City of London (CTY) investment trust manager Job Curtis has put a 70% probability on a Brexit deal being reached but will not be too alarmed if the UK does crash out of Europe.
Speaking earlier this month ahead of intensifying Conservative government infighting and Labour intriguing over Britain’s negotiations with Brussels, Curtis said: ‘The majority of MPs would favour a deal of some sort. I think it is in the interests of the UK and Europe for a deal to be found.’
‘There is a lot of noise but in the end it is in everyone’s interests to do a deal. Only a small minority of MPs want to crash out,’ added Curtis, who has managed the now £1.4 billion listed fund for 27 years.
Brexit uncertainty has depressed the UK stock market and created a difficult environment for UK equity income trusts like City, which has underperformed the FTSE All Share in its last two financial years.
On the other hand, weakness in the pound since the 2016 EU referendum vote over has boosted overseas earnings and enabled City to achieve its 52nd consecutive increase in its dividend, the first investment trust to do so.
City pays quarterly dividends and yields 4.5%, above its sector average of 4% and higher than the 3.9% yield on the All Share, which Curtis says is good value when 10-year government bonds (gilts) offer 1.5%.
A ‘soft’ Brexit – in which the UK remained part of the EU customs union – would therefore be positive, he predicted. ‘There’d be quite a stampede into sterling assets,’ Curtis said.
However, with less than six months to go before the UK departs the EU, the risk of a failure to reach a deal cannot be ignored. Reuters today reported a poll of European leaders putting the risk at one-in-four chance, similar to Curtis.
That would hit the pound again and according to Curtis ‘throw up a big opportunity in the UK stock market but it will be a bumpy ride before March’.
On balance, Curtis (pictured) is positive, cautiously lifting gearing – the borrowing investment trusts use to boost market returns – from 7.7% to 9.4% over the summer.
Curtis is a value investor to the extent he likes to buy stocks when they are cheap but who also wants to see companies generating growth in cash flow to support future dividend payments.
Recent annual results for the year to June showed the manager taking a nuanced approach to the Brexit challenge, trading in and out of real estate investment trusts (Reits) and selling retailers such as Dixons Carphone (DC), Inchcape (INCH) and Next (NXT).
On Reits he took big profits on Hansteen (HSTN) and Tritax Big Box (BBOX), after their shares rallied at investor excitement over the warehouse sector, and pocketed gains in social housing and residential property funds Civitas (CSH) and PRS (PRSR).
He ploughed the money into adding to positions in British Land (BLND) and Land Securities (LAND) whose shares languished on 30% discounts to net asset value over investors’ fears of the Brexit impact on the London office market. Curtis felt this was far too cheap given the long leases and good tenants both companies had in their properties and the fact they had defensively reduced their level of debts.
On retailers, showing some of his value colours, he bought into Kingfisher (KGF), owner of the struggling B&Q DIY chain; Sainsbury (SBRY) ahead of its merger with Asda; and Marks & Spencer (MKS) in the hope that former Asda boss Archie Norman can turn round the underperforming department store where he is now chairman.
‘I’m not under any illusions,’ he said of the latter.
Oil giants BP (BP) and Shell (RDSb) are among Curtis’ top three holdings, accounting for nearly 11% of City’s assets, due to his liking of their ‘self-help’ story in recent years of cutting costs. The recovery in the oil price did wonders for their shares and benefited the trust, although because Curtis was actually ‘underweight’ the sector in not holding other good performing oil stocks this was one of the key reasons the trust lagged the All-Share index.
Connect (CNCT) also disappointed after an attempted diversification hurt the company though Curtis has held on to the stock due to the underlying value in its newspaper distribution business and the departure of its chief executive.
The recent stock market sell-off has dented City with net assets declining nearly 6.7% in the past four weeks. This adds to a difficult three-year period for the trust which has generated a total return of 16.3% lagging the All Share’s 24.6% return and a sector average of 19.6%, according to Numis Securities data.
Curtis says City’s relative performance has weakened because the portfolio focuses on large blue-chip stocks and has not benefited from the strong run in ‘mid cap’, medium-sized stocks just outside the FTSE 100. Nevertheless the trust continues to attract investor support on the back of its diversified portfolio and high, covered dividend. Even after the recent retreat the shares continue to trade on a small premium to NAV.
The latest issue of the Investment Trust Insider e-zine features an interview with Curtis' colleague James Henderson, manager of the Henderson Opportunities, Lowland and Law Debenture investment trusts, who reveals three of his post-Brexit stock picks.