HL Select UK Income Shares: July Review

Steve Clayton - Fund Manager

9 August 2017

July was a relatively quiet month in the stock market, with little movement in the broader market, which rose just over 0.6%. Being absent from commodity sectors was a headwind, for these areas did well. Some of our specialist financials holdings helped to offset a weak performance by Provident Financial.

Below we highlight the biggest positive and negative contributors to fund performance in July. However this is over a very short period and past performance is not a guide to future returns.

Biggest positive contributors

Positive Performers, adding 0.2% or more to the fund’s value:

Past performance is not a guide to the future. Source: Bloomberg 01/07/2017 – 31/07/2017.

Ascential’s interim results were well received by the market, as was a confident trading update from Sanne. Diageo announced a greater emphasis on managing margins upwards, along with a $1.5bn capital return (via share buy-backs).

Closure of the merger with Aberdeen Asset Management drove positive sentiment toward Standard Life, whilst Unilever had well received interims. Tritax announced the purchase of the old power station site near the Dartford Crossing, which it will redevelop into multiple big box assets.

Biggest negative contributors

Negative Performers, subtracting 0.2% or more from the fund’s value:

Past performance is not a guide to the future. Source: Bloomberg 01/07/2017 – 31/07/2017.

Domino’s Pizza fell after reporting robust trading, but with some signs of margin pressure ahead, not least the need to bolster the group’s marketing budget. With the group continuing to gain market share and plenty of growth options at home and abroad, we are sticking with the holding.

Provident Financial continues to suffer from its botched implementation of a new working method in its Home Collected Credit division, which accounts for around a quarter of earnings. We covered this in an earlier blog. With their interims, Provident confirmed their estimate of the costs involved, but it is still too early to say that they have transitioned effectively to the new working model.

Tobacco stocks were hit just before month end by news that US regulators (the FDA) are seeking further powers over the tobacco industry, albeit with no timetable for their actions. The FDA are creating more room for next generation vaping products to receive regulatory approval, presumably in the hope that smokers will switch to these potentially less harmful products.

At the same time, the FDA seeks to regulate nicotine levels in traditional cigarettes. Nicotine reduction was enforced in Europe many years ago, with little visible impact. The industry professes itself well prepared for a shifting US regulatory environment.

AstraZeneca suffered a disappointing outcome to a key drug trial, but we had been reducing our holding in the run up to this news. We sold almost £3m of AstraZeneca shares as the stock had been rising, seemingly in anticipation of a positive outcome. Trial results can go either way and we felt it best to take some risk off the table as a result.

Outlook: uncertainty stresses our focus on financial strength

Overall, July was a busy month for company results and August should see the interim results season pretty much draw to a close. The outlook for the market remains wrapped up in the broader macro environment and much as one might wish to draw a line under it, Brexit will continue to be a major influence upon investor sentiment.

President Trump influences sentiment daily, via his Twitter account, whilst North Korea is predictably unpredictable. With such a challenging macro environment, companies need every bit of their resilience to keep moving forward.

The markets will likely continue to draw support from the high levels of Mergers and Acquisitions activity. The cost of debt remains at very low levels, leaving many companies to conclude that the cheapest investments they can make are via the merger and acquisition (M&A) route, or even in buying back their own shares.

This all makes for a rather unpredictable investment environment; our focus remains on seeking financially strong businesses with growth drivers that are largely independent of the wider economy.

Please note: a connected party of the author holds shares in Standard Life.

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