Generally, Invesco Select Trust’s various asset class portfolios had a mixed financial year to end May 2022. The global equity income portfolio beat its benchmark, returning 9.6% in NAV terms relative to 7.4% for the MSCI World Index. However its share price return was 4.4%, reflecting a widening discount. The UK equity portfolio, which returned 6.8%, underperformed the All-Share by 1.5%, and its share price return was just 3.0%. The Balanced Risk portfolio returned 0.3% – well ahead of the -6.1% return on its composite benchmark. Finally, the Managed Cash portfolio returned -0.3%.
For the year under review the total dividend on the UK Equity shares was 6.70p (2021: 6.65p), and 7.15p for the Global Equity Income Shares (2021: 7.10p). The company’s dividend policy permits the payment of dividends in the UK Equity, Global Equity Income and Managed Liquidity portfolios from capital. With total income of the Company increasing to £6.99m (2021: £3.18m) the contribution from capital required for the company’s dividends to meet the board’s target level was reduced from 2021 levels. For the Global Equity Income Shares a contribution from capital of approximately 2.30p per share was required to achieve the dividend level (2021: 3.15p per share). For the UK Equity Shares a contribution from capital of approximately 0.7p per share was required to achieve the dividend level (2021: 2.75p per share).
The directors have not set dividend targets for the year to 31 May 2023.
During the year to 31 May 2022 the company bought back and placed in treasury 11,996,500 UK Equity Shares at an average price of 184.1p, 583,000 Global Equity Income Shares at an average price of 227.7p, 165,000 Balanced Risk Allocation Shares at an average price of 165.5p and 63,000 Managed Liquidity Shares at an average price of 104.0p. Other than in connection with the share conversion process, no shares were issued during the year. In addition, no shares were sold from treasury and no treasury shares were cancelled. Since the year-end a further 687,000 UK Equity Shares and 295,000 Global Equity Income Shares have been bought back into treasury.
Extracts from the managers’ reports
UK equity
Q What have been the key contributors and detractors to performance over the year?
A Over the period, positive performance relative to the benchmark was seen in six out the eleven sectors that the portfolio is invested in and stock selection in industrials and consumer staples sectors was generally strong. At a sector level the biggest contribution to positive performance versus the FTSE All-Share Index over the twelve-month period was the portfolio’s overweight to the utilities sector. The portfolio’s holdings of Drax, National Grid and SSE performed strongly and were all in the top five best performing stocks on a relative basis versus the FTSE All-Share Index. Drax rose strongly on higher electricity prices and recognition from the market following the transition from coal fired electricity production to sustainably sourced biomass along with the potential for carbon capture and storage technology. Drax is a unique UK listed asset with impressive sustainability credentials and an ambition to become a carbon negative business by 2030.
National Grid performed strongly largely due to the attractive inflation protected revenues in large parts of the company. Additionally, there is an added appreciation of the potential growth in the business as a result of the increased electrification of the economy and the resultant grid infrastructure required. Similarly, SSE was a strong performer as elements of the company’s revenues are inflation protected and it will also benefit from the electrification theme and higher energy prices.
The portfolio’s overweight to the industrials sector performed well on a relative basis. The holdings of Ultra Electronics, Bunzl and Chemring all performed well. UItra Electronics received a bid approach from Cobham in July 2021. Over the course of the rest of the year the position was reduced before exiting fully in March this year. Bunzl the outsourcing specialist and supplier of disposable products released its full year results in February. Although the company experienced a decline in demand for personal protection equipment, which had been strong throughout the depths of the pandemic, this decline was offset by a recovery in business activity and success in passing on inflationary price increases. The company also made some strategic acquisitions as part of its continuing and successful growth strategy.
RELX which has activities in areas such as science journals, risk analytics, legal databases and exhibitions continued its recovery from Covid-19 which saw the events and exhibition part of the business effectively close due to the pandemic and travel restrictions. Results released in February illustrated that growth had been seen from all four divisions of its business and selective acquisitions had supplemented their organic growth strategy.
The portfolio’s underweight to consumer staples was helpful as large international branded staples producers Unilever and Reckitt Benckiser, which are not held in the portfolio, were weaker over the period as was supermarket delivery company Ocado. This was helpful for relative performance versus the FTSE All-Share Index.
Naturally there were some weaker performances in the portfolio. The largest detractor on a sector basis was healthcare where biotherapeutics company PureTechHealth was weaker despite good progress in the development of many of its products. There has been no negative news but a de-rating of US biotechnology companies as technology shares have fallen has been unhelpful. The company aims to address significant areas of un-met medical need with novel and lower risk route to market products and approaches, along the brain-immuno-gut axis and has an encouraging pipeline of treatments.
Apart from RELX, mentioned previously, other consumer discretionary stocks have been under pressure due to the rise in the cost of living. Clothing retailer Next has been no exception and whilst the company has experienced strong trading over the twelve-month period the share price has been weaker and has detracted from relative performance. Similarly, JD Sports Fashion had been trading well but a sudden management change and general concerns about the retail sector have also weighed on the share price. Restaurant Group had some modest downgrades earlier in the year and despite some costs being hedged there are concerns that some cost inflation will be passed on to the consumer in price adjustments.
In the basic materials sector the gold holdings were weaker over the period. Historically gold has been a good hedge against inflation and with inflation likely to remain at elevated levels for longer than probably anticipated, we believe this position will provide some diversification benefits in the months to come and have an attractive yield.
The price of crude oil has risen sharply over the twelve months period as supply has struggled to keep up with recovering demand post pandemic. The portfolio is slightly underweight the energy sector compared to the benchmark weighting, and specifically Shell, which performed strongly. Consequently, this was a headwind to relative performance.
Global equity income
Q What were the key contributors and detractors to performance?
A Overall, for the portfolio during the period our stock selection delivered outperformance. Stock selection was especially strong in the US and Europe and weak in Asia. We maintained an underweight position in the energy sector through the period, this was clearly negative given the strong increase in the oil and gas price. However, over the medium term we see upside in these companies capped by increasingly punitive tax regimes, and a shift toward renewable technologies. We are not minded to add to positions now.
Key individual holdings for us included Coca-Cola and PepsiCo which performed well as the global economy reopened through 2021, and through the more difficult start to 2022 where their strong brand recognition and historic strength during periods of weak economic growth were valued by investors. Overall, our overweight exposure to consumer staples was a positive for the portfolio.
Elsewhere, our insurance holdings, Zurich Financial and Progressive were also relatively strong. Once again, their relative insulation from an economic recession made their shares attractive, as did very strong balance sheets and above average and growing dividend yields.
We started the period with a position in Meta Platforms (formally known as Facebook). It performed well, but we grew more concerned around a variety of governance and social issues as well as its valuation. We disposed of the holding in the autumn of 2021, a few months before it announced some weak user datapoints. Such was its weight in the benchmark that not owning through this period made it one of our key winners in terms of relative performance.
On the negative side, as we described in the half-year management report, our holding in Tencent, the Chinese based social media, gaming and payments platform was weak during the late summer of 2021 in response to the tightening of regulations relating to privacy and online gaming. We have maintained a position, albeit a reduced one, as we continue to believe the company offers significant upside. By contrast we disposed of our holding in NetEase, the pure play Chinese gaming company, as we saw increased restrictions limiting any share price upside.
One of the most frustrating holdings for us over the year has been Verallia. Our holding in the French based producer of glass bottlers and containers was built up through the fourth quarter of 2021. It is a key player in a highly concentrated industry and a leader in recycling and the reduction of CO2 in production. Nevertheless, natural gas continues to be essential for production and the sharp rise in costs fuelled fears over a squeeze on its margins. The share price has therefore been weak. We remain comfortable that cost increases can be passed onto customers and the company remains a core holding in the portfolio.
As mentioned earlier, despite rising tensions in the early part of 2022, we did not expect a Russian invasion of Ukraine, hence we continued to maintain a modest position in Sberbank, the leading Russian financial institution. The market was steadily pricing in the prospect of a war in Ukraine and consequently the value of Sberbank fell dramatically, with a final write-down in early March of approximately £35,000 or 6 basis points. As such it was a key detractor over the period.
Balanced Risk
Q What were the biggest contributors and detractors to performance?
A Exposure to commodity markets was the lone positive contributor to results. Energy commodities delivered the strongest performance due to strong demand, followed by agriculture where the largest contributions came from cotton, soybean oil and wheat. Industrial metals benefitted from Russia’s attack on Ukraine as Russian sanctions magnified already existing supply constrains in aluminium. Copper prices sold off towards the end of the period, resulting in a minor loss, on fears of a slowdown in growth. Precious metals detracted due to rising interest rates and a rising US dollar. Silver declined more than gold as it traded in sympathy with weakness in China and the broader industrial metals complex.
Exposure to equities detracted from results as four of the six markets in which the portfolio invests saw prices decline. UK equities were the top contributor to results in the period as relatively higher exposures to energy, materials, and aerospace and defence names held up well amid the rise in commodity prices and the Russian invasion of Ukraine. European shares fell on the Russian invasion and concerns that the conflict would at least have a negative impact on economic activity and, at worst, could potentially see further spread in the region. US small caps saw prices fall as the heightened volatility had investors cutting risks in higher-beta exposures. Emerging markets fared poorly on fears of China decoupling from the US and renewed Covid-19 lockdowns.
Exposure to government bonds was the largest detractor from performance with all six markets producing negative results. Despite ongoing geopolitical turmoil and another Covid-19 outbreak in China, there was little demand for government bonds as a haven. Rather, the highest inflation in multiple decades and soaring commodity prices had fixed income investors fretting over how aggressive central banks would be in their efforts to curb inflation.
Managed Liquidity
Q What has the performance of your portfolio been over the last year?
A The Managed Liquidity Portfolio NAV total return for the year ended 31 May 2022 was –0.3%.
The need to begin to raise interest rates to cool demand began as western economies rebounded more sharply than expected from Covid-19 restrictions. The inflationary effect of this was expected to be transitory, but was brought into much sharper relief by Russia’s invasion of Ukraine on 24 February. Sadly, the considerable humanitarian crisis may last some time. Disruption to global movements of oil, gas and foods could last several years as supply chains re-adjust. The impact on prices continues to transmit through markets with UK CPI inflation hitting 9.1% in May. Central banks are now catching up with substantial interest rate hikes and as a result bond prices have fallen, with one year interest rates up 1.5% over the year.
This portfolio has a substantially shorter duration of around 0.2 years and so has been protected to a large extent. Nevertheless, a small fall in NAV is expected as the impact of rising interest rates more than offset the income yield of the portfolio.
Q What’s the outlook for returns given high inflation and rising interest rates?
A Higher short term rates have increased the portfolio’s yield, with the average coupon within the iShares £ Ultrashort Bond ETF standing at 1.8% at the end of June, vs UK base rate of 1.25%. A further six UK central bank interest rate rises are priced into markets by the end of 2022 (four in the US and Eurozone). While visibility on price demand and wage growth is weaker than usual, there are signs that inflation is peaking and growth slowing, as consumers pull back on spending and companies experience higher input costs. Should central banks and governments be successful in limiting inflation and/or should growth slow more abruptly than expected, we could see rates rise by less than is currently priced, which would lift bond prices.
IVPU / IVPG / IVPB / IVPM : Invesco Select results a mixed bag