Around the world in 8 investment trusts 2020

Once a year the Investors Chronicle employs the services of globe-trotting 19th century adventurer Phileas Fogg to take readers around the world in eight investment trusts. Known for his cool head and steely nerves, we reckon it is hard to think of a better fellow to take one on an international investment adventure – and given he’s a fictional character there’s the added advantage that he offers very favourable freelance rates!

As a logical and matter-of-fact sort, Mr Fogg plans by referencing two of the most established principles for identifying potential future outperformance: share price momentum and value (see 'How Fogg Picks Trusts' for more details). This selection process has served Mr Fogg pretty well over the years, and returns were strong over the past 12 months. There is a bit of a wrinkle in this year's selection though as Mr Fogg put his list together before the recent announcement of the Pfizer Covid-vaccine trial results. The good news is a number of the trusts he's selected stand to benefit from the vaccine advance, although, some of the potential upside been realised before publication. On that score, readers should double check share prices as those given in Mr Fogg's tables could be out-of-whack with recent sharp moves.

12-month performance

Source: Thomson Datastream

Since starting to follow Mr Fogg on his investment trust adventures in late 2012, he has racked up a cumulative total return of 134 per cent, or 107 per cent after applying a notional annual dealing charge of 1.5 per cent (the results of this screen are considered as ideas for further research rather than an off-the-shelf portfolio). That performance compares with 46 per cent from the FTSE All-Share and 169 per cent from the MSCI World Index over the same period.

The strength of last year’s picks is perhaps a little surprising given a number of the trusts selected were focused on the out-of-favour 'value' investment style. The reason for this is that this time last year 'value', which has underperformed for over a decade, was going through a fleeting purple patch. This meant these trusts scored well based on Mr Fogg’s momentum criteria.

 'Value' investing involves buying cheap-looking shares in the belief that they will revert to higher valuations. Over the past decade, the approach has been disappointing. A number of these value-focused trusts did indeed go on to disappoint, especially in the wake of the March market crash which pummelled advocates of this investment style. 

However, while value-focused investment trusts were showing good momentum in November 2019, those investment trusts focused on growth look relatively good value based on Mr Fogg’s criteria of looking for higher than usual share price discounts to NAV per share. Here we see the craftiness in Mr Fogg’s methods. Indeed, when choosing an Asia Pacific trust he swooped on growth-focused Pacific Horizons trust, which had seen its shares move to a discount. Since then, the trust’s shares have shot the lights out and moved to trade at a near-20 per cent premium to NAV. On that one bet, Mr Fogg more than doubled his money.

This year's picks

This year’s trust picks are an eclectic and often contrarian bunch. Such a wide-ranging selection seems characteristic for a man like Mr Fogg, as attested to by his eclectic travelling companions on his original 80-day circumnavigation of the globe: his dogged, devious but bumbling pursuer, Inspector Fix; the beautiful and vulnerable, princess Aouda; and his manservant, Jean Passepartout, who blends incompetence and resourcefulness in near-equal measure. 

Indeed, Mr Fogg is a man to judge on individual merits rather than what the wider world may perceive. And let’s be blunt, looking at the long-term performance of a number of his investment trust picks this year, it takes a kind heart to appreciate the investment case. As we track Mr Fogg around the globe, we’ll try to take a Foggian approach to seeing the good in his trust picks.

Mr Fogg does take on significant risk should the rewards be right: from rescuing Aouda from a sacrificial pyre, to fomenting mutiny on a cargo ship. For all his cool, calculated logic, Mr Fogg is happy to chance it, which is also a feature of his trust selection this year. 

As usual, with the wager placed, we will follow Mr Fogg eastward. We’ll start with a UK equity trust pick to bid bon voyage to home shores. We then move to Europe. Then further east into emerging market territory, the Asia Pacific region and Japan. Then it's across the Pacific Ocean to the US. On the way back to Britain we’ll reminisce of the adventure with a Global investment trust pick before finally arriving back home with a UK equity income play.

So without further ado, let’s join Mr Fogg on his trip around the world in eight investment trusts.

Source: Winterflood Securities

UK 

Source: Winterflood Securities/FactSet

For a few years now, Mr Fogg’s choices of UK trust has been rather duff. 2018 saw a disastrous contrarian bet on Woodford Patient Capital, while last year’s pick was value-focused Aurora, which started off well, but ended badly. With Aurora (ARR), Mr Fogg is hoping it will be second time lucky as it is once again his top UK pick.

The trust has had a bit of a rollercoaster 12 months. The shares surged on news that the first phase of Brexit had been agreed, but then collapsed as lockdown measures came into force. 

The yo-yoing reflects the fact that the trust’s highly concentrated portfolio (typically about 20 holdings) contains many domestically-focused, cyclical plays that have experienced trading difficulties prior to Aurora’s purchases. Aurora is known for its deep research of stocks. Its investments tend to represent a bet that a company’s troubles are temporary and that the market has been too aggressive in marking the shares down. This type of investment tends to be very sensitive to external factors, whether good or bad. The experience of the last 12 was initially heavy on the good and then heavy on the bad.

While the shares have had a strong recent run, the portfolio is still very much feeling the pain of the corona-crisis. It is packed with consumer-facing stocks and airlines. However, the trust’s manager has often done very well following periods like this. That seems fitting given the name of the trust’s management company – Phoenix.

It was 2016 when Pheonix became Aurora’s manager, with highly regarded value investor Gary Channon at the helm. However, the trust mirrors the approach of another Phoenix fund with a track record dating back to 1998. Phoenix has recently pointed out that, by its estimates, the portfolio was valued at a 140 per cent discount to the estimated “intrinsic value” of holdings. Broker Liberum has pointed out that when valuations have got this extreme for Phoenix UK in the past, which has happened at the end of 28 previous quarters, it has been followed by strong outperformance over three years averaging 61 per cent, or 17.2 per cent annualised.

The manager is well incentivised to pep up performance as Phoenix only gets a fee if it outperforms the FTSE All-Share. What’s more, the fee is paid in shares, and is subject to a high water mark and a three-year clawback period. 

That’s all well and good, but following 'value's' decade-long mauling, it feels as though Mr Fogg is once again taking a bold leap of faith. Should the move pay off, though, the rewards could be handsome. The recent positive Covid-19 vaccine news is a big positive and so too could be a market-pleasing phase-two Brexit outcome.

Europe

Source: Winterflood Securities/FactSet

The pandemic has marked something of a favourable change in fortunes for JPMorgan European Smaller Companies investment trust (JESC). It was not that it had a poor record before the corona-meltdown, but changes made to the portfolio in reaction to events seem to have turbo-charged the portfolio since March lows.

The trust’s managers made the decision to jettison holdings in more cyclical companies as markets tanked and instead hone in on businesses that were likely to benefit from trends that the pandemic was likely to reinforce. 

While the manager’s investment approach is based on analysing individual stocks, there are three strong themes in the portfolio that account for about half all holdings. The themes in question are: sustainability, which should be boosted by the EU Green Deal and the new US presidency; wellbeing; and technology. Not only has this focus helped performance, but so has the focus on smaller companies, which in contrast to US counterparts have outperformed European large-caps recently. The manager puts this down to uber-loose monetary conditions, which could continue for some time.

The portfolio itself is made up of about 60 stocks and the top 10 holdings, which provides it with a degree of concentration, but not aggressively so. A more distinct feature is the trust's commitment to use gearing actively. Gearing involves a trust borrowing money to buy shares to try to get extra benefit from good times in the market. Poor timing of such moves exacerbates poor performance, though. It’s of note that use of gearing helped support the advantageous Covid reshuffle.

While the trust’s current discount is not noteworthy compared with its own history, it is one of the cheaper trusts in the sector. While that looks understandable based on long-term performance comparisons, if the recent pick-up in returns continues there is scope for the discount to tighten. 

Emerging markets

Source: Winterflood Securities/FactSet

Frontier markets are cheap. Indeed, at the end of September the BlackRock Frontiers investment trust (BRFI) put the trailing price/earnings (PE) ratio of the markets it invests in at just 9; close to the lowest point in 10 years. The issue investors may have with this observation is that it has been possible to describe these markets as cheap for quite a while and they have just carried on getting 'cheaper'. 

BlackRock Frontiers defines its investment universe as all emerging markets outside of the largest eight. The trust is able to go short on stocks using CFDs, but the portfolio is predominantly 'long'. 

Covid-19 represented a really big hit for frontier markets, which generally represent the least stable emerging market economies. Not only do frontier economies tend to look fragile in terms of gross domestic product (GDP), they also tend to suffer big currency falls at times of economic stress. This makes major negative global events, such as the great financial crisis and now Covid-19, particularly painful.

Generally, BlackRock Frontiers’ aim is to capture the upside of such cycles as economies emerge from a slump, currencies appreciate and growth expectations improve. In normal times, these economies tend to have different cycles. However, things change when a single major event takes down all comers. The opposite has the potential to hold true, though, as the world recovers from the pandemic. With a view to playing a recovery, the trust has been leaning towards cyclicals over growth stocks. The positive spin that has been put on the US presidential election results for emerging markets may well help sentiment.

The trust also sees its portfolio as offering diversification from the risks associated with investors’ current fixation with big tech stocks in China and the US. The trust also put a focus on dividend-paying stocks, which supports the trust’s own income credentials, although Covid-19 has seen some cuts by companies in the portfolio.

In all, the trust looks like another contrarian bet by Mr Fogg that could indeed do well should there be a change of mood. Recent vaccine developments should help.

Asia Pacific

Source: Winterflood Securities/FactSet

The stand-out feature of Mr Fogg’s Asia Pacific trust choice, Pacific Assets (PAC), is not its performance but its strong credentials as an ethical investor. The management company, Stewart Investors, has a long pedigree running ethical portfolios. With the investment world now in thrall to the cause of environmental, governance and social (ESG) investing, and the US likely to soon properly get behind the movement, it should be the trust’s time to shine. Unfortunately, Pacific Assets’ lacklustre recent investment performance has cast a shadow over this big selling point.

A key issue for the trust is that it has given China a wide berth, and in particular the country’s internet plays. The manager did instigate some positions in Chinese companies during the market crash and is keeping the country’s internet plays under review. Still, exposure is low. That’s a big problem as this is where the action has been for investors in the Asia Pacific region for some time, and particularly since the corona-crash. 

Some of the reasons for the trust’s reticence towards investing in China is that it is wary of governance standards in the region. From this perspective, it is somewhat ironic that last month KPMG had to resign as the trust’s auditor after realising its re-appointment in 2017 represented a technical breach of the requirements of the Companies Act 2006 relating to the rotation of auditors. 

While avoiding China, the trust has bet big on the Indian market. India has had a terrible time dealing with the pandemic. And after suffering a major economic setback, it may struggle to dish out the stimulus needed for a strong recovery given nearly half of the country’s debt is denominated in overseas currencies, which means it has limited wriggle room.

Should Pacific Assets' performance pick up, the manager’s well-established ESG credential could prove very beneficial in attracting buyers to narrow the discount. That said, this is another one of Mr Fogg’s picks that looks in need of a noteworthy swing in sentiment. The recent US election and vaccine news could help here.

Japan

Source: Winterflood Securities/FactSet

Japan has recently attracted investors' attention following a major investment by Warren Buffett, the Sage of Omaha. However, Atlantis Japan Growth (AJG) ploughs its course well away from the giant Japanese trading houses where Mr Buffett staked his $6bn bet. Atlantis invests in smaller growth plays, and has done well from this focus over recent months.

As investors have warmed to the prospects of a recovery in Japan, the share prices of small growth companies have benefited more than most. The trust sees opportunities emerging from the pandemic based on the acceleration of several trends such as tele-working and digitisation. It also sees potential to profit from a pick-up in merger and acquisition activity and reshoring. 

The political backdrop also looks favourable, with the country’s newly appointed prime minister, Yoshihide Suga, expected to continue the reform agenda of his predecessor, Shinzo Abe. Meanwhile, financial support is being given to the country’s hard-hit hospitality sector to help the broader economic recovery.

While the trust’s performance since March lows has been good, its low valuation relative to peers reflects a relatively lacklustre longer-term track record compared with the competition. That said, it has outperformed both the Topix Small Cap and MSCI Small Cap indices over one, three and five years. It recently introduced a dividend policy to pay out 1 per cent of average NAV every three months, which is the type of thing that tends to play well with investment trust buyers. 

US

Source: Winterflood Securities/FactSet

The US presdiential election result combined with news of vaccine progress has led to a massive one-day rotation in US market trends away from big tech and into small-cap value stocks. It is propably premature to say whether this switch-about has legs, but it certainly has some signficance for Mr Fogg’s America pick, JPMorgan US Smaller Companies (JUSC).

For US small-caps the election outcome can probably be seen as a win some, lose some kind of affair. The big benefit is that the new president is unlikely to be willing or able to reverse the Trump corporate tax cuts, especially during trying economic times. However, the curbs on the new president's power could put limits on stimulus that small-caps would be big beneficiaries of. Potentially a bigger stimulus for smaller companies though is positive vaccine developments. This could underpin a recovery in this hard hit part of the market.

The trust has a pretty decent long-term track record under the charge of long-term manager Don San Jose and it came through the recent Covid-crisis well. The manager’s approach is to hold shares in companies with durable franchises, stable earnings and strong management teams. The trust also recently ditched exposure to direct energy companies based on what it perceives to be a dire outlook.

From an investment trust industry perspective, it is of note that the only other US smaller companies trust, Jupiter US Smaller Companies, has recently announced the retirement of its long-standing manager. There is perhaps some chance this will have implications for the JP Morgan fund because this part of the market is so incredibly niche.

Global

Source: Winterflood Securities/FactSet

Mr Fogg’s global pick is not your usual generalist trust. AVI Global (AGT) is a value investor, but one with a penchant for growth socks, which is not as contradictory as it may first seem. 

On the value side of the equation, the trust focuses on buying holding companies and family businesses that are valued at a discount to their own holdings. On the growth side of the equation, much of the success the trust has had recently has been based on buying into holding companies that have stakes in very racy growth businesses. 

For example, recent strong performance has come from Swedish holding company VNV, which AVI bought into earlier this year due to its holding in a tele-medicine business called Babylon. Other holdings of this oeuvre include Kinnevik and Softbank. At Softbank, AVI is among investors pressuring for improved governance.

The trust’s biggest position at almost a fifth of the portfolio is a“basket” of Japanese special situations. Here, too, it is working as an activist to try to unlock value. This has been a strong contributor to performance over recent months and has benefited from increasing pressure for Japanese organisations to replace ancient IT and bureaucratic systems – the fax is still a thing in Japan.

The investment approach used by AVI means that investors are effectively buying a discount on a discount. At the end of September, AVI calculated that its portfolio was trading at a 35 per cent discount to NAV.

While there are things for growth investors to like about AVI Global based on underlying holdings, value still plays a big part in the approach and is likely to have been a major reason for the trust’s long-term underperformance. This is an interesting trust, though, offering investors something fairly unique. 

UK equity income

Source: Winterflood Securities/FactSet

Returning to home shores with Mr Fogg’s final UK pick, we see the great globetrotter doubling down on the themes that underpin his Aurora bet. This year’s equity income pick is Temple Bar (TMPL), which has recently been placed under new, Aurora-like (arguably Aurora-light) management. 

The trust, which has long focused on a value investment approach, was pummelled by the market crash in March and has failed to keep up with the market recovery since. Meanwhile, the long-standing and respected manager of the fund, Alistair Mundy, had to step down mid-crisis for health reasons. 

The board of the trust has now appointed respected value-focused firm RWS to manage the fund. Two highly experienced hands have this month taken the helm: Nick Purves and Ian Lance, both of whom have three decades of experience.

The portfolio will now focus on 30 high-conviction bets where the managers reckon market valuation represents a big discount to “intrinsic value” on a five-year view. There will also be a focus on sustainable and responsible investing, as well as balance sheet strength.

What is also being regarded by many as a big change is the decision to cut the trust’s dividend by a quarter to 38.5p. That said, many 'income' trusts are now generating cash to pay their own dividends by selling portfolio holdings due to falling dividend payouts. This is often done using an accounting gimmick called 'revenue reserves'. So given the robbing-Peter-to-pay-Paul nature of paying income from liquidating capital, a straightfoward logical chap like Mr Fogg is unlikely to see much significance in the change to Temple Bar’s dividend policy. 

The bigger issue is that while the value funds Mr Purves and Mr Lance currently run for RWS have done very well over the long term, over the past decade they have faced the same travails as other value investors. That means this is another situation where Mr Fogg will need sentiment to turn. The positive vaccine news is a definite move in the right direction and positive Brexit developments also offer potential boosts. The wide discount and concentrated portfolio could be expected to deliver bumper returns should the wind turn in the trust’s favour.

We’ll catch up with Mr Fogg and his investment trust pick again next year. Until then, happy adventuring!