Investment Trust Insider - Opening the door to investment trusts

Register to get unlimited access to our investor forum and all editorial content, including our e-zine and weekly email. Registration is free and only takes a minute.

Monks: 'depressing' dividends are stifling growth

Monks: 'depressing' dividends are stifling growth

Companies are placing too much emphasis on shareholder rewards like dividends and buybacks and not enough on investing for growth, according to the managers of the Monks (MNKS) investment trust.

Spencer Adair, co-manager of the Baillie Gifford-run global investment trust, said it was becoming increasing difficult to find the 'growth stalwarts' that form a key flank of the managers' approach, as companies cut down on investment.

He gave the example of Colgate Palmolive (CL.N), a position the  managers have been reducing as the household goods maker steadily cuts its advertising and marketing budget.

Adair said that was hurting the company's growth prospects, pointing to its own admission in its last earnings call that it was competing with 500 online toothpaste brands in China.

'You don't win that by cutting advertising,' he said. 'Corporate behaviour is damaging long-term growth prospects.'

Adair argued a 'material shift away from growth investments' among companies was a market-wide issue.

While 25 years ago, companies spent two-and-a-half times more on growth than shareholder rewards, the tables have turned, with around twice as much now spent on dividends and buybacks as investment.

'It's across the entire market, and that is really quite depressing,' he said.

Stalwarts' appeal wanes

But the trend has had the most impact on the managers' search for growth stalwarts, one of four categories of stocks they look for.

The companies, prized for their durable franchises and ability to continue delivering with little sensitivity to the plight of the wider economy, now make up just 19% of the portfolio, with holdings such as Nestlé (NESN.S) sold on fears over its future growth.

That's less than half the proportion they made up 10 years ago under the management trio's strategy, which they have been running together for 12 years in open-ended funds, before taking on Monks in 2015.

Adair said many of the companies they would have once considered as investments now fitted the stereotype of 'bond proxies', offering little in the way of growth and prized mainly by investors for their safe yields.

'We're deliberately trying to find businesses that are trying to continue to grow and take risks,' he said.

Monks' biggest holding in the growth stalwarts portion of the portfolio is insurer Prudential (PRU). Adair also highlighted sleep mask maker Resmed (RMD.N) and endoscopes maker Olympus (7733.T).

'They have continued to invest in growth, embraced technological change and opened up to new markets,' he said. 'They are not bond proxies.'

Alongside growth stalwarts, the Monks managers divide their stocks into three other categories: the 'rapid growth' stocks that have been a feature of its stablemate Scottish Mortgage (SMT); 'cyclical growth' companies and 'latent growth' opportunities.

The managers have sold shares in a number of 'cyclical growth' companies, after an intervention from the trust's independent risk team.

The team asked the managers why this area of the portfolio, which had been performing strongly, has such low turnover, with little buying or selling activity.

'We found there was a concentration of risk,' said Adair. 'Companies exposed to the US economy were performing much better in share price terms than in their fundamentals.'

'You'd almost think someone was puffing them up and not delivering.'

'Trump trade' fears

Having benefited from the 'Trump trade' in this area of the trust, where shares in US cyclical companies rallied on investor hopes of US president Donald Trump's pro-growth agenda, the managers have now reduced exposure to these stocks.

In the six months to the end of October, they reduced stakes in aggregates business Martin Marietta Materials (MLM.N), welding equipment maker Lincoln Electric (LECO.O), second hand car dealership CarMax (KMX.N) and online stockbroker TD Ameritrade (AMTD.O).

Some of that money has been redeployed into three banks: India's ICICI (ICBK.NS) and HDFC (HDFC.NS), and Brazil's bank Banco Bradesco (BBDC4.SA).

'Within cyclicals, we have been reacting in a disciplined way,' said Adair. 'We found a much wider variety of geographic profiles, much more out of favour.'

That has helped to push the trust's emerging markets exposure to 21.4%, up from 13.7% when the managers took over the portfolio in 2015.

Monks' focus on 'rapid growth' stocks caught investors' imagination when the management trio of Charles Plowden, Spencer Adair and Malcolm MacColl took over the trust.

That was unsurprising, given the explosive returns delivered by Scottish Mortgage, the UK's largest investment trust, by backing fast-growing technology stocks like Facebook, Amazon and Google owner Alphabet.

And the managers have delivered on initial hopes of a 'safer Scottish Mortgage', revitalising the performance of a trust that had languished in the shadows of its larger peer.

So much so that Monks has outperformed Scottish Mortgage over the last three years, with the shares having doubled in value, pipping an 81% return from the FTSE 100 global trust.

Some of that has come from the elimination of a discount that stood at around 12% at the time of the management switch, with the shares now enjoying a 4.2% premium over net asset value.

The managers' enthusiasm for the rapid growth stocks that have served them well, and which make up 38% of the portfolio, has meanwhile not been dimmed.

MacColl said that despite the strong share price performance of many of these stocks, their valuation was little changed over the last five years, with rallying stocks underpinned by business growth. 

'The valuation of some of the very biggest is strikingly low,' he said.

Leave a comment!

Please sign in or register to comment. It is free to register and only takes a minute or two.