Investment process: Seeking value in multiple asset classes
SIGT’s managers seek to identify undervalued investments across a range of asset classes. They aim to generate total returns in excess of CPI +6% pa over the course of a typical investment cycle. There is a long-term strategic asset allocation (SAA) between UK equities, overseas equities, fixed income and specialist assets (including property), based on the assumption that future long-term returns of individual asset classes will be comparable to their historical long-term returns. Along with the SAA there is a shorter-term tactical asset allocation (TAA), aiming to identify which assets offer the best value and future return prospects given the stage of the investment cycle, based on a range of macro and bottom-up/top-down valuation factors.
UK equity investments are primarily direct rather than via funds, with a focus on mid-cap companies with growing cash flows and dividends. Smaller companies tend to have superior growth potential and have outperformed larger companies over the long term. They may be under-researched and therefore mispriced. Overseas equity investments are in funds run by niche managers, who are benchmark-agnostic and whose portfolios have a high active share. Fixed income investments are also in funds, focusing on capital preservation as well as yield from managers who avoid defaults. Specialist assets is a heterogeneous asset class providing exposure to real assets, which offer the potential to reduce portfolio volatility while enhancing returns. There is a focus on security of income and asset and terminal values.
Current portfolio positioning
Exhibit 3 highlights SIGT’s tactical versus strategic asset allocation at the end of April 2020. In recent months there has been a c 5.0pp TAA addition to UK equities to take advantage of the market sell-off. It was primarily offset by a reduction to the trust’s fixed income TAA. At end-April, SIGT was tactically underweight equities by 4.3pp (0.7pp overweight UK and 5.0pp underweight US equities). It should be noted that the trust has not held any US equities since August 2017, as prior to the recent stock market sell-off the managers considered they were unattractively valued. The portfolio was 5.6pp tactically underweight fixed income (with no exposure to safe-haven government bonds), 1.9pp overweight specialist assets and 8.0pp overweight cash, managed liquidity, physical gold and gold miners.
Exhibit 3: Asset allocation ranges, long-term core SAA and target TAA
% |
Asset allocation range |
SAA |
TAA end-April 2020 |
UK equities |
15–60 |
35 |
35.7 |
Overseas equities |
10–40 |
25 |
20.0 |
Total equities |
25–85 |
60 |
55.7 |
Fixed income |
0–40 |
15 |
9.4 |
Specialist assets |
0–50 |
25 |
26.9 |
Cash/managed liquidity/physical gold/gold miners |
0–10 |
0 |
8.0 |
Total |
100 |
100 |
100.0 |
Source: Seneca Global Income & Growth Trust
SIGT’s actual portfolio breakdown at the end of April 2020 is shown in Exhibit 4; it was split c 56:44 between equity and non-equity investments. As shown in the right-hand chart, the trust’s equity exposure is heavily skewed to the UK market. The specialist assets exposure was split as follows: 10.4% specialist financial, 6.6% property, 5.5% infrastructure and 4.5% private equity. The liquid part of the fund was composed of physical gold and gold miners.
Exhibit 4: Portfolio distribution as at 30 April 2020
|
Portfolio distribution by asset class |
Breakdown of equity exposure |
|
|
Source: Seneca Global Income & Growth Trust, Edison Investment Research. Note: Numbers subject to rounding.
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The managers have analysed all of SIGT’s UK equity positions to determine the companies’ financial stresses, whether they are close to breaching their loan covenants, and what action management is taking to shore up balance sheets where necessary. Where share prices are considered to be oversold, SIGT’s managers have been topping up their high-conviction positions, primarily funded by a reduction in the trust’s fixed income exposure. However, there have only been small additions to positions in the fund, as the manager believes that small steps are prudent given the uncertainty over the shape of the economic recovery.
Within UK equities there are two new positions, Origin Enterprises and dotdigital, while the holding in Ultra Electronics was sold on valuation grounds. Based in Ireland, Origin Enterprises is an agri-business company offering value-added services, technologies and strategic inputs to support the delivery of sustainable and profitable food production solutions for primary producers. The company had issued three weather-related profit warnings and was trading at an attractive valuation. Origin’s primary operational areas are the UK and Ireland (c 70% of sales), but it also has businesses in Ukraine, Poland, Romania, Belgium and Brazil. The manager explains that the UK experienced its highest level of rainfall in H219 in 30 years, which led to poor crop yields and planting delays, resulting in margin pressure for producers. However, he believes that weather-related issues are a short-term anomaly for this market leader in a steady business, with interesting growth opportunities in Latin America. Origin’s management have been buying the company’s shares, which currently offer a c 7.5% dividend yield. dotdigital is a digital marketing company offering clients an omnichannel platform for managing marketing campaigns. Its platform, Engagement Cloud, leverages artificial intelligence (AI) to boost customer conversion. Given its focus on value, SIGT is generally priced out of most technology stocks due to their premium valuations. dotdigital is not a deep-value stock, but brings a different aspect to SIGT’s portfolio. It is only a small position, as the manager is awaiting a more favourable share price to add to the holding.
The rise in exposure to some of SIGT’s overseas equity funds is largely due to currency effects rather than topping up positions. Asian stocks have held up relatively well, which has helped holdings such as the CIM Dividend Income Fund and the Morant Wright Fuji Yield Fund. Moglione explains that the dividend outlook for UK equities is bleak, as companies are slashing their payouts. He contrasts this with Asia, where the coronavirus-induced shutdowns have tended to be sharper and shorter, meaning income prospects are more positive in the region. He also notes that while payouts in Japan are generally low, it is culturally difficult to cut dividends given the country’s push for greater focus on shareholder value.
Within fixed income, the Royal London Sterling Extra Yield Bond Fund holding was sold and the position in the Royal London Short Duration Global High Yield Bond Fund was reduced. The manager considers the extra yield fund is more risky than the high yield fund. There was also a switch between the Templeton Emerging Markets Bond Fund (government debt), which was sold following the dividend payment at the end of March, and the Absalon Emerging Market Corporate Debt Fund. Absalon follows a value-based approach looking for mispriced assets across emerging market debt. Moglione explains that market dislocations from macro factors such as a government change or a government finance issue can cause a significant and rapid depreciation in emerging markets’ local currencies. Rating agencies are very reactionary to these events, and will often issue a negative outlook or rating downgrade that can consequently cause rating reductions across the domestic corporate debt markets. Forced sellers who are constrained by credit rating limits can liquidate holdings in corporates where the fundamentals have not changed, for example in export-focused companies who will benefit from a weakening local currency.
Looking at specialist assets, there is a new holding in Assura, which was sold in Q419 on valuation grounds, but subsequently moved to a discount to NAV. It is a specialist healthcare REIT, and the manager favours the company’s business model as it has very secure NHS income. The relatively new position in LXI REIT was increased, while the position in International Public Partnerships was reduced. This is one of SIGT’s infrastructure funds; these assets are somewhat defensive and have held up relatively well, so the manager has reduced the trust’s exposure.
Moglione also reduced the trust’s exposure to physical gold, following an appreciation in the commodity’s price, and has added to SIGT’s gold mining exposure. The manager explains that at the peak of the fear on 23 March – when one would have expected gold to rally, given its safe-haven status – the gold price actually fell, as investors sold holdings to fund margin calls. Gold miners’ share prices fell by 20–30% in the market sell-off, acting like traditional equities, due to concern that the coronavirus would mean their mines would close. Ahead of the pandemic, SIGT’s total gold exposure was c 7%; it rose to c 10–11% of the fund but is now back at c 7%.