The following 10-minute video includes questions submitted by Investment Trust Insider readers.
In a wide-ranging interview, Barnett:
- explains the similarities and differences of the two UK equity income trusts;
- admits share price performance has been poor (particularly on Perpetual Income);
- but points to strong dividend growth investors have enjoyed;
- states his belief in their undervalued investments bouncing back;
- reveals why he is still enthusiastic about tobacco stocks
- insists he monitors his companies closely, despite this year's slump in Provident Financial.
Can’t watch now? Read the transcript
Gavin Lumsden – Hello, we’re welcoming back Mark Barnett, head of UK equities at Invesco Perpetual. Mark, good to see you again. Now, your last interview was focusing on your big open-ended funds, the income and high income funds, but this time we’re going to concentrate on the two investment trusts you run. Perpetual Income & Growth (PLI), which you’ve run the longest and Edinburgh (EDIN), which you started running after the departure of Neil Woodford.
With the performance issues that there have been recently, there’s been a lot of talk about the commonality, the similarity between Perpetual Income and Edinburgh and I was interested to see there was a good note from Winterfloods, who are broker to Perpetual Income, recently and they said there was 82% commonality between the two portfolios and you can see that from the top ten holdings, there’s the oil and the pharma stocks, the big stocks there.
Mark Barnett – The similarities are going to be more important than the differences over time. Okay so, the funds will perform similarly, it’s me doing it, there isn’t anybody else and the thought process that goes behind these funds is the same. So to be clear, I’m not going to try and differentiate significantly because if I’ve got a good idea I want both funds to benefit. The boards of the funds are obviously different, they’re independent of each other and the board of Edinburgh have created their own guidelines, which differentiate the fund to a certain extent.
GL – Did they ask you to do something a bit different when you started?
MB - They have done. Correct. So when I was pitching for the mandate for Edinburgh they were clear to make the point that they wanted to be different to the Perpetual Income & Growth Trust. So what they did is they effectively encouraged me to own large and mid-cap. So they limited the number of small-caps that I can own because I can’t own any more than 5% of one company within the trust.
GL – So as a result, Perpetual Income has got a higher weighting to smaller and medium-sized companies?
MB – Yes. So that’s the way I would view it. You’ve got a larger skew in that fund towards some of the medium and small companies, which some years works very well and some years less well.
GL – As I said, the ten-year record on both of those funds—Perpetual Income has been yours for all of those ten years and the Edinburgh that you’ve taken on more recently, that’s intact. Ten years, beaten the sector, beaten the index, it’s all good. More recently, in the past three years performance is weaker because of the problems that you’ve been talking about already. I wondered what you say to, particularly, shareholders of Perpetual Income? The share price return there has been particularly poor.
MB – What I would say to those investors is, number one, the ability of the company to continue to grow its dividend is absolutely still there and that’s a very important strategic aim of the board.
GL – The dividends are covered.
MB – They are covered amply.
GL – The capital performance has been poorer.
MB – The capital performance has been poorer, yes.
MB – Look, there’s always ways that you would do things differently and has my process changed over this period of time? No, it hasn’t. Am I doing enough due diligence on the companies that I’m investing in? Yes, I believe I am. Have I been unzipped in the short term by some specific stock issues which have come out of the blue? To be fair, there’s certain things around some of the IP commercialisation companies like Circassia (CIRCI) for instance, which was a trial that didn’t produce the results that I’d expected or with regard to the Provident downgrade and the whole issue around the fine or the FCA investigation. These are issues which out of the blue and very, very difficult to handle.
GL – You are close to these companies?
MB – I am absolutely close to these businesses and the approach that I’ve taken to investing in these companies has not changed.
GL – James Goldstone, a colleague, has taken on a couple of smaller trusts that you had before because previously, you were also running Keystone (KIT) and IP Select (IVPU), the UK part of that. Martin Walker-, so James is now deputising on Edinburgh and Martin Walker, another fund manager, is deputising on Perpetual Income. Does that tell us you had too much on your plate?
MB – No, what it tells you is that I have a team that I work with. That’s always been the case. The team is pretty close knit, it’s a small team. There’s eight investment people on the team, two of them are specifically small-cap and the rest of us are sort of all-cap, if you like, but we work closely together and there is expertise across that team that contributes to the overall investment process.
GL – You obviously see the boards regularly throughout the year at their meetings. What are they saying to you about the recent performance?
MB – Well, they challenge me on it. They want to know what’s working and what isn’t working and particularly, we spend time on the stuff that’s not working, but to be clear, there’s been a lot of good performance in areas of the portfolio as well.
GL – A question from one of our viewers around some of the bigger holdings that you have. Tobacco for example. Is tobacco still a good investment? It’s been great for you and for investors.
MB – It’s been a fantastic investment for a long time. The core investment thesis around tobacco hasn’t changed. These are businesses in a mature industry selling products both in developed and developing markets where they’re very well invested businesses generating a lot of cash and that cash gets diverted to shareholders through a strong and growing level of dividend income.
GL – Which is managing the transition to e-cigarettes?
MB – That’s the core thesis. In the last few years you’ve had a whole new area of opportunity that’s opened up for the tobacco companies and it’s labelled generically, ‘next generation products’, including e-cigarettes, including vaping, including what’s called, ‘heat not burn’, which is heating up tobacco not burning it so you can get the nicotine from that. These products are all growth products and to my mind, the incumbent tobacco players, cigarette manufacturers, will come to dominate this particular area of the market over the next five years because there’s been a lot of new entrants. Very, very small companies have come in, but actually over time, the big guys will control this market in my view.
GL – Your investments are in BAT and Imperial Brands?
MB – Yes and Altria. Altria is held by both. It has been held by Edinburgh for a long time, but also more recently, by Perpetual Income & Growth as well and actually, this area of the market provides years’ worth of growth for these companies.
GL – So an opportunity rather than a risk?
MB – I think that’s transformational for the industry really. So I think the shares to my mind, still look undervalued for the kind of resilience that they offer in dividend terms, but actually, the added attraction now is, you’ve got an engine of growth.
GL – Looking at some of your other big holdings, AstraZeneca (AZN), a drug company, BP (BP), oil giant. Why do you invest in companies like that? You’re an equity income manager, you want dividend growth and they’ve got thin dividends.
MB –They both have static dividends, but they’re obviously quite different businesses, but in both cases I’m optimistic that over the next few years you will start to see that dividend grow. In the case of AstraZeneca we are at a point where their top line is likely to inflect and we’ve seen declines in their turnover over the last two or three years and actually, I think over the course of the next year or two will start to improve. Driven out of success from their pipeline and over time, given the margin dynamics in that industry and actually, the profitability of some of their new products is greater than the legacy, the stuff that’s going off patent. You’ll start to see that impacting their earnings base and then that will have an impact on their ability to pay dividends.
GL – Looking ahead. Don’t look backwards, look ahead. Broadly, what is the outlook for global equities?
MB – I think the starting point has to be, we’ve performed very, very well. Equity markets have performed very well over the last few years and the asset class on the whole does not look cheap. Within that though, there are opportunities and one of the bigger opportunities in the UK market is represented by companies that are exposed to the UK economy. So domestically focused businesses, which look undervalued, in part because of what’s happened to the currency post the referendum and the stock market’s expectation that the UK economy is an accident waiting to happen.
GL – Are you confident that you can turn performance around on your investment trusts and your other funds?
MB – I think that the portfolios contain a lot of very interesting undervalued assets. Will it all turnaround in the next three months? I don’t know. I could envisage a scenario where the portfolio does very well, if we get through this period of uncertainty and people look back and think, ‘Actually, these assets are just too cheap relative to the outlook for these businesses. There is a disconnect here.’ And the portfolio-, particularly, if sterling continues to rally, the portfolio will do just fine in that environment.
GL – Mark, your investors will be hoping that is the case but in the meantime, thanks very much for talking to me about it.