Tag Archives: investment

Points of View: UK Market Review

The end of June brought with it the end of the first half of this calendar year.  This week I take a look back over the period since 1 January and consider the relative attractions of the UK market.

Stock markets suffered their first meaningful fall for nearly two years at the start of the year. Having hit a peak of approximately 7800 in January, the FTSE 100 fell nearly 12% to a 12-month low of just under 6900 in late March. Since then, stock markets have promptly recovered and again sit close to all-time highs.

Despite this, the UK stock market is stubbornly out-of-favour with global investors thanks to the political uncertainties of Brexit and the threat of a left-wing government coming into power with a mandate to hike taxes and nationalise large parts of the economy. Indeed, global investors have clearly taken a consensus underweight position on the FTSE, which is arguably at its most unloved point in decades relative to other developed stock markets.

On the one hand this is frustrating for UK investors, but on the other hand it is re-assuring; looking forward, it seems to us that the UK stock market offers very attractive relative value for long-term investors. The FTSE 100, for example, currently yields approximately 3.8%; in contrast, the yield offered by the S&P is 500 is a miserly 1.9%. Moreover, it is important to remember that the UK economy is not the same as the UK stock market. There is some overlap, but it is far less deep than most people assume. The domestic macroeconomics of the UK has very little to do with the collection of international businesses the make up the UK stock market. To this extent, the UK stock market provides a natural hedge against any woes that befall the UK economy.



Stocks in Focus: Aberforth Smaller Companies Trust Plc

This week I am looking at Aberforth Smaller Companies, a UK-focused investment trust that invests predominantly in smaller quoted companies. The fund is run by a team of six experienced investment managers, including Alistair Whyte and Richard Newbury, who have both been with Aberforth since the fund was launched in 1990.

Each manager specialises in a group of sectors, and picks stocks based on the Trust’s value style of investing. This approach focuses on companies that are undervalued and often out of favour with investors, offering the opportunity for greater returns when the company returns to favour.

As a company grows and transitions from a value stock to a growth one, the managers take profits in order to reinvest in other value opportunities, starting the process again. Following this process, the levels of turnover seen recently have been higher than usual (22%) due to the disparity of valuations between stocks and the increased volatility the market has seen since the beginning of the year.

The management style has remained consistent and this strategy has proven successful over the long term, achieving annualised returns of over 13% since it launched. Reassuringly, the fund has maintained this strong performance over the last 12 months, gaining 10% in Net Asset Value (NAV) against 7% for its benchmark.

Over the last few years, some company valuations have become somewhat stretched despite market uncertainties spanning the UK and US.  In addition, there has been a significant amount of corporate activity as companies look to grow through acquisition rather than purely organic means. These factors make it increasingly difficult to identify undervalued smaller companies with reasonable prospects and it is common for investors to use a collective fund such as Aberforth Smaller Companies for exposure to this part of the market.


Stocks in Focus: Rolls-Royce

This week I am looking at 112-year-old British company, Rolls-Royce, and its biggest transformation plan in nearly 20 years. During a capital markets event last week, chief executive, Warren East, stated that an overcomplicated way of working was holding the engineering giant back. A six-month long evaluation revealed unnecessary complexities in processes and a lack of accountability and cost awareness throughout the business. As a result, Mr East has announced that he will be implementing some further restructuring in the business as part of the ongoing changes.

Earlier this year, the CEO announced plans to consolidate the company into three focused business units – Civil Aerospace, Defence and Power Systems, as opposed to the current five business unit structure. This is designed to remove management duplication between the three new units, with each having a greater degree of autonomy to allow them to work faster. The announcement made last week will involve cutting 4,600 back office and middle-management jobs over the next two years to make the business simpler and more efficient. All of the redundancies will involve non-manufacturing staff, with roughly two-thirds affecting the UK headquarters in Derby. The company currently needs production staff to help it deliver a sizeable order book of new aero engines. This shake-up is aimed at saving £400m a year by 2020 and generating about £1.9bn in free cash flow over the next five years.

It has been a tough couple of years for Rolls-Royce after five profit warnings, dividend cuts and a dividend freeze. The new plan sounds promising and brings a breath of fresh air. Investors welcomed the transformation plan and sent the shares soaring to a six-month high. However, the business will need to start delivering against its targets on operational improvements, cost reductions and cash generation before it can convince the market that it is on a sustainable path to recovery.


Stocks in Focus: BT

This week I am looking at BT, following the announcement last week that Chief Executive Gavin Patterson will step down later this year. BT confirmed that his departure was driven by poor reaction to its latest results and loss of investor confidence.

Mr Patterson’s position has been in question for some time. The company has faced a number of challenges in recent years, which have resulted in the shares trading at a near six year low. Recent issues have included an Italian accounting scandal, a slowdown in public sector spending, and a record fine from Ofcom. Despite ongoing concerns from shareholders, the timing of the board’s decision came as a surprise – only a month ago, Patterson was publicly backed by the chairman Jan du Plessis after unveiling an ambitious new restructuring plan.

The restructuring strategy came after the company failed to hit profit and revenue targets in the last year. Mr Patterson revealed that management intend to cut 13,000 jobs as well as close its iconic 150 year old headquarters in London, in an attempt to reduce costs. The company promises that the cost savings will give them the opportunity to invest heavily into 5G, aiming for BT and its mobile division EE to become the first business in the UK and Europe to have a live 5G network in 2019 – an exciting opportunity for the company, despite fierce competition from rival networks.

Patterson will remain in the role until a replacement Chief Executive is found, and has reassured investors that he will remain committed to the business and his updated strategy until his departure. Patterson believes that BT is well positioned to thrive in the future, and with the strong restructuring strategy underway, it will be interesting to see what his successor’s first move will be.


Stocks in Focus: DS Smith

DS Smith, the international packaging company, announced its intention to purchase the Spanish based Papeles y Cartones de Europa, S.A (known as Europac) on Monday 4 June 2018. The deal, costing €1.9bn, follows a trend set by the company of continuing to consolidate the European market in packaging. Further news of the acquisition is expected in June along with the annual results.

The acquisition is at the higher end of valuations to other European deals; but comes with potential cost saving synergies of circa €50m. Management have a good track record and experience in integrating European businesses.  The company is planning to finance the transaction with a fully underwritten rights issue of approximately £1bn with the remainder funded by debt. This deal is expected to enhance earnings from year one and while debt will increase in the short term, the company is targeting a reduction over the longer term.

DS Smith has been on an aggressive acquisition path. This is the second purchase of 2018, and the company made two in 2017. The fragmented paper and packaging industry is still ripe for consolidation but even without acquisition growth, volumes are still predicted to rise.  In the company’s trading update on 1 May 2018 it stated strong performance with both volume growth and successful cost savings from earlier purchases.

Investor sentiment remains positive, endorsing management’s progress in carrying out their strategy to drive growth both organically and through acquisitions. The Europac deal does not come completely without risk as the cost synergies still have to be delivered and the extra debt does weigh on the balance sheet even if it is only intended for the short term. We will watch closely to see whether the company can consolidate the various new businesses without getting distracted.


Stocks in Focus: Pennon Group

This week I am looking at Pennon Group, which recently released its full year results to 31 March 2018. The group is split between two main functions, water and sewage services the South West of England and Viridor, the UK’s largest waste management recycling company.

Pennon’s results were met with a positive reaction from the market and shortly after the release the shares had risen by 5%. Pre-tax profits had risen by 25%, following strong performance from the Viridor and South West Water divisions, and the company confirmed another dividend rise of 7.3%.

Viridor accounts for 52% of the group’s revenues and within the results they announced that they have been encouraged by the ‘Blue Planet’ effect. Ever since the popular BBC program aired in late 2017, the country has gained focus on the need to control plastic consumption and to improve recycling efficiency. Viridor is at the forefront of this and are hoping that changes will be announced in the Resources & Waste Strategy later this year that will continue this momentum.

Despite these positive results, the sector still faces regulatory pressures and the utilities industry is set to see price controls from 2020. The price controls are based on the Regulatory Asset Base, this is a system designed primarily to encourage investment in the expansion and modernization of infrastructure.  However, these utility companies will work on an allowed rate of return in which they recoup the investment from consumers, therefore capping future income.

These pressures are affecting the whole industry but Pennon remains in a strong position. They have the best record of water quality and customer service in the sector and have less regulatory exposure than competitors due to the diversification offered by the Viridor business.


Points of View: US/China Trade

This week saw a step back from the brink of a US/China trade war.  The two countries announced that the US has halted plans to impose tariffs on up to $150bn of imports and China made pledges to significantly increase its purchases of US agriculture and energy exports.

President Trump’s administration has taken a strong stance against Chinese exports, stating that Beijing needs to pay the price for decades of unfairly acquiring US intellectual property.  Washington is also keen to rebalance the $337bn trade deficit it has with China.  Towards the end of March, Trump announced tariffs on up to $60bn of Chinese imports.  Beijing retaliated with tariffs on $3bn of US imports, with the threat of this escalating into a full trade war.

The market has reacted positively to the recent announcement; however hardliners on both sides are disappointed with the change of stance.  US critics are unhappy that the focus has shifted to reducing the trade deficit, rather than a harder push for reforms in China to prevent the acquisition of US intellectual property.  In the middle of the trade negotiations is the fate of ZTE, a Chinese telecoms company that has been handed a seven year ban on sourcing US components.  The ban came in last month, after the company admitting violating US sanctions on Iran and North Korea.  Chinese critics are unhappy that the fate of the company, and its 70,000 employees, has not been secured.

Whether the US can reduce their deficit with China and achieve real change in the country remains to be seen but neither will be easy.  In return China will expect a lifting of US restrictions on high-tech exports to China imposed in 1989 and a quick resolution for ZTE.  These negotiations are complex and the threat of them breaking down and a trade war re-emerging is still present.