Taking a contrarian stance on the market can generate outsized returns, but the former Scottish Investment Trust was a prime example of the pitfalls of swimming against the stock market tide. The completion of the trust’s merger with JP Morgan Global Growth and Income this week should cement a recovery in performance.
The combination of two of the oldest investment trusts in London produces a fund, trading under the name of the acquirer, with net assets of roughly £1.3 billion and a more solid place within the FTSE 250. Added scale should bring lower third-party investment costs and greater liquidity that could entice more institutional investors, providing more support for the shares. The merger is also set to cut the continuing charge to about 0.55 per cent, a reduction of 11 basis points for existing shareholders.
Scottish Investment Trust had been a perennial underperformer, as a bet on unloved stocks with cheap valuations failed to perform over the long term. Over the decade to the end of last year, when JP Morgan replaced the Scottish trust’s in-house manager, it delivered a share price total return of 246 per cent. In the same period, the JP Morgan trust generated a return of 328 per cent. The benchmark MSCI All Country World index delivered 252 per cent. Indeed, the JP Morgan trust has outperformed its benchmark on ten, five, three and one-year bases.
The portfolios of both the Scottish and JP Morgan trusts were aligned in January, when JP Morgan Asset Management took over investment management duties. At that point, the Scottish trust’s three top holdings were switched from Newmont Corporation, Newcrest Mining and Barrick Gold, the miners, to Amazon, Microsoft and Alphabet, among the biggest of Big Tech.
Some long-time Scottish trust investors might look regretfully at that shift, with the rampant inflation unleashed on equity markets and the boost that has given to commodity companies. Then again, two out of three of those mining companies that made up the top slice of the Scottish trust’s portfolio have underperformed the technology names since the start of the year.
Advertisement
Technology accounts for a decent chunk of the JP Morgan trust, with Amazon still the largest holding. Then again, JP Morgan Global Growth and Income is no diehard technology investort. The recently merged trust is actually underweight in the technology sector compared with its benchmark. Before the merger, the tech sector accounted for 16.5 per cent of the JP Morgan trust’s net assets and 17 per cent at the end of June for the Scottish trust. At the end of last year, the managers started to cut their exposure to the sector, in particular lossmaking companies, with a view that valuations had become egregiously high.
The philosophy adopted by the three managers running the fund is to invest in a balance of sectors and investment styles, with growth and value names in the mix. The newly merged trust is overweight in pharmaceuticals and meditech companies, with the belief that the sector should prove more defensive against an economic downturn, as well as in industrial companies that should have strong pricing power. But then, industries that could benefit from a recovery also account for a decent chunk, with banks, insurance and energy making up just over 20 per cent of the portfolio.
The trust has a policy to pay out 4 per cent of the net asset value, which stands at 443p a share. If that held, it would equate to a dividend of 17.72p a share, which would leave the shares offering a potential dividend yield of 4.2 per cent. That the share price has clung so tightly to the trust’s NAV is a bullish signal.
ADVICE Buy
WHY A more balanced approach to investing could continue to generate higher returns than the benchmark
PPHE Hotels
Advertisement
If ever a company looked like an ideal takeover target, it’s PPHE Hotels. The hospitality group is asset-rich (and perfect-to-be-stripped), owning the freehold of 58 per cent of its hotel portfolio, while the shares trade at a 36 per cent discount to the company’s adjusted net asset value at the end of June.
At that beaten-up valuation, analysts at Berenberg think it could sell its properties, pay off all its debts, return about £22 to shareholders and still have a debt-free management business worth about £100 million.
Crucially for existing shareholders, trading is recovering from pandemic lockdowns. Revenue for the group, which operates under brands including Park Plaza and art’otel, recovered to above 2019 levels during July and August thanks to a jump in room rates. Occupancy during the second quarter was still only 58.8 per cent, compared with just over 77 per cent during the same period in 2019. Staff shortages mean PPHE itself can’t operate at full capacity, but it reckons it has the resources to get back to 2019 levels of occupancy. A further recovery in occupancy in its European hotels, which were under Covid-19 restrictions for longer than the British business, could push profits further towards pre-pandemic levels.
That will take some patience. Analysts expect a return to profitability this year at £2.5 million, but profits are not expected to pass the 2019 level until 2024. Uncertainty over the pace of a recovery means that while the dividend has been reinstated at 3p a share at the interim, a sliver of the 2019 payment of 17p, no formal policy has been put back in place.
Investors should expect margin pressure next year. The company has fully hedged its energy costs for this year, but only 40 per cent for next year — and that was done at more recent expensive rates. At least rising debt costs shouldn’t be as much of a problem. Roughly 88 per cent of the company’s debt is fixed for another five years, with the remaining 12 per cent set to be fixed upon maturity in early 2024. Takeover potential and repairing occupancy levels are the best hopes to catalyse a fuller recovery in the shares.
Advertisement
ADVICE Hold
WHY Could be a takeover target, which would likely send the shares higher
