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Condemned to optimism

Arguably it was disappointing – surprising, even – that a portfolio orientated towards value – that’s the nature of any high-yield portfolio – should underperform a falling market; after all, bearish times are usually when growth stocks get punished the most. Putting a veneer of rationality onto that, it’s fair to suggest that, in a world where interest rates of all sorts are expected to rise for some while, the attraction of high-yield equities is getting tarnished because the presumption is that their scarcity value will be diminished.

Be that as it may, stock-specific factors also took their toll on the portfolio. The price of its biggest holding – foundries’ consumables supplier Vesuvius (VSVS) – fell 14 per cent on the month, presumably because Vesuvius is a geared play on global manufacturing output, the pace of growth of which looks increasingly threatened.

Not that the shares are necessarily cheap even at their reduced level of 555p, 16 per cent below their 12-month high. Granted, a rating of less than 12 times 2018’s likely earnings does not look demanding, but Vesuvius has yet to prove that its ability to generate free cash is sufficient to justify even that price.

So perhaps I should remind myself that a big factor behind the share price’s success is that over 95 per cent of Vesuvius’s revenues are in non-sterling currencies, making the shares a great play on the pound’s post-referendum weakness. That effect may be close to exhaustion, in which case I might want to realise the fairly substantial profits still on offer from the income portfolio’s holding. Except that I rarely operate on such short-term considerations; especially as Vesuvius has the great merit of being a global leader in supplying must-have consumables even if demand for them is tagged to iron and steel production.

Similar comments could be made about touch-screens maker Zytronic (ZYT), whose share price fell 12 per cent on the month, although it has been on a downward trajectory for over a year. The latest blow was when management acknowledged that the group won’t even make reduced expectations for the year to end September. The good news is that this is partly because of the up-front costs of accommodating new business.

Meanwhile, Zytronic continues to churn out cash. At the year end it had £14.6m – and no debt – compared with an equity market value of £63m. Yet, even at their depressed level, the shares remain highly rated – 18 times earnings for the year just ended – and at a price (403p) that my valuation models struggle to call ‘cheap’.

Happily, almost three years ago I sold half the income portfolio’s original holding in Zytronic at a price that left the remaining half in the fund at an effective cost of zero. So I’ll stick around to see what the group’s bosses say when they release full-year figures next month.

Meanwhile, the thought inevitably arises: has the market’s fall-out thrown up some good value? Such a question may well be a triumph of optimism over realism. After all, the All-Share index is only 9 per cent off its all-time high set in May. It could yet fall much further, although that’s likely to depend on whether the coming global recession is just a run-of-the-mill affair or whether something nastier develops. Who’s to say how that transpires, but it hardly takes a genius to spot that the willingness to co-operate internationally, which helped prevent various scrapes turning into full-blown crises in the past 60 years, is now chiefly noticeable by its absence. Couple that with excesses building in the global financial system and there could be fun and games in the offing.

Despite this, to be an equity investor is to look for opportunities – it’s what we’re condemned to do – and, on one reading, the fall-out has produced 74 income opportunities within the All-Share index. At least that’s the number of stocks whose prices have dropped over 18 per cent from their 12-month high (or twice the market’s decline) while offering a dividend yield of 3.6 per cent or more on a payout covered at least 1.5 times by forecast earnings. The full list is on an Excel spreadsheet, accessible via the link below.

True, such lists are just the start of the winnowing process. Many of the 74 are the same old high-yield culprits. Yet there are some interesting inclusions, too. Chief of these may be Topps Tiles (TPT), which this column ‘liked’ last month (Bearbull, 12 October 2018). Names that I wouldn’t have expected – and which are all the more interesting for that – are publisher Bloomsbury Publishing (BMY), engineer Severfield (SFR) and drinks producer Stock Spirits (STCK). The latest news on trading from all three has been satisfactory so one wouldn’t imagine that their shares are depressed by short-term concerns. Ditto some of the FTSE 100 companies that appear, such as British American Tobacco (BATS) and DS Smith (SMDS). At the very least each is worth an hour or so of number crunching and thought to see if there is anything worth pursuing. That’ll take my mind off fretting about the bigger picture and I’ll turn to some of these next week.