Ten questions that investors are asking me

04 Apr 2019

  UK | Brexit | equity

Invesco: Ten questions that investors are asking me

Article | 03 April 2019 | Mark Barnett, Head of UK Equities

Mark responds to recent investor questions, sharing his thoughts on topical issues, from the outlook for the UK economy, to tobacco regulation and life for UK companies after Brexit.

Q: What is your outlook for the UK economy?

Underlying economic and corporate data suggest that the UK economy is relatively robust despite the persistent negativity seen since the EU Referendum result. Bearing in mind the increase in government spending confirmed in the Chancellor’s Spring Statement, coupled with the Treasury’s flexibility to provide further injections after Brexit, it feels reasonable to expect the UK economy to remain resilient.

Q: How have the funds1 changed over the past twelve months?

The themes across the portfolios have remained broadly consistent over the past year. The tilt towards UK domestic opportunities has been emphasised, as persistent negativity towards domestic sectors has created further opportunities. We have taken profits from some of the more internationally focussed companies and reallocated this capital into what are, to my mind, better value opportunities within unloved domestic sectors. For example, the portfolios no longer include pharmaceutical company AstraZeneca, but exposure to British retail and real estate companies Next, Tesco and Derwent London has been emphasised.

Q: You’ve talked about the de-rating of domestic equities versus internationally orientated companies since the EU Referendum, but where do you see the floor? How much worse can things get?

Investing in equity markets is inherently risky and nobody can predict with certainty how much further valuations could deteriorate. However, if we look at data from the past fifteen years we can see that the floor (in P/E terms) has historically been around a 30 per cent discount to the wider market. We are experiencing levels of pessimism not seen since the financial crisis:

Figure 1

Source: Barclays as at 31 December 2018. Market = FTSE 350 index.

The inference from this data is that the market is pricing in an impending recession of 3-4 per cent. This feels overly pessimistic and is not supported by underlying economic growth, which has proven relatively resilient.

Q: What part of your portfolio do you think offers the biggest potential at the current time and why?

To my mind, the exposure to UK domestically orientated companies offers the most opportunity within the funds at present. Clarity on our future relationship with the European Union would likely prove a positive catalyst for companies that have de-rated under sustained political uncertainty. Absent a two-year extension, and the additional uncertainty that would come with that decision, it feels we are nearing a point of clarity, if not resolution.

Q: What do you consider the potential catalysts for a revaluation of the UK equity market?

Cheapness. Valuations themselves can become the catalyst for reassessment when discounts become unsupportable. If not, we are likely to see M&A activity. We’ve already seen some of this over the past few months. For example, Dairy Crest, a British focussed dairy business, accepted a bid from Canadian rival Saputo earlier this year.

More broadly, any material uplift in the value of sterling versus international currencies and an end to the Brexit uncertainty could also be potential catalysts for a revaluation of the UK Equity market.

Q: How does the income profile of your funds compare to the FTSE All-Share index?

The UK stock market offers one of the most attractive levels of income of all global markets. However, that dividend income is provided by a highly concentrated group of large-cap companies. I am seeking to provide investors with attractive levels of income, from well diversified sources that have the ability to grow over time. 

In aggregate my portfolios have slightly lower levels of income than the FTSE All-Share index, but the income is better secured by earnings (dividend cover) and with higher growth forecast (according to Bloomberg consensus estimates). As an example, the table below compares the income profile of the top twenty holdings of the Invesco High Income Fund (UK) with that of the FTSE All-Share Index:

Source: Invesco and Bloomberg as at 21 February 2019. Bloomberg consensus estimates. For illustrative purposes only.

Q: Income is important, but what are you doing about capital preservation?

Whilst the portfolios all have a focus on providing income, clearly capital growth is a crucial component of total return. In respect of the portfolios I manage, recent capital growth has been disappointing, relative to the performance of the FTSE All-Share index. As a fellow investor in the funds, I feel the effects of any relative underperformance alongside my clients.

What I would say is that I remain confident in my investment approach and in the opportunities that currently sit within the funds. Despite the volatile and somewhat irrational market pricing we have seen recently, my investment process has not changed. I believe that over time, my positioning of the portfolios will prove correct, and that the funds will be able to deliver both income growth and growth in capital.

Q: How are you managing your exposure to unquoted companies?

Most of the portfolios have some exposure to smaller and unquoted companies. The only exception is the Edinburgh Investment Trust plc, where the board restricts investment in non-listed securities.

Over the past few years we have sought to rationalise the exposure of the funds to unquoted companies, reducing overall levels, in particular removing speculative investments where the likelihood of receiving a meaningful return on investment was deemed to be low.

We have put in place a capital recycling process, whereby any new investment in an unquoted company is only made with the proceeds from earlier investments in this space. This prevents a situation where profits are taken from larger, more liquid stocks, to fund new unquoted investments. Future investments will also only be made as co-investments within “families” of companies, where we can leverage the technical expertise and structure of professional venture capital managers.

Unquoted levels within the funds ranges between 1.5% and 4% of assets (as at the end of January 2019). To put these levels in context, they remain significantly below the regulatory limit of 10% and below the internal limit of 5% +/- 1.5% I apply to all the portfolios.2 

Q: The tobacco sector is out of favour but has seen some improvement year-to-date. Is this a blip or here to stay?

At the start of the year the only number you needed to know when investing in the tobacco sector was eight.  Companies were trading on eight times earnings and yielding eight per cent. That gives you an idea of the level of negativity priced in to the sector.

It is true that we have seen some relief year-to-date. However, the sector remains, to my mind, significantly undervalued. Negativity really centres around fears of increased regulation in the United States and the outlook for next generation technologies, where the success of industry disruptors like JUUL presents challenges to the existing cigarette business. To my mind, these threats are overplayed, and current valuations offer too bleak an outlook of the industry’s future.

We also cannot assume that the outlook for the sector is homogenous. Volume decline within traditional tobacco may be forecast to continue, but the distinction should be made between companies that can continue to gain market share and those less able to do so. I also think that the market has struggled to read across the opportunity presented by next generation technologies, which offer new revenue streams.

Q: Do you think that weakness within the tobacco sector over the past few years has been caused by lower demand due to ESG investing?

To some extent the rise of exclusion-based investing has impacted demand for companies within certain sectors. In the context of the tobacco sector weakness is, in my view, much more linked to regulatory concerns and the market’s scepticism that companies can continue to generate the prodigious cash flows enjoyed historically.


1 Mark Barnett is the named portfolio manager of:

Invesco Income Fund (UK)

Invesco High Income Fund (UK)

Invesco UK Strategic Income Fund (UK)

The Edinburgh Investment Trust plc

Perpetual Income & Growth Investment Trust


2 Regulatory limit applies to open-ended vehicles. The internal limit is set by Mark and he applies it to all portfolios under his management.

Investment risks

The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.

Invesco Income, High Income and UK Strategic Income Funds (UK)

The funds may use derivatives (complex instruments) in an attempt to reduce the overall risk of their investments, reduce the costs of investing and/or generate additional capital or income, although this may not be achieved. The use of such complex instruments may result in greater fluctuations of the value of the funds. The Manager, however, will ensure that the use of derivatives within the funds does not materially alter the overall risk profile of the funds.

The Edinburgh Investment Trust plc

The product uses derivatives for efficient portfolio management which may result in increased volatility in the NAV. The use of borrowings may increase the volatility of the NAV and may reduce returns when asset values fall.

Perpetual Income and Growth Investment Trust

The product may use derivatives for efficient portfolio management which could result in increased volatility in the NAV. The use of borrowings may increase the volatility of the NAV and may reduce returns when asset values fall.

Important information

Where individuals or the business have expressed opinions, they are based on current market conditions, they may differ from those of other investment professionals and are subject to change without notice.

This article is marketing material and is not intended as a recommendation to invest in any particular asset class, security or strategy. Regulatory requirements that require impartiality of investment recommendations are therefore not applicable nor are any prohibitions to trade before publication. The information provided is for illustrative purposes only, it should not be relied upon as recommendations to buy or sell securities.

When making an investment in an investment trust/company you are buying shares in a company that is listed on a stock exchange. The price of the shares will be determined by supply and demand. Consequently, the share price of an investment trust/company may be higher or lower than the underlying net asset value of the investments in its portfolio and there can be no certainty that there will be liquidity in the shares.

For the most up to date information on our Funds, please refer to the relevant fund and share class-specific Key Investor Information Documents, the Supplementary Information Document, the Annual or Interim Reports and the Prospectus, which are available using the contact details shown.

For more information on our investment trust products, please refer to the relevant Key Information Document (KID), Alternative Investment Fund Managers Directive document (AIFMD), and the latest Annual or Half-Yearly Financial Reports. This information is available using the contact details shown.

Share this article