Private Investor's Diary: Why I'm confident UK stocks will come good

How August went, September continued. News on the inflationary front continued to be encouraging, no more so than in the UK. The fall in the headline rate for August to 6.7 per cent confounded forecasts that it would rise to 7.1 per cent. Even better, the core rate (excluding energy, food, alcohol and tobacco) fell to 5.9 per cent from 6.4 per cent. The news came just in time to persuade the Bank of England's Monetary Policy Committee to hold interest rates at 5.25 per cent. The Federal Reserve held rates steady, but warned it would not hesitate to raise rates further if required. The European Central Bank was the outlier, raising rates by 0.25 per cent to 4 per cent.

Harsh words from the Federal Reserve worked their magic. Treasury bond yields rose to levels last seen before the financial crisis. The 10-year Treasury yield ended the month at 4.6 per cent, and the UK 10-year gilt yield at 4.4 per cent. The US dollar also strengthened, gaining 2.5 per cent against the euro and 3.7 per cent versus sterling. Dollar strength combined with a rising Brent crude oil price – up 6.1 per cent to $92 a barrel – is unhelpful in the fight against inflation.

Against this backdrop, equity markets suffered. The US fared the worst, giving up some of this year's gains. The Nasdaq composite was off 6.1 per cent, and the S&P 500 down 4.8 per cent. Continental European markets followed, with the Dax down 3.5 per cent as its manufacturing sector was hit by high energy costs. The French Cac was off 2.4 per cent, and the Italian MIB 0.7 per cent. In Asia, the Hang Seng fell 3.1 per cent (down 9.9 per cent this year) and the Nikkei 225 fell 2.3 per cent (up 23 per cent this year). That leaves the UK – which, despite the gloomy background, was relatively resilient. The FTSE All-Share (TR) Index gained 1.8 per cent, with the FTSE 100 up 2.3 per cent. The more economically sensitive small and mid-cap indices continued to lag, however. The FTSE 250 was down 1.5 per cent, and the Aim All-Share down 1.9 per cent.

Unfortunately, as September went on, October also continued, at least to start. The bond sell-off accelerated into the first week of the month. The 10-year US Treasury yield rose to 4.8 per cent, levels last seen in July 2007. In the UK, the 10-year gilt yield hit 4.6 per cent (the highest since 2008); in Germany, the 10-year bund yield touched 3.0 per cent, its highest since 2011. Less than two years ago, people were happy to buy German 10-years on a negative yield. It's a mad, mad, mad, mad world. Equity markets did not like it and fell further in the first week of October.

Portfolio performance

The JIC Portfolio was up 0.5 per cent in September, so that year-to-date it is down 8.7 per cent. The FTSE All-Share is up 4.5 per cent this year. Since its inception in January 2012, the JIC Portfolio has gained 292.3 per cent, equivalent to annualised growth of 12.4 per cent. By contrast, the FTSE All-Share (Total Return) Index is up 121 per cent, with an annualised gain of 7.0 per cent. Over one year, the JIC Portfolio is down 3.3 per cent versus a gain of 13.8 per cent for the index, and over five years JIC is up 40.4 per cent versus 19.7 per cent for the index.

The Funds Portfolio was up 0.8 per cent compared with a 0.3 per cent drop in the FTSE All-World (GBP, TR) Index over the month. For once, the portfolio's lack of exposure to US large-cap tech helped. So far in 2023, the portfolio is down 3.2 per cent versus a rise of 8.8 per cent for the FTSE All-World (TR, GBP). Since this portfolio's inception in June 2020, it is up 24 per cent compared with 35.7 per cent for the All-World.

In the JIC Portfolio, the main positive contributors to performance were Sylvania Platinum (SLP), up 19 per cent, Glencore (GLEN), up 11.5 per cent and IG Design (IGR) up 4.7 per cent.

Sylvania Platinum published its results for the year ended 30 June, which included a final dividend of 5.0p. That made a total of 8.0p for the year, giving a yield on the day of the results of 11.4 per cent. Also, with net cash of £98mn, the enterprise value (market capitalisation minus debt) was just £86mn. Stripping out the cash left Sylvania Platinum valued at two times free cash flow. That looked very cheap, especially considering its recently announced joint venture, which will add chromium to its production profile. The market seemed to agree with me and rewarded me with a 19 per cent recovery in the share price. At 79p, it is the same price as in December 2020. However, over that time, I have received 21p of dividends, giving a return of around 9 per cent per year. I will keep collecting the dividends while I wait for capital appreciation, which higher platinum group metal prices are likely to spark. It goes ex the final dividend of 5.0p on 26 October.

There was no news from Glencore in September. The rise in the share price was purely a recognition of the value on offer following its 11 per cent fall in August. It is buying back shares and was offering a dividend yield of 9 per cent.

IG Design continued the recovery in the share price that commenced in August. Based on last year, I expect a trading update around 20 October.

The leading detractor was Shoe Zone (SHOE). An absence of news saw the share price drift 8.3 per cent. I expect a trading update towards the end of October, showing continued business momentum.

IG Group (IGG) issued a solid trading update. Summer activity was down, but it benefits from higher client money returns. It was down 4.9 per cent, but that was accounted for by it going ex-dividend at 31.94p per share.

The Funds Portfolio

Nippon Active Value Fund (NAVF) was the best-performing position in the Funds Portfolio. It gained 13.6 per cent. Other returns over the month fell between Temple Bar Investment Trust (TMPL), up 3.3 per cent, and Smithson Investment Trust (SSON), down 3.5 per cent. Juicy discounts to net asset value (NAV) are available in the investment trust sector as investors abandon equities for cash. The most significant discount in the Funds Portfolio is currently NextEnergy Solar Fund (NESF) at 23 per cent. The other double-digit discounts in the Funds Portfolio are Smithson (-13.5 per cent), Schroder UK Mid-Cap (SCP) (12.2 per cent), BH Macro (BHMG) (11.2 per cent) and Fidelity Asian Values (FAS) (10.3 per cent).

Activity

I sold two positions in the JIC Portfolio during the month, using the proceeds to increase my exposure to other holdings. On 15 September, out went Howden Joinery (HWDN) at 753p per share. I extolled the virtues of Howden when I added the position in April, but in these markets, more attractive opportunities regularly appear. I had made a 12.3 per cent profit and had a nagging fear that there would be a risk of a slowdown in high-value discretionary consumer spending come the autumn. The downturn in housing transactions and higher interest rates could impact demand. Was that risk reflected in Howden's valuation? I didn't want to find out. I had better opportunities for the proceeds. I also sold Brooks Macdonald (BRK) on 25 September at 1,754p. In its results, it warned that its first quarter ending 30 September was likely to see fund outflows. The share price dropped to my review price, and I concluded I would focus my exposure on Hargreaves Lansdown (HL.) instead. I exited Brooks Macdonald for a tiny profit.

I added to Hargreaves Lansdown on 25 September at 828.9p, taking the position up to my target weight of 5 per cent. Hargreaves Lansdown looks much more attractively valued and has reasonable momentum in its business. Results for the year ended 30 June came in ahead of expectations. Revenue was up 26 per cent to £735mn, and underlying profits before tax were up 47 per cent to £438mn. It has benefited from earning higher income on its clients' cash holdings. Still, one would expect that, once that game is over, as interest rates settle or fall, it will benefit from more favourable investment markets. I think the valuation is discounting too bearish an outlook for a company with such a commanding position in the UK retail investment market. On current forecasts to June 2024, it is on a price/earnings (PE) ratio of 11.5 times and yields 6.1 per cent. It goes ex its final dividend of 28.8p in respect of June 2023 on 16 November.

In August's review, I described the valuation of IG Group as “bonkers”. I added to the position on 21 September at 633.3p. As I write on 4 October, it is on a prospective May 2024 PE ratio of 6.2 and a yield of 7.6 per cent. I added to my positions in commodity stocks – on 14 September to Ecora Resources (ECOR) at 108.3p and on 15 September to BlackRock World Mining (BRWM) at 609.4p. They go up to 5 per cent and 7.5 per cent of the JIC Portfolio, respectively. Half-year results from Ecora Resources were up against a challenging comparison, given elevated commodity prices in the aftermath of the Russian invasion of Ukraine. The results were much in line with reduced expectations, given previous updates from the company. Management has been busy increasing its exposure to commodities required to move to a net zero world, and shareholders should reap the benefit once commodity prices recover. In the meantime, it pays an attractive yield of 7.2 per cent. Again, there were no trades in the Funds Portfolio.

Other news

Serica Energy (SQZ) released its half-year results to June 2023. Cash flow was robust and benefited from the tax losses acquired with the Tailwind acquisition at the turn of the year. The energy profit levy has forced Serica to focus on short-term fast payback investments. Due to maintenance downtime, it reduced its yearly production guidance from 40,000-47,000 barrels of oil per day (boepd) to 40,000-45,000 boepd. The interim dividend was increased to 9.0p from 8.0p last year. All things being equal, I expect a similar increase in the full-year dividend, making a full-year total of 24p or 25p against the previous year's 22p. Taking 24p leads to a dividend yield of 10.6 per cent at the current price of 226p. The shares are valued at around 2 times free cash flow and fall into my "bonkers" cheap category. Given the political background, Serica may struggle to look anything but cheap. Still, for the moment, it is ludicrously cheap and, given higher oil process (Brent oil is $92 per barrel today) and gas prices, I'm happy to watch the cash flow and collect my dividends. It goes ex the 9.0p interim dividend on 26 October.

First-half results from Niox (NIOX) on 26 September confirmed what we already knew – it had a strong first half with clinical revenue growth of 28 per cent to £16.7mn. Ninety per cent of clinical revenue was from recurring test kit sales. Sales during July and August aligned with expectations, suggesting a continuation of the first half growth. It paid its first dividend of 2.5p per share last month. We will have to wait until the year-end to hear what it intends to pay regarding calendar 2023. With robust cash flow, I expect regular dividends in future.

Dividend update

September was a good month for dividends, with Ecora, Brooks Macdonald, IG Group, Harbour Energy (HBR) and BlackRock World Mining all going ex-dividend. By the end of the month, I had received dividend income of £23,744 this year. Another £9,372 has been declared, given a significant boost by Hargreaves Lansdown and Serica Energy. The £9,372 will be received by the end of December, taking 2023's total to £33,117. That surpasses 2022's total of £31,104. With undeclared dividends from the likes of Bioventix (BVXP) and Polar Capital Holdings (POLR), I expect the total for 2023 to exceed £36,000. That gives a yield on the JIC Portfolio of around 6 per cent. I feel comfortable with this approach in current market conditions. Given high interest rates and economic uncertainty, it is not time to chase growth. I don't know when things will improve, so I am happy to collect dividends and reinvest them to contribute to the long-term compounding of returns in the portfolio. The important thing is to be confident that the dividends paid by my investments are safe and, in most cases, have the potential to grow, at least in line with inflation.

Outlook

The past year or so has been a long grind, and even to an eternal optimist, it starts to become wearing. The bear market in mid and small-cap stocks has been going on since the summer of 2021. In my review of June 2021, on turning 60, I mused on the fact that legendary US investor Warren Buffett had made over 90 per cent of his money after age 60. To make 90 per cent of one's wealth between the ages of 60 and 90 requires a compound return of 7.7 per cent a year – something I thought eminently achievable.

A quick progress report: The value of the JIC Portfolio in June 2021 was £695,941. A compound annual return of 7.7 per cent would get it to the required £6,959,410 by June 2051. Starting from this June's valuation of £592,103 requires a yearly return of 8.8 per cent to reach the target of £6.96mn in 28 years. It's more challenging than 7.7 per cent, but I still think it's achievable. The future returns one makes are highly dependent on the value paid. With the current low valuation of the UK market, I remain confident that, eventually, there will be a period of robust returns – it's just difficult to imagine it now.