When James Watt invented the steam engine, people marvelled at its efficiency, but as they used the new technology, they started to fear they would run out of coal.

British economist Stanley Jevons kept a cool head and predicted in his 1865 book, ‘The Question on Coal’, that increased efficiency would drive greater use of the technology and that far more deposits of coal would be found. History proved him right.

Economists call this the Jevons paradox, which happens when better efficiency leads to increased demand and a higher rate of resource use, contrary to mainstream expectations.

Applying this paradox to today’s markets can give investors an edge in recognising areas that are set to flourish, according to Cole Smead, manager of Smead US Value UCITS.

“There's the myth in our cultures that technology will cause us to do more by depriving ourselves. Technology makes us more efficient, but the Jevons paradox continues to play out,” he said.

“I hear time and time again people saying that technology will make our use of energy so much more efficient and therefore we're going to use less energy. The Jevons paradox says that's impossible, and it's also never happened historically.”

An example is gasoline demand, which has never been bigger in the United States, and the same goes for the number of miles driven.

Similarly, people thought the LED light bulb would save energy but instead, we quadrupled the number of light bulbs in our houses and energy demand continued to go up.

“It's a perfect picture of the Jevons paradox. You did not see a decline in consumption like people would have thought,” he observed.

How the Jevons paradox translates to investing

There is one area where demand is accelerating but supply is being cut, making it a great investment opportunity, according to Smead. That area is electricity production – in particular through fossil fuels.

Total electricity demand (left), population (centre) and electricity consumption per capita (right)

Source: Smead Capital Management, International Energy Agency

“Technology causes us to do way greater things and become more efficient. But more efficient doesn’t mean that demand is going down, in fact the curve of electricity use is ever growing,” the manager said.

“And while natural gas has sucked up a bigger share of the total growth, we have slowly been moving away from coal, but move is not relevant whatsoever.”

To illustrate this point, he showed the chart below.

Global coal consumption, 2002-2026

Source: Smead Capital Management, International Energy Agency

“About 13 years ago, the International Energy Agency predicted the world was at peak coal usage. So far, it’s 13 years off and growing. These organisations are wicked smart, but they can be very wrong,” he said.

“If you ever get into a world where supply is dwindling and demand picks up, you can make some fabulous money.”

The manager highlighted three stocks that he believes are poised to benefit from this supply/demand discrepancy.

The first is South African coal exporter Thungela – admittedly a cyclical business that has had periods of underperformance, but it comes with “a nice little buffer”, as 60% of the stock is in net cash.

This means firstly that the company would need to burn a lot of cash before investors make a loss, and secondly, that it can buy back its own shares. The impact of buybacks on return on equity (ROE) is  “one of the most underappreciated ideas in the stock market”, Smead added.

If half of Thungela’s cash was used to finance share repurchases, its adjusted ROE could grow by 30%, he calculated.

Finally, the market is overlooking pure play Canadian oil sands producer Meg Energy and US oil company Ovintinv, Smead said. Jevson’s paradox is at play again, with capital expenditure on oil declining in the western world, shrinking supply for industry, butat the same time, demand is increasing.

Index investing reached a milestone in early 2024, with assets in passive investment vehicles surpassing those in actively managed strategies for the first time. On the surface, the appeal of index investing is compelling: passive exchange-traded funds (ETFs) offer lower costs.

And, in the case of broad-based equity and bond categories, active managers frequently fail to consistently outperform their benchmarks. But cheaper is not always better, and not all markets are alike.

Real estate is one area of the equity market that lends itself to active management. REIT managers who commit time and resources to understanding current property fundamentals, shifting market trends and factors that may affect listed equity performance can potentially spot pricing inefficiencies and rapidly implement plans to generate excess returns.

We believe this advantage is reflected in the performance of the largest active REIT mutual funds relative to passive investment vehicles, despite active funds typically having greater expense ratios.

The modern REIT market offers a diverse opportunity set

When investors think of commercial real estate, they may envision office buildings, malls, shopping centres and apartments.

REIT ownership of these kinds of assets exists, of course. However, REITs have become increasingly specialized in new property types since 2000, shifting the REIT market’s composition away from traditional sectors.

For well-resourced managers, these new sectors provide a broad selection of REIT-owned assets for constructing portfolios, many of which have secular growth drivers.

These include data centres, where companies rent by the kilowatt to connect cloud servers; cell towers that lease space to wireless carriers for 5G networks; high-tech distribution hubs that facilitate next-day shipping on e-commerce orders; climate-controlled food storage facilities; biotech research labs; and senior living centres, just to name a few.

Capitalising on distinct sector characteristics

REIT sectors and companies tend to respond to market conditions very differently depending on factors such as lease durations, types of tenants, economic drivers and supply cycles. These differences have historically resulted in wide dispersion of sector returns in any given period.

More economically sensitive sectors with short lease terms, such as hotels and self-storage, can adjust rents relatively quickly to capture accelerating demand in a cyclical upswing.

By contrast, longer-lease sectors such as net lease and health care have more defensive cash flows that may be more resilient during economic downturns. In 2023, returns between the best and worst sectors were separated by 38 percentage points. In other years, the dispersion has been considerably greater.

We have observed that the difference in returns at the security level within each sector is often similar to the variance at the sector level. We believe this dispersion highlights the opportunities active managers have to enhance returns through both sector and stock selection.

Navigating secular growth opportunities and challenges

As economic cycles progress, property types are likely to have different fundamentals. For instance, the pandemic upended retail, hotels and offices, but benefited technology-related REITs amid acceleration in e-commerce and working from home.

And many sectors and cities continue to feel the lasting effects of the pandemic as flexible work-from-home policies have changed how and where people want to work and live, creating an uncertain outlook for offices.

Consequently, high-quality offices may continue to see healthy demand, while lower-quality assets may experience soft demand for years to come – a distinction not likely to be reflected in passive portfolios.

Active managers can also add value by capitalising on regional differences and trends. Many US residents are moving from dense, high-cost northern and coastal cities to lower-cost markets in the sunbelt.

In global portfolios, REIT managers may assess geographic regions to understand local property supply and demand fundamentals, economic trends, monetary policy and other factors that may affect the operating performance of different real estate companies, as well as the markets valuation relative to other regions.

Anticipating secular trends such as these is a key component of active management since they can present opportunities for active managers to capitalize on diverging fundamentals. For example, the divergence in industrial and office properties.

By contrast, passive portfolios are, by design, not able to allocate assets to capitalise on potential secular growth opportunities, nor can they sidestep sectors that may be facing long-term headwinds. Of course, there is no guarantee that active management can successfully navigate these trends.

REIT managers may also invest based on relative value, seeking to allocate portfolio assets based on merit rather than market capitalization, as is often the approach for many passive index funds.

Investing outside the benchmark – participating in special opportunities such as recapitalizations, private placements, initial public offerings (IPOs) or pre-IPO investments – is another way for active managers to add value.

These activities are not within the scope of passive index-tracking strategies – a notable disadvantage in recent years due to the inability of passive vehicles to get out of the way of the secular declines in retail and offices.

Jason Yablon is head of listed real estate at Cohen & Steers. The views expressed above should not be taken as investment advice.

In both football and investing, picking the best players doesn’t always make for the optimal team; the secret to success is how players’ skills complement each other.

Ahead of the UEFA Euro 2024 football championship, which kicks off on Friday, fund selectors have put themselves in the shoes of football managers to come up with a winning portfolio that strikes the right balance between defensive and offensive plays and has the best chances of coming out on top.

Defenders

Starting with the goalie, it’s all about capital preservation. The Artemis Short-Duration Strategic Bond fund should be able to pull the best saves, according to FundCalibre managing director Darius McDermott.

The fund adapts to changing market conditions by adjusting its allocation to government bonds, investment-grade and high-yield. The focus on bonds with five years or less to maturity “should make it less volatile than the wider bond market”, said McDermott, who also appreciated manager Stephen Snowden’s use of derivatives and futures to reduce risk and manage duration.

The fund has produced a positive return in four of the past five calendar years and also offers an “attractive” distribution yield of 5.21%.

Moving to stocks, Hargreaves Lansdown equity analyst Aarin Chiekrie said that “like the best goalkeeper in the world, it’s hard to see any opponent getting past” ASML, as the Dutch semiconductor company “has a monopoly on the most advanced type of lithography machines used to make the chips that power your phones, computers and even cars”.

As defenders, McDermott chose his back four with some bite.

First up is BlackRock European Absolute Alpha, a long/short pan-European equity fund with a focus on capital preservation and low levels of volatility, but which also managed to almost double the return of the average IA Targeted Absolute Return peer over the past five years, as the table below shows.

Performance of fund against sector over 5yrs

Source: FE Analytics

It is flanked by two bond funds, M&G Emerging Markets Bond and Invesco Corporate Bond, and aided by the Jupiter Merlin Income Portfolio, a “stalwart in the multi-asset sector” designed to provide “an immediate and growing income” as well as the potential for capital growth. 

Chiekrie called four players to the pitch: defence company BAE Systems, which is “almost guaranteed to give you a solid performance”; building company Berkeley Group, which “sits on solid ground, despite the current shaky housing market”; NatWest, which convinced him for its new chief executive officer, strong balance sheet and a prospective 5.6% dividend yield; and AstraZeneca, which is seeking to debut 20 new medicines to help fuel growth by 2030.

Midfielders

Midfield is where matches are won and lost, according to McDermott, who turned to Rathbone Income, Janus Henderson European Selected Opportunities and CCLA Better World Global Equity for “goals, flair and bravery”.

The Rathbone strategy has “one of the best – if not the best – track records among open-ended funds for paying dividends,” he said.

“Manager Carl Stick is somewhat of a contrarian investor, so the fund may lag behind while his peers catch up with the news,” but all of its 30 to 50 holdings are chosen for their high quality and visibility of earnings.

The Janus Henderson portfolio is a jack-of-all-trades, mixing mega and large blue-chip holdings with some mid-caps to achieve additional sources of alpha.

Rising star CCLA Better World Global Equity was launched in 2022 but has proved “very successful since then”, as the chart below illustrates.

Performance of fund against sector and index since launch

Source: FE Analytics

Over in the stocks tournament, Chiekrie put his faith in Belgian drinks company AB InBev, which owns fan-favourite beers such as Budweiser, Corona and Stella Artois.

“Like a midfield maestro dictating the tempo of the game and spraying passes out to all teammates, the group’s diverse portfolio of drinks brands means it has something for everyone this summer,” he said.

The analyst also chose UK-listed Entain, which owns betting houses such as Ladbrokes and Coral.

“It’s been under plenty of pressure from regulators and overall performance has been underwhelming recently, but still, you wouldn’t bet against them turning their form around and making a positive contribution.”

Finally, easyJet looks well-placed with a portfolio of slots at some of Europe’s most valuable airports. It is trading at a cheap valuation despite increased passenger numbers, so there’s scope for this airline to become a fan favourite in the near future, Chiekrie said.

Attackers

For high-octane performance, McDermott has been warming up Fidelity China Special Situations.

Having fallen over 40% since February 2021, the re-rating of China’s equity market has been “indiscriminate”, which has created “plenty of valuation opportunities”.

“With a bias towards smaller and medium-sized companies, this trust is not for the faint-hearted, but manager Dale Nicholls has consistently outperformed his peers and the trust is on an attractive 10% discount,” he said.

For his final two choices, McDermott stuck with recovery plays, this time in the UK.

Liontrust UK Smaller Companies and Schroder British Opportunities Trust  should benefit from the recovery of smaller companies, which, coupled with attractive valuations and an increasing number of mergers and acquisitions, could be a compelling opportunity from here.

Source: FE Analytics

“Backed by a market-leading team, the Liontrust fund has a very clearly-defined investment process based on intangible strengths. Every stock in the portfolio must have intellectual property, a strong distribution network or recurring revenues,” the fund selector said.

Investing in both public and private businesses, Schroder British Opportunities targets ‘high growth’ and ‘mispriced-growth’ companies.

“Although performance has held up well relative to its peers sentiment has been hit hard, with the trust at a near 35% discount.”

Performance of trust against sector over 5yrs

Source: FE Analytics

Completing the stock squad are strikers J D Wetherspoon and Adidas.

According to Chiekrie, Wetherspoons’ low-value proposition means that “it's well-placed to block out the noise of an unsettled economy and just focus on its own game”, having already scored a like-for-like sales rise of 5.2% last quarter.

On the way home from the match, fans are more likely to pick up an original shirt from Adidas, after host country Germany announced fines of up to £4,000 for supporters caught wearing fake shirts.

“After a challenging 2023, which saw revenue and profits wide of the post, Adidas could be poised to score impressive growth this year,” the analyst concluded.

Source: Google Finance

Targeted absolute return funds aim to give investors the smoothest ride possible, making a positive return while mitigating volatility. But in the past three years just seven of the 78 funds in the IA Targeted Absolute Return sector have consistently achieved positive gains, according to data from Trustnet.

We looked at the 12-month track record for these funds in each of the past 24 months – the same metric used by the trade body Investment Association to compare the funds’ performance.

Source: FE Analytics

Two behemoths of the sector appeared in the list. First is the £1.7bn Jupiter Merian Global Equity Absolute Return fund managed by Amadeo Alentorn.

A market neutral long/short portfolio, the managers invest in 466 global companies using the team’s systemic equities approach, which tilts the portfolio between different investment styles depending on the trends within the market.

This is coupled with 318 short positions, which are used to mitigate the volatility of market and gives the managers more ways to generate returns. It has been the best performer of the group, returning 28.5% over the past three years, as the below chart shows, and has the second-lowest fees with an ongoing charges figure (OCF) of 0.83%.

Performance of fund vs benchmark over 3yrs

Source: FE Analytics

The other giant of the sector on the list is the £1.7bn Man GLG Alpha Select Alternative fund managed by Charles Long. It invests primarily in UK stocks but, like the Jupiter fund, takes advantage of short positions to add alpha.  

With an OCF of 1.11%, the portfolio is more expensive than its Jupiter rival and performance has lagged slightly, with the fund returning 26.3% over the past three years.

The second best performing fund on the list over the period was VT Woodhill UK Equity Strategic managed by Paul Wood, which made 28.4%, just 10 basis points below the Jupiter fund.

With £29.2m in assets under management it is by far the smallest in the group and has the highest fees, with an ongoing charges figure of 1.24%.

It is a UK equity fund, with top holdings including Shell (7.5%), AstraZeneca (7.1%) and HSBC (5.8%). Wood dampens volatility by hedging the portfolio, including being able to “fully hedge” the fund, protecting investors from downside risk. The fund has been hedged in 75% of its days since inception, according to the fund’s factsheet.

GAM Star Global Rates, run by FE fundinfo Alpha Manager Adrian Owens, was in third position with a total return of 27.5%. Unlike the strategies above, it focuses on investing in the currency and fixed income markets with no allocation to equities.

Conversely, TM Tellworth UK Select, run by Alpha Manager John Warren and Johnnie Smith, as well as BlackRock UK Absolute Alpha, headed by Oliver Dixon and Dan Whitestone, also made the list. Both are long/short strategies focusing on the UK stock market.

Analysts at RSMR recommended both funds. On the former, they said: “The fund has been managed in a pragmatic, risk aware manner, allowing returns with no market correlation since moving to Tellworth. The accurate monitoring of potential factor risks has been important to this outcome and the team has generated alpha through stock selection.”

On BlackRock UK Absolute Alpha, they noted: “The fund is run by a specialist long/short hedge fund manager who has developed a strong record in this specialist space. His flexible approach to beta (market exposure), varying net long and net short positions has also added value. 

“The manager’s experience, together with the strength of the BlackRock research platform, suggest this fund should be capable of delivering positive returns in most market conditions.”

M&G Global Target Return – run by Tristan Hanson and Craig Simpson – made the lowest return of the group but still achieved the feat of making consistently positive returns on rolling 12-month periods.

The fixed income space has proven to be a difficult area for long-serving managers to excel in recent years.

Indeed, only two ‘veteran’ managers – those who have been at the helm since 2004 or earlier – have made top-quartile returns over the past three years across the IA Sterling Strategic Bond, IA Sterling Corporate Bond and IA Sterling High Yield sectors, according to data from Trustnet.

One of those two experienced managers who have stood the test of time is FE fundinfo Richard Woolnough, who has been at helm of M&G Strategic Corporate Bond since February 2004.

The fund – which Woolnough has been co-managing with Ben Lord since 2021 – has fallen 4.9% over the past three years (to the end of May). Nonetheless, it still ranks 23rd out of 90 in the IA Sterling Corporate Bond sector over that period.

Performance of fund over 3yrs (to last month end) vs sector

Source: FE Analytics

Long-term performance has also been commendable, as the fund sits in the sector’s top quartile over 10 and five years.

Although the M&G Strategic Corporate Bond fund belongs to the IA Sterling Corporate Bond sector, its mandate allows Woolnough and Lord to invest up to 20% in government bonds. Additionally, high-yield bonds should not account for more than 20% of the portfolio.

Analysts at FE Investments said: “The investment process begins by agreeing on a view of the global economic environment and how this will affect inflation and interest rates, particularly in the UK. This helps the managers define the appropriate risk level to employ in the fund and identify sectors and asset classes offering most value.

“Credit analysts at M&G study issuing companies across the UK, Europe and the US in order to identify pockets of value, and the portfolio managers combine these recommendations with their macroeconomic views to finalise portfolio positioning.”

They also noted that, historically, the fund has outperformed peers when credit markets rallied, as was the case in 2017 or the second half of 2020, but lagged during sell-offs, such as in 2018 and March 2020.

The other top-performing fixed income fund manager is Eric Holt of Royal London Sterling Extra Yield Bond in the IA Sterling Strategic Bond sector.

Holt has run the five-crown rated fund since April 2003 and was joined by Rachid Semaoune in 2019. Together, they aim to achieve a gross redemption yield of 1.25 times the gross redemption yield of the FTSE Actuaries British Government 15 Year index.

Performance of fund over 3yrs (to last month end) vs sector and benchmark

Chart

Source: FE Analytics

According to the fund’s latest factsheet, unrated bonds and bonds rated BB or below account for 32% and 42.6% of the portfolio, respectively. This suggests a higher exposure to issuers with poorer credit quality, but also higher compensation due to the associated default risk.

In terms of maturity, half of the bonds in the fund are due to mature within 0 to five years, while 31.6% of the securities have a maturity of more than 15 years.

Over the past three years (to the end of May), the strategic bond fund has returned 12.4%, ranking fourth out of 80 in its sector.

Longer term performance has been even stronger, as Royal London Sterling Extra Yield has been the top-performing fund in the IA Sterling Strategic Bond sector, roughly 16 percentage points ahead of runner-up AXA Framlington Managed Income.

Finally, no veteran manager met our requirements in the IA Sterling High Yield sector.

When FE fundinfo Alpha Manager James Thomson took over the Rathbone Global Opportunities fund in 2003, he wanted a simple but repeatable process that would enable him to scale up the fund over time.

This approach has proved successful, as the fund has returned 1,106.8% under Thomson’s 20-year tenure, ranking second out of 94 funds in the IA Global sector since November 2003.

The fund has amassed £3.9bn of assets and continues to be popular with investors. It was one of the top 10 funds for SIPPs on the Fidelity Personal Investing platform in May and was the tenth most-viewed fund on Trustnet during the three months to 20 May 2024.

Performance of fund under Thomson’s tenure and over 10yrs vs sector

Source: FE Analytics

Yet, Thomson believes that equity markets will generally be less rewarding going forward. However, he still sees glimmers of hope, for instance in artificial intelligence.

Below, he explains why the strong will get stronger, why the US is the ultimate growth market and why he avoids Japan and emerging markets.

Could you explain your investment process?

We want as many voices in the room as possible when we're generating investment ideas. We will use our internal analysts, but also a global network of external brokers and analysts. That's how we create a 360˚ view of the investment case. That feeds into our secret sauce analysis, which is a screen of qualities that we look for and qualities that we actively avoid.

The next step is to meet company management and try to understand the drivers of growth, the risks and the strategy and how they change over time. We want an ongoing relationship to understand where promises are being kept and where strategies are being changed and adapted.

Then we think about valuation, timing and suitability. Valuation has to be reasonable given the growth prospects. In terms of timing, we don't want an investment case that takes many years to come to fruition, we want a company that's firing on all cylinders now.

We also want to be able to manage risk effectively. That means having a defensive bucket of weatherproof equities. These are companies that have a more resilient defensive growth profile that's less linked to the economic cycle. That provides a buffer for the rest of the portfolio.

What differentiates you from your peers?

I think there are fewer than 100 UK-domiciled global equity funds that have been in existence for the past 20 years and I believe I am one of the few managers who have been in place for that time period.

Another thing that differentiates us is our willingness to admit that there are areas where we don't have skills and expertise. For example, we avoid investing in emerging markets or Japan. They are important parts of the equity market, but I don't have the skills nor the expertise to do it credibly. I think clients would be better off going to a dedicated emerging markets or a dedicated Japanese equity fund manager.

What have been your best-performing stocks over the past 12 months?

There's been a lot of market concentration around the Magnificent Seven, but I'm pleased that we've had a much broader contribution to our performance over the past 12 months. We own Nvidia and Amazon, but I would also point to businesses such as Costco, Boston Scientific and Amphenol.

Performance of stocks (in sterling) over 1yr

Source: FE Analytics

Outside the US, some of our best performers have been companies like Schneider Electric, which is a play on electrification, digitisation and upgrading electric networks, as well as Partners Group, which is a private equity business that has bounced back very strongly from the malaise in 2022 as rates were rising.

Next, the clothing and apparel retailer, has been a significant outperformer in a pretty soggy UK equity market.

Performance of stock over 1yr

Source: FE Analytics

And the worst-performing stocks?

It’s been primarily defensive, consumer-staple companies such as McDonald's, Coca-Cola, Mondelez and Heineken. It is not a surprise since the market has been looking for cyclicality, recovery in earnings potential and beneficiaries from falling inflation. 

Performance of stocks (in Pounds Sterling) over 1yr

Source: FE Analytics

I would also highlight some of our China-exposed businesses such as LVMH, which has really struggled, particularly in its spirits division, and cognac company Remy Cointreau, which we have sold.

What is your view on equity markets hitting all-time highs?

I hope that's a precursor to earnings moving higher to reflect that. Valuation is often a poor predictor of future performance and expensive doesn't necessarily mean overvalued. Often, valuation is reflective of the quality of the earnings you are getting.

The US market is admittedly expensive, but you're paying for resilience, repeatability, adaptability and higher growth. So you're paying a premium in the US because you're getting premium growth credentials. The US really is the home of the growth investor.

What are the main investment themes in your fund?

I would put AI right at the top of my list of investment themes. The computer is no longer just instruction-driven, it is now intention understanding. It’s still early but we are already seeing applications. AI is used for drug discovery and development. Shopify told me that 30% of its coding is being done by generative AI. Video games are going to be produced in record time thanks to AI.

We're all probably going to have some sort of personal digital assistant that helps us with mundane tasks through generative AI.

One of my analysts thinks that AI is going to drive half of incremental GDP over the next decade and will represent 20% of global GDP by 2032. If that's correct, then this is the start of a new industrial revolution.

We have a broader theme called ‘the strong getting stronger’, which is about the increasing concentration of dominance, particularly in technology.

There’s going to be $275bn worth of capital expenditure within technology over the next year, but $200bn is being done by four companies alone.

It’s probably the most important theme we are running. In a world of slower and more inconsistent growth, we think the strong will get stronger.

In 2022, we changed about 20% of the portfolio and repurposed it into the stronger players. We sold some of the earlier stage companies with more expensive financing and an unpredictable demand picture.

We feel they will struggle to outperform in the current market, which is probably leading us toward a two-speed economy.

What do you do outside of fund management?

I have two daughters, so I help my kids to be as well-rounded, stimulated, happy and successful as possible.

I enjoy sitting on the sidelines of sporting events and I like playing tennis. The golf clubs seem to be attracting quite a lot of cobwebs and dust, but hopefully they will come out of the basement when the girls are a bit older.

This week, the European Central Bank took the lead on monetary policy by becoming the first of the big three central banks to cut interest rates.

It was the first time in five years the ECB has cut rates, with the Bank of England (BoFE) expected to join its peer from the continent in the coming months.

The big question is what the Federal Reserve will do. After all, experts have warned that the BofE and ECB can’t go too much further without the Fed doing the same, or risk currency fluctuations that would be prohibitive to their inflation targets.

Next week, the US central bank will meet for the fourth time this year, but there aren’t many signs it is gearing up for a rate cut.

Most expect the result to be the same as the previous three meetings: no change in the headline Fed Funds interest rate of 5.50%.

The CME Fedwatch service has a 2% chance of a Fed surprise drop of interest rates, which feels pretty conclusive.

Russ Mould, AJ Bell investment director, said: “As such, the wait for the first, elusive reduction in headline borrowing costs continues, especially as financial markets began 2024 expecting six rate cuts from the Fed, down to 4% by the end of the year, with the first of those coming in March.”

This has been scaled right back, with markets now predicting just two cuts in 2024 down to 5%, with the first one coming in September. Yet, even this is far from given.

“The Fed has to acknowledge that unemployment is low at 3.9% and inflation, as measured by the consumer price index, is 3.4%, still some way above its 2% target,” Mould said.

“The Atlanta Fed’s Sticky-Price CPI index is up 4.4% year-on-year, to suggest the central bank has more work to do, especially as producer prices and the Fed’s own preferred measure, the Personal Consumption Expenditure index, are showing fresh signs of heating up, rather than cooling down.”

As such, most predict the Fed is a few months away from starting its rate cutting cycle – as is the Bank of England, which could hold off to move in lockstep with its US counterpart.

For investors, it means the discount rate applied to growth stocks will remain higher for a little while longer, but there is still a general trends lower.

In the coming months, the likes of the big tech names should start to face an easier time of it from a macroeconomic perspective – as if they needed the help.

Cash rates will start to drop, although rates are not expected to plummet, which should mean they remain relatively attractive, while bonds too could thrive as yields start to drop.

In all, it could be a strong period for investors, who will have a litany of options to choose from to make money. At least that’s the theory.

In practice, these things are never straightforward and other shocks could derail any sort of stabilisation from the macro picture. Solid research and decision making will remain key, even if it seems as though the future looks bright.

Having a consistent investment process is key in asset management, and a good manager will stick to their approach even when it is out of favour.

This has been happening to some of Liontrust Asset Management’s funds recently, particularly in UK small- and mid-caps, but experts agreed that the group’s overall offering remains strong.

Liontrust can be described as a “multi-boutique” whose teams have their own distinct processes and franchises, and its business model is based in part on strategic growth through acquisitions.

One thing the firm has got right with this model is retaining key talent, said FundCalibre managing director Darius McDermott.

Historically, Liontrust’s flagship has been the Economic Advantage team, which manages a range of UK equity funds, including Special Situations, UK Growth, UK Smaller Companies and UK Micro Cap.

The long-term track record of these funds is strong, with the UK Smaller Companies fund being the top performer in the 40-strong IA UK Smaller Companies sector over the past 10 years.

Over five years, UK Growth and Special Situations have fallen into the second and third quartile, respectively; Special Situations stayed in the third quartile over the past one and three years.

Historically, small and mid-cap stocks contributed strongly to the Economic Advantage funds, but weak investor sentiment towards these areas has impacted their performance in the past few years.

A Liontrust spokesperson said that the team remains “passionate believers” in the long-term compounding potential of the entrepreneurial, high-quality smaller companies in which they invest – and so did McDermott.

He emphasised the “excellent” long-term track record under FE fundinfo Alpha Managers Anthony Cross and Julian Fosh, who have returned more than 100% to investors over the past decade. McDermott said this is “concrete proof that the process of targeting companies which must have intellectual property, a strong distribution network or recurring revenues holds up well over the long-term.”

Jason Hollands, managing director at Bestinvest, agreed: “I’ve long been a fan of the overall approach, which has delivered very consistent performance. Liontrust UK Growth is also a Bestinvest top pick for the UK market.”

A prime example of Liontrust’s multi-boutique and inorganic growth strategy is the 2017 acquisition of Alliance Trust Investments, now the Liontrust Sustainable Investment team, which manages the Sustainable Future range of strategies.

For this range, 2022 was the most challenging year since inception in 2001. Only the Corporate Bond and the Monthly Income Bond funds managed to buck the downward trend, while the European Growth fund has been anchored to the bottom quartile of performance and Global Growth steadily fell from the second to the third, then the fourth quartile – as shown in the table below.

Source: FE Analytics

According to a Liontrust spokesperson, this was due to a series of headwinds, including an abrupt change to the macroeconomic backdrop, higher bond yields and weakness among the growth-focused and quality stocks in which the team invests.

Nonetheless, stocks in the Sustainable Future funds “delivered growth despite the low growth economy”, he said, which is “testament to the structural nature of the themes the team invests in, which the managers believe have strengthened, such as energy security, innovation in healthcare and environmental efficiency”.

For Hollands, the Liontrust Sustainable Future Growth fund’s underperformance “isn’t a surprise” and is “not problematic either”. Most environmental, social and governance (ESG) funds have underperformed, given they missed out on the rally in energy and commodities, he explained.

Hollands still regards the Sustainable Investment team as a jewel in Liontrust’s crown.

The Sustainable Future multi-asset offerings have also faced challenges, said McDermott, but are backed by “one of the most experienced and well-resourced teams in the game”.

“We retain confidence in their ability to deliver long-term growth, especially considering the continued relevance of the themes the team invests in – energy security, healthcare innovation and environmental efficiency,” he concluded.

Some funds attached to other investment hubs within Liontrust have also underperformed, including the Global Smaller Companies and US Opportunities funds, as shown below.

Source: FE Analytics

The US Opportunities fund is managed by Hong Yi Chen, who joined Liontrust when it acquired Majedie Asset Management in 2022. The fund has just been moved into the new Liontrust Global Equities team headed by Mark Hawtin. Its investment process has evolved to focus on companies with the potential to exploit change and with catalysts to unlock value.

But the area where Hollands was most sceptical was emerging markets.

Liontrust’s China strategy came 30^th out of 36 funds by 10-year performance and has been relegated to the third quartile over the past one, three and five years; the Latin America strategy was the bottom fund in the nine-strong sector over five years.

But Hollands was more concerned about Liontrust Emerging Markets, which came to the group in October 2019 via the acquisition of Neptune Investment Management.

“It is a tiny fund at £9m and appeared in Bestinvest’s last Spot the Dog report as a serial underperformer. At such a small size and with its recent track record, I doubt it is viable,” he said.

Liontrust said most of the underperformance derived from its overweight positions in large-cap technology shares during 2021 and early 2022, which were costly due to a downturn in the semiconductor industry.

Additionally, Brazil dragged on performance as the team’s expectations of recovery initially proved too optimistic – although during the past year, Brazil’s recovery has been a positive contributor to performance.

Asset managers previously covered in this series are Jupiter Asset Management and Schroders.

India’s election results have surprised everyone, unleashing a week of volatile swings in one of the world’s most expensive and most-watched stock markets.

Indian equities hit an all-time high on Monday 3 June in anticipation of Narendra Modi’s Bharatiya Janata Party (BJP) achieving a majority. The stock market then plummeted as results from the early vote count rolled in. A coalition government now appears the most likely outcome.

Peeyush Mittal, who manages Matthews Asia’s India strategy, expects “volatility to continue as the next government takes shape”.

The new coalition government is likely to introduce more populist policies to drive consumption but will probably hit pause on infrastructure spending, which had been a priority for Modi, Mittal said. As a result, he expects sectoral leadership in the stock market to change in favour of consumption stocks, away from capex-led themes.

“We think capital goods and infrastructure-related sectors spanning industrials and materials will face headwinds in the near term and associated stocks will likely be negatively impacted. There are grey areas, such as power and defence, which should be less affected as these are less sensitive to partisan issues,” he said.

“But it will be consumption-related sectors like consumer staples, traditionally strong areas like pharmaceuticals, and other areas that may be more favourably looked upon by an evolving coalition that could fare the best in the coming weeks.” 

Mittal pointed out that consumption growth has been weak in India despite strong GDP expansion during the past two years, which he said indicates there are not enough employment opportunities for lower income groups.

“Post-Covid, the economic recovery in India has been K-shaped, with some sectors and socio-economic groups bouncing back while others have struggled and experienced a loss of savings, particularly citizens on lower incomes and those in rural areas,” he said.

He thinks consumption growth needs to improve for GDP growth to be sustainable.

Mittal also warned that small and mid-cap stocks are likely to experience prolonged volatility given their elevated valuations.

Amol Gogate, manager of Carmignac Portfolio Emerging Discovery, was more bullish about India’s prospects, even though managing a coalition could slow down the government’s pace of execution.

“While the election results are certainly a dampener for the markets and sentiment in the short term, they also showcase that India is a true democracy. And with Modi at the helm, it seems likely the next phase of economic development will proceed and the long-term investment case for India, for now, remains solid,” he said.

Investment into India’s bond markets is set to spike as a result of India’s inclusion in JP Morgan’s emerging markets government bond index this month and Bloomberg’s emerging market local currency index in September 2024. These events could bring in up to $40bn of foreign investment, which Gogate thinks will have a ‘halo’ effect on Indian equity markets as international investors become more familiar with the country.

“This capital boost, combined with Modi’s pro-business stance and a well-managed domestic financial system means Indian markets are poised to continue their upward march. However, with valuations already high, and a less certain political landscape, volatility may increase, so selectivity is becoming more important,” he explained.

His outlook for the stock market differs from Mittal’s. “In our view, small and mid-cap firms will benefit from a likely capex upcycle, as well as the financial services, high-end manufacturing and real estate sectors. The most disruptive businesses, with the highest potential for rapid growth will emerge on top thanks to a highly supportive ecosystem for budding companies,” Gogate said.

Janus Henderson Investors’ co-head of global bonds, John Pattullo will retire in March 2025 after 27 years with the firm.

Jenna Barnard will assume sole leadership of the global bond team and retain portfolio manager responsibilities for the funds she runs alongside Pattullo, with whom she has worked for 20 years.

They both co-manage the £2.3bn Janus Henderson Strategic Bond fund and the £1bn Janus Henderson Fixed Interest Monthly Income fund, among others.

Nicholas Ware, who has been a fixed income portfolio manager at Janus Henderson since 2012, will become a named portfolio manager on all Janus Henderson’s strategic bond and developed world bond funds as part of the firm’s succession planning.

Analysts at RSMR said the Strategic Bond fund is a core option for conservative investors, with an emphasis on quality, capital preservation and consistent returns. Performance has trailed the sector average over five years, as the chart below shows, but RSMR’s analysts said this fund tends to perform better in risk-off markets.

Performance of fund versus sector over 5yrs

Source: FE Analytics

Barnard and Pattullo employ a thematic macro framework, looking at the structural drivers of economies such as excessive debt, inequality, globalisation, demographics and technology. “This approach results in more of a holistic view of what the managers term the ‘climate’ of investing and provides a framework which excludes a lot of the short term market noise,” RSMR explained.

Barnard and Pattullo describe their philosophy as “sensible income”, with the goal of delivering consistent returns via an understandable investment approach.

“The ‘sensible’ theme results in a large proportion of the investment universe being screened out,” RSMR analysts said.

“As you might expect, the screen removes highly cyclical and operationally and financially leveraged issuers and it also excludes industries and companies that fail to consistently generate value. The team is essentially looking to invest in quality credits and avoid unstable, risky sectors and companies.”

The role of AIM stocks in tax mitigation is well-established; however, in recent years, with AIM impacted by broad disillusionment with the UK stock market, it has been harder to make the investment case. This has resulted in the valuations of many AIM companies hitting all-time lows, but there are several catalysts now evident that should help improve the performance of the index.   

The UK’s smallest companies have been widely unloved. They have been on the front line of negative sentiment towards UK stocks and seen as more vulnerable to weakness in the domestic economy. They have been on the wrong end of a general flight to safety among investors. Rising interest rates have also been a headwind, with the valuations of smaller growth companies regarded as more sensitive to higher borrowing costs. However, markets tend to overshoot, and we see real value emerging today.

Operationally, many of the AIM businesses in which we invest have proved sound. They have continued to deliver strong growth despite a more difficult economic environment and have proved resilient in the face of higher interest rates. The combination of weaker share prices and stronger earnings has left many companies looking attractively valued, relative to their larger capitalisation peers.

A contributing factor has been a widespread misunderstanding of the relative risk of AIM companies. While there is certainly higher risk associated with speculative companies within the index, there are also plenty of well-established companies with strong business models, low debt and clear visibility on earnings.

An example of the latter is James Halstead, which manufactures and supplies flooring for commercial and domestic use. Its end markets include defensive sectors such as health and education, reducing exposure to the broader economic environment. It has cash on its balance sheet and the Halstead family still has a significant share of the ownership.  

Valuations

Hardened investors understand that markets can often take time to reach a turning point and recognise that even cheap stocks can get cheaper before they recover.

The UK entered a technical recession at the end of 2023, which will do little to draw investors to its smaller quoted companies. Nevertheless – applying the caveat that stock picking rather than market timing is our strong suit – we are starting to see some green shoots.

While the economic environment remains lacklustre, it is slowly improving. Inflation has come down significantly and is likely to fall further over the next few months.

Previous peaks in inflation, such as those in 1975, 1980 and 1990, have been followed by remarkably strong performance from the UK’s smallest listed companies. In the three-year period following each of these peaks, total returns were 219%, 111% and 74%, respectively. (These statistics are based on the Deutsche Numis UK Smaller Companies index, the bottom 10% by size of listed companies, as it has a far longer track record than the AIM index.)

The Bank of England has hinted that rate cuts are on the horizon, even if it has been circumspect on the extent and timing of any cuts. AIM companies have shown inverse correlation with UK gilt yields; as interest rates rally, so gilt yields decline and the performance of the AIM index starts to revive.

We believe that as bond yields start to drop, it should help reverse some of the negative sentiment that has weakened the AIM market.

IPOs and M&A

There are also tentative signs of renewed optimism in the initial public offering (IPO) market. Last year was a fallow one for IPOs, but there have been encouraging signs of renewed activity over the past four months.

We've seen some interesting companies joining AIM; from disruptive fintech companies to England’s leading winemaker, which is starting to broaden our investment opportunities.

There has also been a revival in merger and acquisition (M&A) activity. While big deals such as those for Currys and Direct Line gather headlines, there is plenty of activity at the smaller end, with private equity and strategic acquirers buying up higher-quality companies at lower prices.

Political support

We also see a growing cross-party recognition that the UK isn’t doing enough to encourage investors to support British business. Most recently, this has been acknowledged by the introduction of a British ISA, which extended the tax-free allowance for investment in UK-listed companies.

There are also moves to encourage UK pension funds to invest more in UK equities (including AIM), starting with a disclosure regime. In the longer-term this may galvanise investment into smaller listed companies.

The recent rally may give a taste of things to come for the smaller end of the market. We believe a renewed optimism around the prospects for smaller companies will start to be reflected by the AIM index.  

Of course, good stock selection is essential. The AIM index is a broad church, with a rich diversity of sectors and companies. Of the top 10 holdings in the index, only two are from the same sector.

The highest sector weighting in the index is in industrial goods and services at 15%, but technology (14%), consumer products and services (12%) and travel and leisure (10%) also make up a meaningful chunk of the companies.

There are over 650 companies currently listed on AIM, with up to £2.4bn in market capitalisation and many paying attractive and growing dividends.

There will always be companies that fail, or that struggle to manage costs effectively. However, careful stock selection can filter out the problematic companies, while focusing instead on those high-quality businesses with strong balance sheets and high returns on invested capital.

Overall, the quality of AIM stocks is as high as it has ever been, and we continue to find a wealth of choice for all our portfolios.  

Simon Moon is co-manager of the Unicorn UK Smaller Companies fund. The views expressed above should not be taken as investment advice.

The European Central Bank (ECB) has lowered interest rates by 25 basis points, moving ahead of the US Federal Reserve in initiating cuts. As a result, , the ECB’s deposit facility rate stands at 3.75%, marginal lending facility at 4.5% and the main refinancing rate at 4.25%.

This cut was widely anticipated as the 2% inflation target in the Eurozone seems to be within reach.

Lindsay James, investment strategist at Quilter Investors, said: “While this news was well expected, it will no doubt provide relief to consumers and businesses on the continent. Ever since Russia’s invasion of Ukraine, Europe has struggled to combat the economic shock this produced, but signs are now improving, although uneven across the continent.

“While inflation has ticked up in recent months, the economic recovery is beginning to play out. This puts the ECB in a good position to cut further into a slowly improving picture, although the messaging is likely to remain restrained and cautious. As such, there may be some pauses on the way back down for rates in order to limit the scope of any divergence with the Federal Reserve.”

Yet, Neil Birrell, chief investment officer at Premier Miton Investors, warned that the path to further cuts will not be predictable or smooth, as inflation in the Eurozone is proving resilient.

For instance, the ECB has upgraded its economic projections, now forecasting inflation at 2.5% in 2024 and 2.2% in 2025, compared to the previous estimates of 2.3% and 2%, respectively.

Gurpreet Garewal, macro strategist, global fixed income at Goldman Sachs Asset Management, agreed. “The future trajectory of easing remains uncertain, given positive momentum in recent inflation and activity indicators, alongside cautious commentary from the ECB. We expect policymakers to maintain a data-dependent approach,” he said.

“We are closely monitoring inflation expectations, wage trends and services inflation. These are key indicators of inflation persistence that will determine the pace and scope of the ECB's rate cutting cycle. The Fed’s decisions and the euro's trajectory may also influence ECB policy in the second half of the year. We currently expect the ECB to adopt a gradual, quarterly easing strategy.”

However, Harry Richards, investment manager for fixed income at Jupiter Asset Management, believes that further cuts will be required as policy is still too restrictive, considering the likelihood that weak growth will persist and inflation will continue its "slow march" towards the target.

 “We do not expect a 'one and done' scenario but, instead, believe we are on the brink of a full rate cutting cycle which should help to underpin returns within the fixed income space over the medium term,” he added.

Richards also believes that the Fed will follow suit in the coming quarters, as the labour market is softening, consumer weakness becoming apparent and shelter inflation fading.

“They may also fear unleashing the dollar wrecking ball if they do hold rates higher for too much longer whilst other developed market central banks are easing,” he said.

Finally, Quilter Investors’ James expects that today’s ECB decision may influence the Bank of England which is set to meet on 20 June 2024.

 “The major central banks will not want to diverge too far from one another, and with political risk being ratcheted up, they also won’t want to be seen as too influential,” she concluded.

UK smaller companies funds have jumped to the top of the 2024 performance charts thanks to “sellers’ exhaustion”, a recovering economy and increasing mergers and acquisitions (M&A).

According to FE Analytics, the average fund in the IA UK Smaller Companies sector made a 10.8% total return over the first five months of 2024 – making it the highest-returning peer group.

The average smaller companies fund is even beating the IA Technology and Technology Innovations and IA North America sectors, which have been buoyed by the continued strength of the Magnificent Seven stocks.

The IA UK Equity Income and IA UK All Companies sectors hold fourth and fifth places year to date, with respective average returns of 8.5% and 8.1%.

Average return of Investment Association sectors over 2024 so far

Source: FinXL. Total return in sterling between 1 Jan and 31 May 2024.

This is a stark turnaround from earlier in the year, when the three UK equity sectors were much lower down in the performance tables, and is down to some strong returns from the UK in May.

Simon Evan‑Cook​​​​, fund manager on the VT Downing Fox multi-asset range, said: “The asset class has been so hated, and therefore heavily sold, that there are just fewer disillusioned souls left to sell them down.

“This is borne out by talking with our fund managers, who tell me that stock prices are no longer being eviscerated if the company reports slightly disappointing results. This had been the norm for the last few years, and this change in behaviour has the ring of sellers’ exhaustion to it.”

Source: FinXL

Rob Morgan, chief analyst at Charles Stanley Direct, added: “This rally has been a while coming. The area has long been cheap but what it lacked was a catalyst to break through persistent negative sentiment and reverse the flows out of UK assets that had been depressing share prices.”

He said a number of factors have combined to “tentatively” turn the performance of UK funds around, one of which is an improvement in the domestic economy. Although the UK’s economic numbers are “still not great”, they are better than many feared and support improving sentiment.

“When things seem very negative, a bit of good news goes a long way,” Morgan said.

He also pointed to positive trends at a company level. FTSE 100 companies with international-facing businesses have benefitted from the strength of the US dollar, which increases the sterling-dominated earnings and has led strong company results. Meanwhile, sectors such as energy, mining and defence, which are big constituents of the UK market, are benefiting from rising demand.

Snapshot of UK equity market over 2024 so far

Source: FinXL. Total return in sterling between 1 Jan and 31 May 2024.

Both Evan‑Cook and Morgan credited increased M&A as a positive for the UK. Years of underperformance from UK stocks has left them attractively valued when compared with international peers, leading to a series of approaches.

“In UK small-cap world it’s become common to hear the refrain ‘they’re so cheap that if you don’t buy them, somebody else will’,” Evan‑Cook said. “Turns out that was true, because all of a sudden corporate and private equity buyers are snapping up UK companies like it’s the end of an episode of The Apprentice.”

Morgan also argued that this creates a halo effect that bolsters sentiment towards the whole market, not just the target businesses themselves.

While all these factors are supportive of UK equities, they may have had a disproportionate impact on smaller companies.

“As the most undervalued parts of the market, UK small- and micro-caps have risen the most as sentiment has turned,” Morgan explained. “It’s also where liquidity is more limited so even a little bit of an uplift in interest can have a big impact.”

But whether the recent rally has legs is a more difficult question.

Morgan expects the M&A theme to continue to underpin valuations, but said it may not boost all stocks equally. Buyers such as private equity investors look for very specific characteristics in a target company, so the main beneficiaries would likely be active managers who are seeking the same qualities and who thereby end up owning natural M&A targets.

“Meanwhile, more extensive than expected interest rate cuts is a tide that would lift all the boats. Unfortunately, it isn’t that likely, but the gradual impact of lower interest rates further out should still help,” he finished.

“Finally, for UK small-caps the performance of the domestic economy is influential. Expectations are pretty low, so continued growth, albeit at a sedate pace, would create a benign environment.”

UK equity funds suffered their second-highest outflows on record in May, with domestic retail investors withdrawing £1.1bn despite strong performance since late February, according to the latest Calastone Fund Flow Index.

Calastone attributed these outflows to profit taking after the recent rally. Edward Glyn, head of global markets, said: “While buoyant markets usually attract new capital, many investors have seemingly chosen the UK rally as an opportunity to jump ship rather than a moment to reappraise the UK’s prospects.

“The election announcement made no difference to selling patterns during the month – this is a long-term trend of selling, not a news-driven flurry.”

On the other side of the Atlantic, US equity funds took in £826m in May, which was six times the long run average but one-third lower than April’s inflows.

Equity funds with environmental, social and governance (ESG) principles garnered £581m in May, with most of this money going to North American strategies.

“The heavy weighting of many US tech stocks in ESG funds helps explain why this is happening,” Glyn said.

“If we exclude North America, ESG-compliant funds have continued to suffer outflows in recent months. So what is going on? Investors can obviously buy funds that only invest in technology stocks though these are small in size, but they may be picking North American ESG-compliant funds as an alternative route to tech exposure.”

Global equity funds raked in £1.4bn and European equities attracted £462m in May.

Meanwhile, fixed income funds were hit by outflows for the first time since October 2023 as inflation data in the UK and US disappointed markets, rate cut expectations were pushed out further and bond yields remained high. Net outflows of £643m marked bond funds’ worst month since March 2020 and second-worst month during Calastone’s almost 10 years of data.

“The prospect of interest rate cuts in the US and the UK has receded yet again, with only the European Central Bank likely to move in the short term. Bond yields are approaching once more the post-global financial crisis highs they reached in late 2023, pushing down bond prices as they have climbed,” Glyn said.

“If you are confident rates will fall, then it’s possible to lock into these high yields for a very long time through fixed income funds, but the see-saw of hopes and fears over rates has finally led some investors to call time and withdraw capital for the first time in months, choosing instead to take refuge in cash or money markets.”

Indeed, investors moved £143m into safe-haven money market funds in May to access the relatively high yields on offer before central banks cut rates. Mixed-asset funds, however, suffered outflows of £531m.

What impact the UK’s forthcoming general election will have on portfolios is a question that many investors are asking and AJ Bell investment analyst Dan Coatsworth has some answers.

Housebuilders, building materials suppliers, nuclear engineers and renewable energy specialists should perform well if the Labour party wins the election, while rail operators, outsourcing providers and UK oil and gas producers would flounder, he said.

Below, he addresses these sectors one by one, giving examples of companies whose activities complement Labour’s policies.

Industries and stocks that would prosper under Keir Starmer’s Labour

First up, housing. Coatsworth expect Labour to implement changes to the planning system and put greater emphasis on building affordable homes.

“This could be good news for companies involved in the provision of materials to the property sector and for housebuilders,” he said.

“Labour has pledged to upgrade draughty homes and help residents to stop wasting heat by it escaping into the great outdoors. That implies a boost for construction workers, engineers and electricians.”

There are multiple companies on the UK stock market that might benefit from Labour’s housing strategy, for example Travis Perkins, Wickes and B&Q/Screwfix-owner Kingfisher, all of which “could see higher demand from tradesmen and homeowners eager for the bits and bobs needed to spruce up flats and homes”.

But the list of companies that could get busier goes on to include construction groups such Morgan Sindall and Kier, ventilation specialist Volution and housebuilders, for example Vistry and MJ Gleeson.

Moving on to energy, where Labour’s Great British Energy initiative foresees the introduction of tougher measures on fossil fuel producers and a windfall tax on oil and gas projects to rack up £8.3bn. These proceeds will be directed towards wind, solar­, hydrogen and carbon capture and storage technologies.

Some of the UK-focused oil and gas operators (such as Serica Energy and Harbour Energy) have already begun reducing their exposure to the UK North Sea, but others have doubled down on their exposure. Ithaca Energy, for instance, has purchased UK assets from Italy’s ENI.

Coatsworth highlighted specialists listed in the UK including Costain, which advises on energy transition work, and environmental services group Ricardo.

But an expected push for nuclear power would also play into Rolls-Royce’s strengths.

“Rolls-Royce has been among the best-performing shares on the UK stock market in recent years as investors bought into its recovery story,” he said.

“Being in a strong position to capitalise on small modular reactors looks like fortuitous timing for Rolls-Royce if Labour gets elected and could potentially act as another catalyst for its share price.”

Calls for the nationalisation of UK railways are creating a “major overhang” for FirstGroup, but ticket seller Trainline should come out of this situation intact, according to Coatsworth. The Labour party has said that it would not revive the Conservatives’ plan for a national retailing app for train tickets.

“Trainline’s shares have already experienced a wobble over potential changes to the UK rail system, but they’ve started to recover,” the analyst noted.

Industries and stocks unlikely to cheer for a Labour victory

Labour was responsible for the previous outsourcing boom and now it might be the architect of its demise, said Coatsworth.

“Starmer wants to bring public services back into government hands, suggesting that waste collection, cleaning, catering and maintenance services and more will no longer be a ripe opportunity for the UK’s army of outsourcing specialists,” he added.

“A lot of people think Conservative politicians awarded lucrative contracts to their friends and associates, and now Labour wants to bring an end to this questionable practice.”

If this is enforced, Serco, Mitie, Babcock and Capita all look vulnerable.

Retail, leisure and hospitality would also struggle. These industries have all benefited from immigration as a source of workers, but both the Conservatives and Labour favour stricter rules on immigration.

“Brexit has already made it harder for certain foreigners to find work in the UK and companies have faced a smaller pool from which to recruit, which has pushed up wages. Consumers have shouldered the brunt of these additional labour costs through higher prices,” Coatsworth said.

“This situation could be exacerbated if Labour wins the election and changes the zero hours contract system. It wants to ban ‘exploitative’ zero-hour contracts as part of a broader initiative to boost wages, make work more secure and support working individuals.”

Frasers is among the names on the stock market to have made full use of zero-hours and any change to the system means it has less flexibility for its workforce.

This scenario extends into other places such as the support services industry, with Mitie among the potential losers from a ban on zero-hours.

Finally, Rishi Sunak’s party looks ready to pass the baton onto Labour in its war on smoking and vaping – bad news for big companies in this sector such as British American Tobacco, Coatsworth concluded.

Wealth manager St. James’s Place has been relegated from the FTSE 100 to the FTSE 250 index after regulatory pressure and fee changes prompted investors to jettison the stock. Online grocer Ocado and industrial services company RS Group have also left the UK’s large-cap index.

Meanwhile, Darktrace, LondonMetric Property and Vistry Group have been promoted to the FTSE 100 as part of FTSE Russell’s annual review. Darktrace, which specialises in cyber security using artificial intelligence, is being acquired by US private equity group Thoma Bravo.

The FTSE 250 Index has six additions and the same number of deletions. As well as the companies moving between the mid- and large-cap indices, Alpha Group International, Renew and XPS Pensions Group are joining the FTSE 250, while Ferrexpo, Mobico Group and Octopus Renewable Infrastructure Trust are leaving.

The changes will be implemented at the close of business on 21 June 2024 and will take effect from the start of trading on 24 June 2024. They will impact the portfolios of investors who own passive and exchange-traded funds tracking the UK’s large and mid-cap indexes.

St James’s Place’s (SJP) share price peaked in December 2021 and January 2022 but has plummeted since then, as the chart below shows.

SJP share price total returns over 5yrs

Source: FE Analytics

SJP scrapped its controversial exit fees last year in response to the Financial Conduct Authority’s Consumer Duty legislation. Fee changes had a detrimental impact on profit margins, according to David Cumming, manager of the BNY Mellon UK Income fund, who recently sold the position in St James’s Place he had inherited when he took over the fund two years ago. Not selling it sooner was a “mistake”, he admitted. “The management were more optimistic than things turned out and we probably stuck with it too long.”

SJP halved its dividend this year and held back £426m in provisions to refund clients who paid its ongoing advice fees but did not receive an “acceptable standard” of service, according to its full-year results.

Chief executive officer Mark FitzPatrick said: “A combination of the provision we have established and an expected decrease in the level of profit growth in the next few years as we transition to our new charging structure, reduces our ability to invest for long-term growth in our business over the next few years.”

Meanwhile, short sellers have been anticipating Ocado’s fall from grace, with the online broker becoming the UK’s second most-shorted stock last month. BlackRock, Millennium International Management and D1 Capital Partners, among others, are betting against the online grocer.

At the other end of the spectrum, LondonMetric Property and housebuilder Vistry joining the FTSE 100 augurs well for the property sector. LondonMetric Property merged with LXI REIT in January to create one of the largest publicly-traded property companies in the UK.

Vistry recently issued guidance that its annual and six-monthly profits would be ahead of last year. Dan Coatsworth, investment analyst at AJ Bell, said: “Investors like what they’re hearing and Vistry’s shares have steadily ticked up since last October with a 38% total return year-to-date (as of 29 May 2024). That makes Vistry the best performing housebuilder in the mid-cap index and the 21^st best performing FTSE 350 stock so far in 2024.”

Retired investors often have a specific income target and an aversion to losses. Bonds, therefore, make up a significant part of their portfolios but equities have a role to play as well by providing dividend income and capital growth.

Equity income funds tend to hold up better than bonds during periods of inflation, said Richard Parkin, head of retirement at BNY Mellon Investment Management.

He thinks actively-managed funds make more sense than passive trackers, “if you buy into the idea that retirement isn’t about maximising returns, it’s about avoiding losses”. Although most active managers struggle to keep up with raging bull markets, the best are adept at cushioning investors from bear markets and avoiding “howlers”, he said.

Jason Hollands, managing director of Bestinvest, recommended prioritising managers who focus on income growth potential, rather than trying to maximise current yields. “If you are going to supplement your retirement income through equity income funds, you will probably want to avoid erratic payouts but will also need to see both capital growth and income growth over time, so that payouts can keep pace with inflation,” he explained.

To that end, Trustnet asked fund selectors to recommend equity income funds that combine downside protection with growth potential.

Martin Currie UK Equity Income

Tom Stevenson, investment director at Fidelity International, argued for an allocation to UK equities.

“For investors looking to achieve a high and growing income stream in retirement, a UK equity income fund might fit the bill. The UK is traditionally a good source of equity income and today our domestic market stands at an attractive valuation discount to many other markets,” he said.

FTF Martin Currie UK Equity Income was Stevenson’s first choice. It is managed by FE fundinfo Alpha Manager Ben Russon, Colin Morton, Joanna Rands and Will Bradwell, who Stevenson said “have good experience in finding companies that can pay sustainable and growing dividends”.

The fund is relatively focused with 48 holdings, including Shell, BP, Unilever, AstraZeneca, National Grid and Imperial Brands.

BlackRock UK Income

Hollands suggested BlackRock UK Income because it “balances the need for stable, growing payouts with continued capital growth”. Managers Adam Avigdori and David Goldman have produced attractive returns with an above-market yield and the fund has held up well in difficult markets.

“The focus is on companies able or with the potential to pay a growing dividend alongside rising capital, rather than investing in businesses paying a high but stagnant yield. The managers are nimble and are able to move the portfolio around depending on the market environment and valuations,” Hollands said.

Performance of UK equity income funds vs benchmark over 10yrs

Source: FE Analytics

Evenlode Income and Evenlode Global Income

Hollands also recommended Evenlode Income, managed by Hugh Yarrow and Ben Peters. “The team has a clear and consistent investment philosophy, focused on high-quality companies with strong free cash flow that can support dividend growth and with a high return on capital. The managers prefer capital-lite businesses where shareholder capital isn’t constantly being drained by the need to reinvest heavily in things like plant and machinery,” he said.

“The fund may tend to lag in rising markets, but it has historically delivered strong and consistent outperformance.”

The fund’s global sibling is another solid choice for retired investors, according to Kamal Warraich, head of fund research at Canaccord Genuity Wealth Management. Evenlode Global Income focuses on generating attractive total returns, dividend growth and a sustainable income, he said.

“The portfolio is biased towards quality companies that generate high and consistent levels of free cash flow. Importantly, the hallmarks of this process tend to provide protection on the downside,” he explained.

JPMorgan Global Growth and Income and JPM Global Equity Income 

Samir Shah, fund research analyst at Quilter Cheviot, said the JPMorgan Global Growth and Income trust is a good option for retired investors because it provides growth plus a 4% yield. 

“The fund selects from only JPMorgan Asset Management’s firm-wide highest conviction ideas that offer superior earnings quality with a faster growth rate. In addition, it pays a dividend set at the beginning of each financial year equivalent to 4% of net asset value, which is funded by a combination of revenue and capital reserves,” Shah explained.

“Along with a strong track record of returns, the ability to pay a market-leading yield while also providing their best ideas from a total return perspective is attractive.”

The trust was trading at a discount of -1.1% as of 3 June 2024 and has £2.7bn in total assets. It is run by FE fundinfo Alpha Managers Helge Skibeli and Timothy Woodhouse along with James Cook.

Juliet Schooling Latter, research director at FundCalibre, recommended another JPMorgan AM strategy managed by Skibeli – JPM Global Equity Income, which takes a value-oriented approach. “The fund's experienced management team prioritises risk management, seeking to deliver a compelling yield without compromising growth potential,” she explained.

“The managers strategically balance ‘compounders’ (companies with consistent long-term growth), high-yielding stocks and higher-growth opportunities within the portfolio. This well-diversified strategy positions the fund as a core holding for investors seeking a balance of income and capital appreciation.”

Guinness Global Equity Income

Guinness Global Equity Income is an equal-weighted portfolio of around 35 stocks, split between cyclical and defensive names. Managed by Ian Mortimer and Matthew Page, the fund has low turnover, which limits transactions costs.

Sophie Turner, a research assistant at FE Investments, said: “This fund focuses on stocks with quality characteristics and low debt, which the managers believe can provide consistent performance throughout the entire economic style. It invests into companies which have strong balance sheets and the ability to grow their dividend stream over time.

“This strong emphasis on quality and dividend growth names means the fund protects well in downturns but tends to lag in strong bull markets. The fund has shown consistent best-in-class performance over a long period, as a result of its well defined, robust and repeatable process.”

Performance of global funds vs MSCI ACWI over 10yrs

Source: FE Analytics

Fidelity Global Enhanced Income and Fidelity Global Dividend

Fidelity Global Enhanced Income uses derivatives to generate extra dividend income, with 40-60% of the fund overlaid by a covered call sleeve. This boosts the fund’s defensive profile, so it should protect capital in a falling market, although performance will lag when the stock market is rising, Turner said. Indeed, performance has been slightly below the fund’s benchmark since inception but with far less volatility.

The fund’s underlying stocks are also quite defensive, Turner pointed out. The managers – David Jehan, Fred Sykes, Jochen Breuer and Vincent Li – invest in companies with strong balance sheets and high-quality earnings which are trading at attractive valuations.

Meanwhile, Schooling Latter suggested another Fidelity International fund. “Fidelity Global Dividend is a core global income fund designed for investors seeking a stable and potentially rising stream of income,” she said.

The fund invests in companies with healthy and sustainable dividend yields, aiming to provide regular and growing distributions while prioritising capital preservation.

“We commend manager Dan Roberts’ value-driven philosophy, which emphasises disciplined investment. This reduces the risk of overpaying for stocks and potentially mitigating losses during market downturns,” she stated.

Many traditional fund managers fail to understand a simple market dynamic that would help them build truly defensive portfolios, according to Anthony Rayner, co-manager of the £268.6m Premier Miton Cautious Monthly Income fund.

Managers who buy bonds to diversify from equities, for example, show a lack of understanding that volatility and correlation levels vary according to the investment environment.

“The more traditional fund managers will be looking for bonds to diversify equities, reflected in the common narrative that bonds are always good diversifiers of equity,” the manager said. “This is also reflected, for example, in the fact that most funds have very little in commodities like gold.”

But they aren’t the only ones who are getting this wrong. Index funds are drawn to have a “material” exposure to government bonds and a bias to longer duration, while funds with a sustainable focus will have a bias against oil, despite it being “one of the best diversifiers from equities” over time.

This tendency leaves investors to choose from a pool of investments funds that are blindly looking at what is working right now to diversify equity risk, rather than what has worked in the past and extrapolating that forward. In other words, people are failing to recognise the wake-up call of 2021, when equities and bonds took everyone by surprise crashing simultaneously.

The two graphs below look back over the past 50 years. The first chart looks at the correlation between US equities, as represented by the S&P 500, and 10-year US government bonds.

Correlation between US equities and US bonds

Source: Premier Miton, Bloomberg Finance L.P and S&P 500

“There are a number of important observations to make. Firstly, there are extended periods when bonds don’t diversify equities and, in fact, bonds have generally only diversified equities during periods of disinflation, that is when inflation risk isn’t elevated,” Rayner said.

“Secondly, in more normal periods, meaning when inflation is elevated, equities and bonds tend to be strongly correlated to each other.”

The second chart looks at the correlation between US equities and the Bloomberg Commodities index.

Correlation between US equities and commodities
n
Source: Premier Miton, Bloomberg Finance L.P and S&P 500

In the majority of the same periods where inflation risk is elevated and bonds have been correlated with equities, commodities have proven to be “a pretty good diversifier”, the manager noted.

“Intuitively it makes sense that commodities do well when inflation is elevated, even if equities and bonds don’t. Oil and foods are often primary drivers of inflation spikes, while gold often responds positively as an inflation hedge,” he said.

“This has been borne out in more recent times, which both charts show, as the environment has been characterised by inflation, so bonds have been correlated to equities, whilst commodities have provided some diversification.”

Recognising that the same asset class has not always been the best diversifier of equity risk over time is particularly important for a defensive portfolio but also for all multi-asset portfolios, as investors understand the importance of having a defensive element to their portfolio.

“For most multi-asset portfolios, equity beta tends to be the biggest portfolio risk. Therefore, from a risk perspective, one of the most pertinent questions is how, and by how much, to diversify equity beta,” he said.

“It might sound blindingly obvious that the environment drives an asset class’ behaviour, but all too frequently investors do not follow this logic through when it comes to the practice of portfolio construction,” Rayner concluded.

The context of the forthcoming election is that the Conservative Party has a mountain to climb to avoid a heavy defeat. Labour has a large lead in the polls (around 20 percentage points) that has been sustained for more than a year and a half.

The polls can of course be wrong, or shift – but it would take a historic swing in such a short time to make a big difference to the outcome.

UK election opinion polls

Source: Rathbones

It isn’t just the polls suggesting that the Conservatives face an uphill battle, the public rate Labour better than the Conservatives on all three of the issues they care most about – the economy, the NHS and immigration.

Rishi Sunak is personally unpopular too, in contrast to the start of his premiership. His net approval rating is now close to that of Liz Truss at the end of her ill-fated time in Number 10, and far behind that of Keir Starmer.

Local elections earlier this month also saw the Conservatives lose hundreds of councillors, while several recent by-elections have seen swings to Labour well above 20 percentage points.

In other words, the chance of a change in the political landscape, after 14 years of Conservative rule, is high. It’s natural to worry about how possible regime change in Westminster may affect our investments, but we see four reasons for comfort.

No dramatic short-term change in fiscal policy on the cards

Shadow chancellor Rachel Reeves has taken a leaf out of the Blair/Brown 1997 playbook in shadowing a lot of existing economic policy. She has pledged not to raise the most significant taxes – income tax, national insurance, capital gains tax and corporation tax.

And she has committed to follow a set of fiscal rules virtually identical to the current ones (as well as showing her commitment to those rules by ditching previous pledges which don’t comply with them).

This cautious strategy means the election is not likely to alter the short-term path of the economy much, or to upset the gilt market. Labour’s clearest points of difference on fiscal policy are arguably its plan to charge VAT on private school fees and to change the tax treatment of carried interest.

That’s significant for those affected but doesn’t move the needle for the economy. We’d expect it to continue its recovery from the shallow recession of last year.

Total managed expenditure

Source: Rathbones

Whichever party wins the next election will eventually have to confront the so-called ‘fiscal fiction’ which underlies current spending plans. This is the assumption that there will be significant spending restraint in key departments, which are likely to prove politically impossible in practice. But that isn’t a Labour-specific issue.

Labour has dropped radicalism of Corbyn era

The past general election in 2019 offered voters two radically different economic visions, Boris Johnson’s pledge to ‘Get Brexit Done’ against Jeremy Corbyn’s socialist agenda.

But the Labour Party has transformed since then, emphasising  ‘partnership with business’ and courting the City. There are some key differences between the two parties’ economic policy platforms today, but these are much smaller than in 2019.

Gone is Labour’s commitment to nationalisation. The party does plan to renationalise virtually all passenger rail services within five years, as existing contracts with private operators expire. Yet things have been moving in this direction by stealth anyway.

The current government has already taken over several major rail franchises, including Southeastern, LNER, ScotRail and TransPennine. Labour also plans to establish a publicly owned company to invest in green energy, such as floating offshore wind, but this is no wholesale nationalisation.

New government may have political capital for much-needed reform

Reflecting the long-term poor performance of the UK economy, there are a few key areas which both main parties have identified as ripe for change, but where the current government has failed to muster the political capital to pass any significant reform. A new government with a fresh mandate could make a positive difference.

GDP per hour worked in dollars

Source: Rathbones

The context behind all of this is the weakness of productivity growth in the UK since the global financial crisis, which in turn is linked to the long-term weakness of investment. (shown in the chart above and below.)

Investment as a percentage of GDP

Source: Rathbones

Many of the specific problems policymakers worry most about – from regional inequality to the state of the health service – are ultimately connected to insufficient investment.

A key issue both parties have identified as a barrier to investment is the UK’s unusual planning system. Our system is discretion-based, whereas virtually every other advanced economy relies more on zoning and rules.

It is slow and unpredictable, discourages development and makes building much-needed infrastructure harder. Infrastructure projects here face much higher costs than other advanced economies, in part because of planning-related delays and legal challenges.

London’s CrossRail, for example, cost 10 times as much per mile as Madrid’s metro system. The spiralling costs of HS2 are notorious, and the project has been the defendant in 45 separate legal cases since 2018.

This would be an appealing area for a new government with a fresh mandate to address, particularly as it can be done without the need for large spending commitments.

Rachel Reeves said, “This Labour Party will put planning reform at the very centre of our economic and political argument.”

There is likely to be a more standardised approach to what is and isn’t allowed. More planners will be hired to reduce backlogs and delays too. So-called ‘grey belt’ land may be targeted for development – things like car parks and wasteland which are currently part of the green belt.

Investors have set the bar for success low

UK assets currently appear cheap compared to their fundamentals on a variety of different measures. International investors fell out of love with UK equities in the period of instability which followed the 2016 Brexit vote. It wasn’t until then that the gap between the valuations of stocks in the UK and elsewhere (particularly the US) emerged.

Price-to-earnings ratios, adjusted for sector composition

Source: Rathbones

The gap is much larger than can be explained by the relative growth and quality characteristics of UK firms, or by the sectoral makeup of the UK market. The story is similar when we analyse currencies – sterling trades well below measures of its ‘fair value’ based on economic fundamentals.

Some reasons for international investors’ antipathy towards UK assets could change. Following years of domestic political instability – characterised by a succession of prime ministers and a lack of policy space to address structural issues – the possibility of a new government with a reasonable majority engenders hope. 

Stability alone might be an improvement on the political and economic turmoil that has existed since 2016. Investors have set the bar for success for the next administration low.

Oliver Jones is head of asset allocation at Rathbones. The views expressed above should not be taken as investment advice.

Three of Allianz Global Investors’ bond funds have been expelled from the Square Mile Academy of Funds, the investment consulting and research firm announced today.

Baillie Gifford and GAM funds also lost ground.

The departure of ­Mike Riddell, lead manager of the A-rated Allianz Strategic Bond, Allianz Index-Linked Gilt and Allianz Gilt Yield funds, spurred Square Mile’s decision to remove its ratings from all three strategies.

“Julian Le Beron, chief investment officer of core fixed income at Allianz, will assume immediate control of the funds, bringing a different investment approach,” Square Mile explained.

“As the funds’ ratings were centred around the analysts’ conviction in Riddell and the process which he built over several years at Allianz, they feel they can no longer support their inclusion in the Academy of Funds.”

In the wake of Riddell’s move to Fidelity International, fund selectors suggested five alternative strategic bond strategies for investors looking to move their money.

Elsewhere, Baillie Gifford Multi Asset Growth also lost its a rating after its medium-term performance failed to live up to analysts’ expectations.

“This, coupled with changes within the underlying team, has led to conviction falling to a level where they no longer feel they can support the fund’s place within the Academy of Funds,” Square Mile noted.

Performance of fund against sector and index over 5yrs

Source: FE Analytics

Square Mile’s conviction in the GAM Star Japan Leaders fund also waned, due to “instability in the management team over recent years and a continual decline in assets under management”.

The size of the fund peaked at approximately £320m in September 2021 and steadily declined to today’s £73m. Therefore, the analysts decided to remove the fund’s A rating..

Moving to the new entrants, two strategies joined the Academy of Funds with newly awarded A ratings.

The first was the Fidelity China Special Situations trust, which Square Mile said was ideal for long-term investors seeking broad exposure to China, offering access to both listed and unlisted companies, as well as those with significant interest in Chinese markets.

It has significant exposure to medium and smaller companies and was prized by Square Mile analysts for the combination of “an experienced portfolio manager supported by a well-resourced analyst team, and an efficacious process within an under-researched opportunity set”.

While the IT China/Greater China sector only includes three trusts, Fidelity’s solution has topped the rest across all time frames and came first for performance over 10, five and three years, as well as one month.

Performance of fund against sector and index over 5yrs

Source: FE Analytics

The second entrant was Capital Group New Perspective, which was officially launched in 2015, but the broader strategy dates back over half a century. It has “a proven track record of delivering excess returns through the cycle” and of keeping up when market leadership changes.

“Drawing upon Capital Group’s multiple-manager approach, the fund takes a flexible approach to managing assets to identify transformational changes in the global economy and to benefit from long-term structural trends in markets,” Square Mile analysts said.

“Overall, we believe this fund to be a solid offering for long-term investors looking for a global equity strategy that is managed in a risk-aware manner and seeks to remain competitive across most market conditions.”

Source: FE Analytics

Finally, the Premier Miton Multi-Asset Distribution and Multi-Asset Monthly Income funds were downgraded from AA to A ratings as the long-standing co-head of the multi-manager team, David Hambidge is stepping back from day-to-day fund management responsibilities on 1 July.

Income investors tend to swim against the tide, buying companies that are undervalued and therefore are paying out yields above the market. This method of investing has been a tough one in recent years as growth investors – and in particular those favouring technology – have thrived.

Yet David Cumming, who manages the £1.6bn BNY Mellon UK Income fund, is sticking with his contrarian stance. “One of my favourite lines is: only dead fish swim with the stream,” he said, implying that investors should challenge the conventional wisdom.

He is a big believer in meeting with company management and through these conversations, he aims to identify trends early and take counter-consensus views. These currently include owning oil companies, going overweight banks and going “slightly long” property, which he thinks has “probably bottomed”.

Real estate investment trusts are trading at 30% discounts while the underlying assets are yielding around 6%, he said. He owns Land Securities and Hammerson and favours retail property, which should benefit from the UK’s economic recovery and interest rates plateauing.

His contrarian bets are paying off. Cumming has been running the fund for just over two years, having joined Newton Investment Management (the BNY subsidiary where he leads the UK equity team) in March 2022 from Aviva Investors.

Performance of fund over 2yrs vs benchmark and sector

Source: FE Analytics

Between 1 April 2022 and 28 May 2024, the fund has delivered top-quartile performance and ranks 13^th amongst the 77 funds in the IA UK Equity Income sector. Over three years to 28 May 2024, it is the second-best performing fund within its sector.

One of his biggest calls has been to buy banks, which used to be a lonely position but is becoming more mainstream, with Barclays and NatWest rallying strongly since February.

Performance of banks year-to-date

Source: FE Analytics

Banks underperformed for a decade after the financial crisis while they steadily built up their capital reserves. “A lot of people just stopped owning them and ignored the fact that they've become very cheap,” he observed.

As interest rates increased, banks’ profit margins improved, which was the catalyst for a re-rating but even Cumming, who has been long banks for a while, was surprised by the speed and scale of their recovery this year.

He owns Barclays, Lloyds, Standard Chartered and HSBC, all of which he said have good management teams, good cash flows and high dividends. “If you add buybacks and dividend yields together, you're getting 10% plus,” he said. Barclays and Standard Chartered are still trading at around half book value despite the recent rally, he added.

The fund can invest up to 20% of its assets outside of the UK and Cumming has bought shares in Swiss private bank Julius Baer, which should be able to take market share following the collapse of Credit Suisse and its merger with UBS, he argued. The company also has a strong position in Asia where wealth is growing quickly.

Cumming has also invested in asset management group M&G this year, as it pays a 9% yield and has “double-digit upside potential”.

“There's a high payout ratio and growth, which is quite a combination,” he said. M&G’s shares should track or beat the market but he expects a higher total return because of the dividend.

M&G has a strong position in fixed income, robust distribution capabilities, good investment performance, an established market position in Europe, and it is growing its business in the Middle East, he concluded.

Cumming also thinks oil companies have plenty of upside, good recovery prospects and low valuations. BP and Shell tend to trade at 30% discounts to equivalent US-based companies and have double-digit free cash flow yields.

Demand for oil and for energy is increasing and while climate change is still a vital issue, people are acknowledging that oil is a necessary part of the transition. “I would say the [environmental, social and governance] ESG zeitgeist is going more pro-oil,” he said.

BP could be vulnerable to bids from international acquirers given its low valuation, he said, although he is not entirely sure that the government would allow BP to be acquired.

Cumming is also leaning into the UK’s economic recovery by increasing his exposure to economically sensitive sectors, including materials and industrials, as well as financials and energy. On the other hand, he is light consumer staples, telecoms and utilities. “Most income funds are low beta but we’re the opposite. We hope to outperform in a rising market,” he explained.

Jeremy Gleeson, head of AXA Investment Managers’ (AXA IM) technology investment team and lead manager of its Global Technology and Digital Economy funds, will leave in August 2024 to pursue an external opportunity.

Gleeson has spent 17 years at AXA IM. He has been managing the £1.3bn AXA Framlington Global Technology since 2007 and the £602m AXA World Funds Digital Economy fund since its launch in 2017.

Performance of fund under Glesson's tenure vs sector and benchmark

Source: FE Analytics

The former fund ranks sixth out of 11 in the IA Technology & Technology Innovation sector under Gleeson’s tenure, but it has lagged behind the MSCI World/Information Technology index over that period.

The latter fund has consistently outperformed the MSCI ACWI since inception.

Performance of fund since launch vs sector and benchmark

Source: FE Analytics

Gleeson also managed AXA World Funds Robotech with AXA IM's head of global thematic strategies Tom Riley and portfolio manager Brad Reynolds between December 2016 and August 2023.

Before joining AXA IM, he was a senior portfolio manager at Close Investments (formerly Reabourne Technology), a subsidiary of Close Brothers Group.

After his departure, Gleeson’s funds will be managed by Tom Riley, Brad Reynolds and and portfolio manager Pauline Llandric.

A spokesperson for AXA IM said: “They are a team of experienced portfolio managers who have worked alongside Gleeson to run the strategies and will continue to directly manage the strategies on a day-to-day basis.”

Just six funds have consistently beaten the FTSE All Share’s yield by more than 10% each year, a study from Trustnet has found.

Income investing has been resurgent of late as investors have started to put their cash to work ahead of impending interest rate cuts from the Bank of England later this year.

Top of most agendas is getting a decent payout from dividends, with yields of particular interest to investors who want to get the highest income possible.

The IA UK Equity Income sector has strict rules in place to ensure investors are getting a fair yield. At present, each fund in the sector must achieve a yield that matches the FTSE All Share index over three years. If it fails, it is removed from the Investment Association (IA) peer group.

Additionally, should a fund deliver less than 90% of the FTSE All Share’s yield in any given year, it will also be excluded. It is worth noting, however, that these rules were relaxed during Covid, with funds given a pass on these requirements in either 2020 or 2021 (they could choose one, but were not permitted both).

With this, all of the funds in the sector have achieved their goal and remain in the peer group. However, these current rules only came into effect in 2017.

The new guidelines were amended after a swathe of income funds – including some of the largest portfolios at the time – failed to meet the previous criteria. This was to achieve a 110% yield over a three-year period.

For this study, Trustnet increased this hurdle rate one step further, looking at funds that have achieved a yield that is  higher than110% of the FTSE All Share’s in every year since 2010, when the IA began collecting these records.

To do this we used data from the IA and took the yield as at the fund’s own end of year reporting window.

Source: Investment Association

Just six funds had a 100% track record. Fidelity Enhanced Income and Santander Equity Income Unit Trust were the two with the longest track records, achieving higher-than-market yields in each of the 14 years looked at. It currently yields 6.91%.

The former has been managed by David Jehan since its launch in 2009, with Rupert Gifford joining in 2020. The strategy is specifically designed to produce an income that is 50% higher than that of the index. To do this it predominantly invests in equities, but can also use derivatives such as cover call options to enhance the income.

Gifford runs the equity portion having worked closely with former longtime manager Michael Clark, identifying steady companies, which have tended to cope well with difficult economic conditions. Jehan looks after the derivatives portion of the fund.

Analysts at Square Mile Investment Consulting & Research give the £219m fund a ‘Positive Propsect’ rating and said: “The combination of these two elements is an appealing proposition for investors who have an income requirement. However, unit holders must recognise that what is gained on the swings is likely to be lost on the roundabouts.

“In this case, income will be higher than more traditionally managed UK equity income strategies, but this is likely to be at the expense of capital appreciation. That being said, on a total return basis (i.e. the combination of income and capital growth), there is unlikely to be too much difference, particularly on a risk-adjusted basis, in returns over the very long term.”

The £118m Santander fund has been managed by Robert McElvanney since 2020, who has continued its track record of beating the FTSE All Share yield by more than 10% in each year, although its aim is to match the current guidelines set by the IA.

It currently yields 4.34% and has been by far the best performer of the group over the past decade, returning 76.9%, placing it in the second quartile of the IA UK Equity Income sector over this time.

The fund managed to make the list ahead of its Santander Enhanced Income Portfolio stablemate. This fund, like the Fidelity portfolio, aims for a yield of 5% per year, but failed to beat our high hurdle rate in 2020, when its end of year date (31 March) coincided with the market collapsing due to the pandemic and the FTSE All Share had a supranormal yield. 

Next, Premier Miton Monthly Income has achieved the feat in 13 consecutive years, while its cousin Premier Miton Optimum Income has achieved a yield of above 110% of the FTSE All Share in 10 years.

Emma Mogford has run the former as sole manager since 2020, replacing Eric Moore, who had in turn replaced Chris White. She was also added as co-manager to the Optimum Income fund at the same time, running it alongside Geoff Kirk.

Analysts at RSMR rate both funds and said the firm has a “highly experienced UK Equity Income team”.

On the Monthly Income strategy, they said it was a “traditional, uncomplicated UK equity income fund which has performed well (particularly from an income perspective)”.

“The focus on dividend growth has help contribute to income returns. The fund provides a better than average dividend yield with lower volatility. In addition, the manager aims to grow the dividend yield by 5% per annum. This has been achieved over the previous five consecutive fund years.”

On the Optimum Income fund, they liked its “core large-cap strategy”, while highlighting its use of a covered call strategy to enhance the overall level of income.

IFSL Marlborough Multi Cap Income and VT Downing Small & Mid-Cap Income are the final funds on the list to achieve the feat. Both invest predominantly in mid- and small-cap stocks. This has hit performance in recent years as this area of the market has struggled.