Wider horizon holds more promise

The manager of the Securities Trust of Scotland overhauled the portfolio after its change in mandate, turning a domestic bias into a global one, which, he says, offers more scope for returns.

Alan Porter assumed control of the Securities Trust of Scotland (STS) on August 1 and immediately began transforming the portfolio from a UK income fund to a global mandate.

The manager of the £120m fund, who also runs the £18m open-ended Martin Currie Global Equity Income fund, took charge of the portfolio after its shareholders voted to change its investment objective from solely seeking income from Britain.

“We have only changed one word in the investment objective, but it has made a big difference to the way the fund is managed,” says Porter.

He is referring to the fact the objective used to be “to achieve rising income and long-term capital growth by investment in UK equities”. (Investment trusts continues below)

After swapping UK equities to global, and changing its benchmark from the FTSE All-Share to the MSCI World High Dividend Yield Index, Porter started restructuring the portfolio, taking over the mandate from former manager Ross Watson.

“On day one we did a programme trade and changed roughly three-quarters of the fund’s holdings,” says Porter.

“We didn’t make all the changes however, because August is a big month for UK companies going ex-dividend. So we waited on about the remaining 20% of the holdings and all the changes were complete by September 7.”

As a result of the changes Porter says there is an 80% crossover in holdings between the investment trust and the open-ended global income fund he also runs.

“Other than the structure the main difference between the two funds is that the Oeic is benchmark unconstrained,” he says. “The other difference is that the shareholders of STS wanted to maintain last year’s dividend, which means at the moment it is investing in slightly higher yielding companies than the Oeic.

“Over time I expect this to be ironed out and by next summer the two fund’s should be broadly identical.”

One of the main structural differences of the investment trust is its ability to use gearing. At present the fund has the facility to gear up to 10% and the current level used by Porter is 5%. He says this shows he is slightly more positive than the neutral position of zero.

Despite the change in the fund’s objective Porter says little else has changed in the way the fund is managed. The number of stocks remains at an average of 50 and the type of high-yield companies he looks for are the same as in the past, but his search has been extended globally.

So where in the world is Porter hunting for income? The manager only buys stocks whose prospective yield is above the average of the MSCI World index, which is 3.1%.

”There are several global companies in the UK that look attractive, while holding companies such as HSBC and Pru are a cheap way of getting exposure to Asia”

He splits stocks into five categories: slow growth (stocks with less than 3% three-year dividend forecast growth), medium growth (stocks with 3-7% three-year dividend forecast growth), fast growth (stocks with over 7% three-year dividend forecast growth), cyclicals (volatile dividends) and special situations (asset plays and turnarounds).

The fund is underweight in cyclicals because Porter says some stocks seem to be discounting a stronger economic environment than he thinks there will be. “In other words they look too expensive.”

Porter is also marginally underweight in the slow growth bucket. Instead he is finding more attractive opportunities in medium growth stocks. Examples are Pearson in Britain, Heinz in America and Sanofi, a French pharmaceutical.

Typically, he says these type of stocks are large cap, have strong franchises, generate strong cash flows and pay a decent amount of this back in the form of dividends.

While not tending to focus on country and sector allocations, the fund is overweight in both Britain and America. At present the fund has a 32% weighting to Britain, versus the benchmark weighting of 17%.

“There are several global companies in the UK that look attractive, while holding companies such as HSBC and Pru are a cheap way of getting exposure to Asia,” says Porter.

In terms of America, Porter says it will be “one of the major surprise markets for income”. Just this year several American companies have paid a dividend for the first time, including Kohl’s, a department store, and Cisco, a technology giant. As a result STS is 39% weighted to America, four percentage points more than the benchmark weighting of 35%.

In terms of Porter’s outlook he describes himself as “getting close to being greedy but not there quite yet”. He sees both positives and negatives on the horizon for equities, with the macroeconomic environment being the main negative.

More positively he says that other classes, including government bonds, corporate bonds and cash, all yield little, whereas equities still offer attractive dividend yields.

As a result of the fund’s shift in emphasis to global income, Porter notes the fund’s discount to net asset value has come in from an average 7.5%, to its current position of being at par. He attributes this to the attractiveness of the asset class and there only being about half a dozen of funds in the sector that offer exposure to it.