘Trade of the decade?’ (IC, 13 May 2021) – sentiment continues to trail fundamentals and prospects. Sound outperformance of the global benchmarks last year, and a good start to this, bode well.

Catalysts for a re-rating

In looking overseas, emerging markets are looking increasingly attractive. The MSCI Emerging Markets (EM) index has struggled over the past decade. Company returns have broadly matched those of developed markets, but share prices have been savaged – having de-rated from a comparable price/book value to now barely half. By many measures, the EM index is now at its cheapest since inception. Markets can stay cheap for long periods – oft-sought-for catalysts that spark a re-rating can be frustratingly slow to arrive.

However, a number of tailwinds of varying speeds are now aligning which, cumulatively, may have the desired effect. Many countries now boast greater economic resilience – previously considered purely as a source of commodities and cheap labour, they have deeper pools of demand, with domestic consumption nearly tripling over the past decade or so. Bigger currency reserves, a more proactive approach to looming inflation, a lesser dependency on the US$ and younger populations, are some of the reasons to be positive.

Meanwhile, Japan continues to look attractive relative to prospects. The gradual change in corporate governance, including greater reverence for shareholders and dividends, price/book valuations that remain exceedingly attractive, a market particularly shunned by international investors, and global leadership in certain sectors are some of the positives. Perhaps the advent of rising inflation and the nuanced change in the Bank of Japan’s policy will precipitate the long-awaited catalyst needed to spark a re-rating. Time will tell.

Despite the portfolios’ reduction in exposure to growth as an investment style in recent years, portfolio balance should always be maintained. In addition to focusing on the right regions, investors will need to ensure adequate exposure to the long-term secular themes of the future – certainly when compared with the more traditional portfolio so beloved of the previous market regime. These include smaller technology companies, and the full spectrum of opportunities within the healthcare, private equity and climate change spaces.

In addition to touching on portfolio changes during Q4, I will return to such themes in my next column.

Portfolio performance
  Growth  Income
1 Jan 2009 – 31 Dec 2022
Portfolio (per cent) 390.1 274.9
Benchmark (per cent)* 209.2 143.3
Portfolio (per cent) -11.7 -7.2
Benchmark (per cent)* -6.1 -8.5
Yield (per cent)                                                                            3.4 4.1
*The MSCI PIMFA Growth and Income benchmarks are cited (total return)


Portfolio breakdowns, 31 December 2022
Growth Portfolio  
    New City High Yield (NCYF) 5.0%
    iShares Index Linked Gilts ETF (INXG) 1.5%
UK Shares  
    Murray Income Trust (MUT) 5.0%
    Edinburgh Investment Trust (EDIN) 5.0%
    City of London (CTY) 4.0%
    Finsbury Growth & Income Trust (FGT) 4.0%
    Henderson Smaller Companies (HSL) 2.5%
    JPMorgan UK Smaller Companies (JMI) 2.0%
International Shares  
    JPMorgan Global Growth & Income (JGGI) 4.0%
    Caledonia Investments plc (CLDN) 4.0%
    AVI Global Trust (AGT) 3.5%
    Murray International (MYI) 2.5%
    JPMorgan Emerging Markets Inc (JEMI) 2.0%
    Ruffer Investment Company (RICA) 4.5%
    Abrdn Private Equity Opportunities (APEO) 4.0%
    Bellevue Healthcare Trust (BBH) 3.0%
    Personal Assets Trust (PNL) 3.0%
    Herald (HRI) 2.5%
    Impax Environmental Markets (IEM) 2.5%
    Augmentum Fintech (AUGM) 2.5%
Other Assets  
    HICL Infrastructure Company (HICL) 5.0%
    JLEN Environmental Assets Group (JLEN) 5.0%
    BioPharma Credit Investments (BPCR) 5.0%
    Abrdn Property Income Trust (API) 4.0%
    BlackRock World Mining Trust (BRWM) 4.0%
    CQS Natural Resources Growth & Inc (CYN) 3.5%
    Hipgnosis Songs Fund (SONG) 2.0%
Cash 4.5%
Total 100%
Holdings are rounded to the nearest 0.5%  
Income Portfolio   
    CQS New City High Yield (NCYF) 4.5%
    iShares Index Linked Gilts ETF (INXG) 4.0%
UK Shares  
    Edinburgh Investment trust (EDIN) 5.0%
    Dunedin Income Growth (DIG) 3.5%
    The Mercantile Trust (MRC) 3.5%
    Invesco Perpetual UK Smaller Cos (IPU) 2.0%
International Shares  
    JPMorgan Global Growth & Income (JGGI) 4.5%
    Utilico Emerging Markets (UEM) 2.0%
    Apax Global Alpha Ltd (APAX) 5.0%
    Ruffer Investment Company (RICA) 4.5%
    Personal Assets Trust (PNL) 4.0%
    Aberdeen Diversified Income & Growth (ADIG) 2.5%
    Herald (HRI) 2.5%
    BB Healthcare Trust (BBH) 2.0%
Other Assets  
    BioPharma Credit Investments (BPCR) 5.5%
    JLEN Environmental Assets Group (JLEN) 5.0%
    HICL Infrastructure Company (HICL) 4.5%
    BlackRock World Mining (BRWM) 4.5%
    Abrdn Property Income (API) 4.0%
    WisdomTree Physical Gold ETF £ (PHGP) 3.5%
    CQS Natural Resources Growth & Inc (CYN) 3.5%
    International Public Partnerships (INPP) 3.0%
    Bluefield Solar Income Fund (BSIF) 3.0%
    GCP Asset Backed Income Fund (GABI) 2.0%
    Regional REIT (RGL) 2.0%
    Hipgnosis Songs Fund (SONG) 2.0%
Cash 8.0%
Total 100%