Getting the economy right and making accurate macro forecasts are next to impossible, or so says Ian Lance, the manager of the Schroder Income fund.
“We don’t make big macro forecasts,” he says. There are too many factors that one can get wrong: interest rates, exchange rates, inflation rates and unemployment rates being only a few of them.
Lance and his co-manager Nick Purves do not attempt to “time the market” but constantly look for shares in businesses that are trading in the market at a significant discount to the intrinisic value. This estimation is based on their assessment of normalised earnings and an appropriate capital structure.
Two years ago, the fund had little exposure banks. The sector was, in fact, one of the biggest underweights. “We felt that earnings were unsustainably high and banks had extremely leveraged balance sheets,” Lance says.
The Schroder Income fund now has 30% allocated in financials as the two fund managers are of the opinion this is where the general value was shifted to. Lance says he also finds high quality business that are cheap in the healthcare sector and telecoms, both being sectors that are generally considered as defensive.
Another important factor is to get the right timing for picking stocks. “Recently, the stockmarket took off led by cyclicals,” Lance says. “And this was despite the gloomy headlines.”
When the team started buying banks, retailers and media, its clients reportedly asked whether the team read newspapers at all. Yet Lance takes a more long-term approach.
Turnover of the portfolio is with 25%, rather low compared with the sector average, which he claims is near 100%. “We’re willing to be very patient,” he says.
Another part of his investment philosophy is that markets persistently project trends and overpay for recognised growth. Companies with the highest recent growth tend to command an unwarranted premium.
However, those companies perceived to have “unexciting prospects” tend to be overlooked and become lower valued. Their growth rates often turn out to be a positive surprise. The team focus on three sources of risk: valuation, earnings and financials. They look at risk in absolute terms, but always in the content of potential reward.