IC Top 100 Fund Murray International Trust (MYI) has a strong long-term performance record. However, last year the trust underperformed its benchmark and peers. So what went wrong?
"Twelve months ago when we were considering what lay ahead in 2013, we thought one of the biggest challenges was how we could preserve capital in a world where quantitative easing was likely to be withdrawn," says Bruce Stout, manager of Murray International. "We went into the year with a defensive portfolio achieved by means of diversification, in terms of holding different businesses, sectors and regions. This meant a portfolio which is very different from our benchmark."
The trust has a composite benchmark of 40 per cent World UK and 60 per cent FTSE World ex UK.
Going into the financial crisis the trust had around a quarter of its assets in bonds. "Six years ago (at the time of the financial crisis) we had the option of holding bonds because sovereign balance sheets were stronger. But we did not have that option last year, which was one of the worst years for bonds in the past 20 years," he says.
The trust has its lowest ever weighting in bonds at around 8 per cent of assets because Mr Stout is finding no value in developed market fixed income, and says, for example, UK and US government balance sheets are "shocking". He does not anticipate raising the trust's weighting to bonds unless there is a bit of a sell off because he likes to buy bonds below par. Most of the bonds he holds are from emerging markets issuers.
Bruce Stout CV Bruce Stout is a senior investment manager in Aberdeen Asset Management's global equities team and manager of Murray International Trust. He joined the company in 1987 via the acquisition of Murray Johnstone, where he has held a number of roles including investment manager on the emerging markets team. Mr Stout graduated with a BA in Economics from the University of Strathclyde. |
The trust's underweight position in the US and Japan reduced performance in 2013 as these were two of the best-performing markets last year. Mr Stout feels that modest earnings growth in the US does not justify the strong US market rise last year. "You can only justify high multiples if companies deliver higher returns for their shareholders," he says. "That is why we are so cautious and want to protect shareholder capital.
"US companies don't have the earnings growth, and there are many profit warnings. The deflationary environment is also bad for prices and they just can't grow their top line."
The S&P 500 rose nearly 30 per cent in 2013 but only delivered 4 to 5 per cent earnings growth.
The trust's substantial holdings in Asia and Latin America also had a negative affect on performance.
"The icing on the cake was that a lot of lower-quality companies performed well, for example, leveraged financials and property companies, many of which pay no dividends and have stretched balance sheets," continues Mr Stout. "These can deflate as quickly as they inflate."
He adds: "We aim to protect capital and grow the dividend, so we seek higher quality and financially sound companies. Most of what we owned performed in line with dividend growth expectations but the share prices didn't do much. It doesn't mean there is anything wrong with the companies, and if they continue to grow and prosper when the market focuses on fundamentals they will be rewarded. You have to remain very disciplined in a period of speculation such as this, which we have been through before."
For this reason Mr Stout is not looking to make substantial changes to the portfolio or change his investment methods.
"Over the long term if the companies we invest in keep on delivering earnings and dividends they will be priced correctly eventually," he explains. "But a situation like the present can persist for a while. We don't try and predict market timing because sentiment is one of the most fickle aspects of investing. At the end of the day, we stick to our process: buy the best quality companies for the cheapest prices - but our process won't always be recognised by stock markets year in, year out."
Mr Stout and his team are focused on whether a company's business model is delivering. "And when you get vicious capital swings and emerging markets currencies underperform, that is an opportunity to buy companies there at a much bigger discount," he says. "The weak currency increases the competitiveness of the companies domiciled there."
Although Mr Stout typically picks companies according to their attributes rather than allocating by sector or region, he says Murray International's significant weighting to Asia and emerging markets "is because you can find the best profit and dividend growth there at the cheapest prices". "In 2013 there was a poor return from Latin America overall, but our Mexican companies made a positive return and exceeded earnings and dividend expectations. We have owned some of these for 10 years and they have continued to deliver, but last year their share price was flat," he says.
Currency has also detracted from returns. "Sterling was up against just about everything we invest in," says Mr Stout.
For example, sterling increased 17 per cent against the Brazilian real, 27 per cent against the Indonesian rupiah and 27 per cent against the South African rand.
"We don't hedge because it is too expensive: if you have multiple currency exposure you would have to have an awful lot of hedges," he adds. "And you might get it all wrong."
An area he is more interested in is what he describes as real or hard assets, so he has bought companies such as Canada's Potash Corporation (Can: POT), miners Vale and BHP Billiton (BLT), and energy companies Total (Fr: FP) and Eni (IT: EN).
"These yield around 4.5 to 5 per cent, and offer good dividend growth backed up by assets," he says. "The trust aims for a fully covered dividend increase every year and we are very focused on that because it is what shareholders want, but not by buying yield stocks. We prefer companies with strong fundamentals and lots of free cash flow."
