LF Equity Income Payments

Payments of the first capital distribution from the LF Equity Income Fund (formerly Woodford Equity Income) have now been made to investors. These have been stock sales from the liquid part of the portfolio, representing just over 70% by value. The residual assets of the LF Equity Income fund are illiquid unquoted stocks which will take longer to sell. However investor can expect one or more further payments in due course.

The distributions amounts were as follows:

Share Class ISIN Code Pence Per Share
LF Equity Income C Acc GB00BLRZQ73758.6631p
LF Equity Income C Inc GB00BLRZQ62048.2426p
LF Equity Income Z Acc GB00BZ01L372 58.9936p
LF Equity Income Z Inc GB00BLRZQB71 48.4932p

Most investors will have held the C share classes. The ISIN numbers are fund codes – each share class having its own unique reference. You can check your cash payment is correct by multiplying your shareholding by the appropriate pence per share figure in the table above.

The cash paid will be sitting in your ISA or other account awaiting investment or withdrawal.

Following the distribution, investors will continue to hold the same number of shares in the fund, but the value of them will be correspondingly lower. The bottom line of course when the fund is finally wound up investors will lose money. The amount will depend on how much additional money will be paid out from the residual holdings, any disposals prior to the closure of the fund and the price you paid to buy into the Woodford Equity Income in the first place.

Naturally I am sorry my clients have lost money from this investment, one I never dreamed would run into problems. Fortunately the amounts my clients invested at outset were relatively small in most cases. I do not recommend large sums are invested into single funds due to fund manager risk, the risk that they make big asset allocation and stock selection mistakes and it all goes pear shaped. Fortunately though it is very rare and it highlights the importance of having a diversified portfolio where the winners outnumber the losers. Advocates of index tracking would argue this is evidence that passive investment is better than stock picking strategies but that is another story.

Finally it is worth highlighting the difference between a crystallised and an uncrystallised investment loss. The Woodford Equity Income fund is a rare example of a forced crystallised loss. With the closure of the fund, investors had no choice but to accept they would lose money. However aside from Woodford in the vast majority of cases investors will experience uncrystallised or paper losses where the value of their funds are less than the amounts invested. A paper loss is just a snap shot at a specific point in time. Six months or a year later fund values may have risen and may now be in the black. In most cases investors need not be forced sellers and can therefore avoid real losses.  

The content of this blog is based on my own understanding of the winding up of the Woodford Equity Income fund. It is intended as general investment information only.  Nothing in this article should be construed as personal investment advice. You should seek individual advice based on your own financial circumstances before making investment decisions.

Quality Growth Investing

A quality growth style of investing focuses on identifying companies with superior earnings and earnings growth, high returns on invested capital, strong balance sheets and dominance in their markets. A growth investor is less focused on price and valuation compared to value investors. Quality is much more important. As Warren Buffet has said:

“It’s far better to buy a wonderful company at a fair price, than a fair company at a wonderful price.”

A leading advocate of quality growth investing is Terry Smith, fund manager of the Fundsmith Equity which many of my clients hold. It is a high conviction, concentrated global portfolio of large companies. It is a pure stock picking fund. It has delivered exceptional returns for Smith’s investors. From launch of the fund on 1/11/10 to 31/12/19 the T Accumulation share class rose 364.4% or 18.2% p.a. (Source: Fundsmith LLP). The MSCI World Index, a fair benchmark for comparison in contrast gained 180.3% or 11.9% p.a. over the same period (Source: Bloomberg).

Each year Smith sends out an annual letter to owners of the fund with a review of the year and his investment thoughts. Please note you are unlikely to receive this letter if you hold the fund via a platform. This year’s letter ran to 13 pages. It makes an excellent read so I thought I would highlight a few key points. Smith says his fund has a simple three step investment strategy:

*Buy good companies

*Don’t overpay

*Do nothing.

The 10th annual letter detailed what Smith and his team consider makes companies good. They have for example superior returns on capital invested than the market as a whole, higher margins and lower levels of debt. They also have high levels of interest cover meaning they don’t pay out too much in dividends. Instead there is an emphasis on re-investing earnings to compound growth over the long term. As Smith concludes:

“Our portfolio consists of companies that are fundamentally a lot better than the average of those in either index (the S&P 500 and FTSE 100) and are valued more highly than the average FTSE 100 company and a bit higher than the average S&P 500 company but with significantly higher quality. It is wise to bear in mind that despite the rather sloppy shorthand used by many commentators, highly rated does not equate to expensive any more than lower rated equates to cheap.”

One point to make here is that companies may be cheap for a very good reason – they are poor quality. Value investors buy undervalued stocks that are unloved by the market in the hope of a turnaround. They may be successful but how long it will take and what the catalyst for change might be is anybody’s guess. In some cases they may end up buying what is referred to as a “value trap.” There is nothing to stop a cheap company’s share price falling further. 

The do nothing leg of the fund’s strategy means a long term buy and hold investment strategy. If you buy high quality companies with an expectation of superior returns and compounding of invested earnings why would you not hold the stock for the long term?  Smith and other quality growth investors prefer to invest in relatively predictable businesses, which goes hand in hand with long term ownership. The goal here is to leverage the unique characteristic of equities – that retained earnings are re-invested in the business, thereby compounding returns. This does not happen with bonds, cash or property. After interest or rent is paid out you don’t get more investment in bonds or buildings.

Another consequence of the do nothing strategy is that portfolio turnover is minimised and hence fund transaction expenses are reduced. To truly compare investment charges you must consider the total cost of fund ownership not just the annual fund management charge.

Another theme of the annual newsletter was Smith’s thoughts on the Woodford debacle, the main news of the investment industry in 2019. The main problem was the incompatibility of running a fund with daily dealing when holding a large amount of investment in unquoted smaller companies. These are not listed on a recognised stock exchange and their shares therefore have to be traded privately. With no market for their shares they are highly illiquid and are unsuited to selling quickly, a pre-requisite for daily dealing. Woodford ran into problems when large number of investors wanted to exit the fund and it could not meet demand. As the Fundsmith Equity only invests in easy to sell large companies Smith estimates they could liquidate 57% of the fund in seven days. The other problem Woodford faced was his investment in poor quality larger companies such as Capita, Imperial Brands and Provident Financial. His famed stock-picking skills went badly awry.

Finally Smith addressed the issue of “star” fund managers of which he is undoubtedly one. After the failure of the Woodford Equity Income other leading fund managers came under a similar scrutiny, unfairly in my view. It led to investor panic and selling out of high quality funds such as the Fundsmith Equity and Lindsell Train UK Equity despite the fact their quality growth investment styles were radically different from Woodford’s and their portfolios were much higher quality. Smith argued that it is irrational not to support a sport’s team just because they have star players. No the problem with Woodford, he says, was that he changed his investment strategy – referred to as style drift. Smith observes that this started whilst he was at Invesco Perpetual, where he began to accumulate large stakes in small unquoted companies. It was taken further once Woodford set up his own firm. Smith likens the change to Cristiano Ronaldo playing for Juventus as a goalkeeper. You wouldn’t expect the team to be as successful.

Smith concludes with an assurance there is no desire to change the Fundsmith Equity’s investment strategy. There will be no style drift and the fund will continue to buy and hold high quality businesses.

I like Smith and his investment thinking. The theory of quality growth investing is compelling and it has delivered consistently superior investment returns than value since 2007. The global financial crisis has resulted in investors being more cautious and favouring quality companies. With solid earnings and strong balance sheets they are more predictable and defensive in nature. Value investors have long expected a rotation in investor sentiment away from growth but it has failed to materialise in any meaningful way. However data I have seen shows prior to the banking crisis, notably from 1975 to 2006 value outperformed growth in many years. So I would never say quality growth will always outperform value.

There is more I could write about growth versus value but space and time doesn’t permit here.

The content of this blog is based on my own understanding of the 10th annual Fundsmith Equity newsletter and the concept of growth and value investment. It reflects my personal views and is intended as general investment information only.  Nothing in this article should be construed as personal investment advice for example to invest in quality growth funds, the Fundsmith Equity or Juventus. You should seek individual advice based on your own financial circumstances before making investment decisions.

Investment Outlook 2020

With the start of a new year and a new decade what is the outlook for investors? Normally you might start with the question – where are we in the economic cycle? Are we early stage expecting recovery or expansion or late stage expecting a slowdown or recession? In an interesting article co-authored by the excellent Karen Ward, a Chief Market Strategist at JP Morgan, they conclude it is difficult to tell. Logically with an expansion lasting more than 10 years since the global financial crisis and with record low unemployment in most parts of the developed world you would think we are late stage. However there does not appear to be the classic signs of end of cycle exuberance. Business and consumer spending is not excessive and the US consumer savings rate is holding up, normally it falls at the late stage of the cycle. Also we don’t have runaway inflation. On the contrary central banks are worried about economic growth and inflation being too low! Consequently monetary policy remains loose and highly accommodative, with ultra-low interest rates being very supportive of equities.

I think pretty well everyone agrees that economic growth has been weak and slow during this long period of expansion and with a phase 1 trade deal between China and the US it is not unreasonable to conclude that the longest bull market for equities in history is set to continue in 2020. However JP Morgan note that valuations are less attractive than this time last year and there is a risk of slowing corporate profits growth. For example company margins will be squeezed by wage demands caused by skilled labour shortages. JP Morgan also think manufacturing is flying a red flag for recession risk and they see ongoing geo-political risks for example disputes on unfair trade practices and other areas of disagreement between the US and China. Resolution and certainty will feed through to business confidence and investment but the opposite is true. In other words geo-political risk has binary outcomes which are tough to call. Who knows for example how events will unfold between Iran and the US?

From an asset allocation perspective JP Morgan favour a regionally neutral defensive equity position. I broadly concur but at the same time Jon Cunliffe, Chief Investment Officer of Charles Stanley observed in a blog for intermediaries that UK equities were very attractively valued compared to both 10 year gilt yields and their European counterparts whilst Sterling’s recovery was a potential draw for overseas investors. I also noted from the JP Morgan article that the Bank of Japan is a buyer of equities and with reform in corporate governance this market remains one I favour. Finally both commentators highlighted the importance of ESG investing. ESG is environmental, social and governance. Investor demand for responsible capitalism will be an increasingly important driver of investment returns.

The content of this blog is based on my own understanding of selected points made in the two articles referred to. It reflects my personal views and is intended as general investment information only.  Nothing in this article should be construed as personal investment advice for example to invest in UK or Japanese equities. You should seek individual advice based on your own financial circumstances before making investment decisions.

General Election Investment Commentary

Whether you celebrated or mourned the general election result politically, stock markets reacted very positively yesterday and sent the value of your investments higher. The FTSE 100 index rose almost 80 points or 1.1% whilst the more domestically focused FTSE 250 index gained 3.44%. At one point it was up 5.2%, posting a record high. UK housebuilders soared, for example Persimmon by 12% whilst Severn Trent rose 9%.

The pound also rallied against the dollar and to its highest level against the Euro for three and a half years. Gilt prices fell meaning yields rose.

Much of the market reaction can be explained by removal of uncertainty, at least in the short term. The UK is set to leave the EU on 31 January whilst the threat of nationalisation of utility companies such as Severn Trent has been removed.

One reason why the domestically focused FTSE 250 index outperformed the globally focused FTSE 100 index was due to Sterling strength which impacts adversely on the value of repatriated overseas earnings. Gilts prices typically fall when markets perceive less risk, so investors may have rotated from gilts to equities.

So what next? Alan Collett manager of the TM Home Investor fund, the UK’s only authorised retail residential property fund thinks a “wait and see” attitude has affected the housing market and with some of the uncertainty removed, housing transactions are expected to pick up.

We may see a traditional Santa rally in the equity market for the rest of the month but of course there is still plenty of  uncertainty in 2020 as the UK negotiates its future relationship with the EU. Of course global events will also impact the UK economy notably the outcome of the US/China trade talks.

Markets tend to over react and we may see a paring back of yesterday’s optimism and gains in the next month or two. There are reasons to be cheerful for investors but we shouldn’t get carried away.

This will most likely be my last blog post of the year. May I take this opportunity to wish you all a very happy Christmas and New Year.

The content of this blog is intended as general investment information and commentary only.  Nothing in this article should be construed as personal investment advice, for example to invest in equities or property. You should seek individual advice based on your own financial circumstances before making investment decisions.

Is your glass half empty or half full?

Recent e-mail correspondence with a client about the risk of investment has got me thinking. It followed a similar pattern with other clients. They were all quite pessimistic about the prospect for stock markets and their investments whereas I am more bullish in comparison. Having delivered a current valuation statement to this particular client and a brief commentary he wrote:

“I just wish I could be as hopeful as you regarding global economy improvements as I don’t see much reason for hope when I look at the news!”

In response I wrote:

“I would not say I am overly optimistic about the global economy and the prospects for global stock markets but I am less pessimistic than other commentators and yourself. I expect that some of the uncertainty currently plaguing us will be resolved in whole or more likely in part in 2020 notably Brexit and the US/China trade wars. Moreover central bank monetary policy is highly supportive, which means interest rates will be lower for longer. This depresses bond yields making the dividend yield on equities much more attractive to investors. US markets recently hit new highs a few weeks ago, although UK equities remain unloved and undervalued. I think most of the risk is priced into the market here and there will be a re-rating of share prices in time.”

Despite my brief market analysis which no doubt can be challenged on various fronts, it got me thinking. Why am I less pessimistic than my clients? Am I downplaying the risks? Am I blind follower of the cult of equity investment? Am I biased needing to talk things up and see investment in a more positive light, in order to justify my advice or dare I say it justify my legitimacy? All of those could be true. To try and make sense of this we have to consider what is making my clients so glum. Well as my client said just look at the news! There is a whole bevy of negative issues at play here – Brexit, Trump, the US/China trade war, weak economic European growth, geo-political risk, the demise of Neil Woodford, once hailed as the best UK fund manager and fears of contagion from the Woodford debacle spilling over to other star fund managers. These are real issues, not to be down played. So the last thing I want to do is be dismissive of my clients’ concerns.  It is their money after all that I look after. So if they are feeling cautious and want defensive investment I need to respect that.

But back to the key question. The reason why I think I generally have a more optimistic attitude than my clients is that I tend to view equity investment in a historical context. I became an IFA in 1992 and have managed portfolios through turbulent times, the Asian currency crises of 1997 and 1998 the technology crash in the early noughties, the global financial crisis in 2008 and 2009, the Euro fallout in 2011 with lots of mini wobbles in between. Through such times I have seen portfolio values fall sharply and recover and over the long term move nicely into profit. One of the best things about reviewing portfolios that are 8,10 or 15 years old is that they are generally very profitable. As an example I remember reviewing a client’s portfolio a few years ago. She had invested £3,000 into a high quality European equity fund in 1995, before she became a client. I have recommended it to others. It had paid out dividends but was worth about £21,000 about 20 years later. Despite the sell-offs in 2001, 2008 and 2011 the fund had risen seven fold. The point is in the long term I have seen equity investment come good and so I tend not to place too much store about the current headwinds. It is of course potentially dangerous to assume this will always prove true and account must made for clients who invest for shorter periods of time. 

In conclusion those who see the glass as being half empty are looking at things in a different way to me. It is a shorter term view with a focus on the present. My perspective is long term and historical. My clients’ views are not wrong, just different.

The content of this blog is based on my own understanding of investor psychology and is intended as general information only.  Nothing in this article should be construed as personal investment advice. You should seek individual advice based on your own financial circumstances before making investment decisions.

Brief Market Commentary

The three main US stock markets, the Dow Jones Industrial Average, the S&P 500 and the Nasdaq Composite all closed at record highs on Friday. US equities are the gift that keeps on giving. Aside from the fact the US domestic economy is in very good shape and the Federal Reserve, the US central bank has been very accommodating this year in terms of interest rate policy, shares were boosted by hopes of an interim deal between the US and China aimed at resolving their trade disputes. Asian markets also rose to six month highs on the back of these events. Interestingly the gold price has fallen since the beginning of the month from $1,514 to $1,459 per ounce on Friday. Gold is a safe haven asset that has rallied significantly in the last 12 months. This recent fall in the gold price is a clear sign that investors are feeling less bearish and are willing to rotate back to shares.

Since September there has also been a significant rotation from growth to value stocks. It is complex and difficult to describe exactly what these terms mean. In summary growth is where there is above average earnings growth or expectation of such. Investors buy on this momentum. Value stocks in contrast are companies that are undervalued relative to their earnings. This may be due to problems with the business or restructuring. Value investors expect prices to increase as the market recognises their inherent worth. Historically in the long term value has outperformed growth investment but since the global financial crisis growth stocks have been in the fore. Undoubtedly they are now looking expensive which is almost certainly a driver in the rotation to value. This could push US share prices even higher.

In the UK stock markets are unlikely to find their mojo until the outcome of the General Election and Brexit is determined. Businesses and markets hate uncertainty which is a barrier to investment. UK markets are trading below their earlier year highs. That said a lot of the bad news should already be priced in I am a little more optimistic looking forward in 2020.

The content of this blog is based on my own understanding of the global and UK economies and is intended as general investment information only.  Nothing in this article should be construed as personal investment advice, for example to buy value stocks. You should seek individual advice based on your own financial circumstances before making investment decisions.

Answers to Quiz

The correct answers shown in red, the wrong answers are in plain text, comments are in green and the marking system is in blue.

1. What is a gilt?

An easy one to start.

(a) a corporate bond

(b) a government bond

(c) a type of gold

(d) the expression on your dog’s face when it pinches food off the kitchen table.

Marks:           One point for the correct answer.

2. Place in order the following economies from highest to lowest in respect of the percentages of their GDP (gross domestic product, a measure of their economic output) that are imports and exports.

UK, US, Eurozone and China.

Eurozone, UK, China and US.

The Eurozone has the highest dependency on exports and imports and the US the least. The US economy is very domestically focused and consumer oriented.

Marks:           Two points for the exact correct order.

3. Your portfolio rises in value from £159,320 to £197,500. What is the percentage rise to two decimal points?

The answer is 23.96% to two decimal places. The workings are as follows:

First deduct the end value from the starting value, £197,500 – £159,320 = £38,180. That is the gain in cash terms.

To calculate the percentage gain, you need to express the cash gain as a percentage of the starting value i.e. 

       £38,180

      ———–    x 100% = 23.96%.

      £159,320          

Marks:           One point for the correct answer.

4. Which of the following statements about investment trusts are true? There may be more than one.

(a) They are open ended meaning the fund manager can create and redeem shares 

ITs are closed end funds with a limited number of shares in issue. Unit trusts and OEICs are open ended. The closed end structure of investment trusts means the value of the underlying assets per share may trade at a discount or premium to the share price.                                                                                                                                     

(b) They can borrow to invest

Unlike unit trusts and OEICs. Borrowing to invest means ITs magnify returns and losses.

(c) Their shares are listed and traded on a stock exchange

This is exactly the same as for companies such as BP, HSBC and Diageo.

(d) They are required to distribute all income to investors as it arises

No. They can retain 15% for distribution at a later stage. This enables investment trusts to smooth distributions or increase dividends year on year.

(e) They are good for holding illiquid assets.

This is a feature of closed end funds. Assets do not have to be sold to meet investor demand to sell out unlike with OEICs and unit trusts.

Marks:           One point for each correct answer, maximum  of three. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

5. Which of the following are considered safe haven assets during periods of economic and market stress? Again there may be more than one.

(a) Swiss Franc

(b) Gold

(c) Bitcoin

(d) Japanese Yen

(e) High yield corporate bonds

(f) Shares in travel companies and airlines

(g) US Treasuries.

Marks:           One point for each correct answer, maximum  of four. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

6. Which statements are generally true if Sterling falls in value against other developed market currencies such as the dollar, yen and Euro.

(a) The UK imports inflation

(b) UK exporters benefit in selling goods and services abroad

(c) Foreign holidays are cheaper for Brits

(d) Petrol prices are likely to fall

(e) The FTSE 100 index is likely to rise.                                    

Overseas earnings made in foreign currencies are boosted when repatriated to Sterling. Around 70% of FTSE 100 companies’ earnings are from overseas.

Marks:           One point for each correct answer, maximum  of three. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

7. Which of the following statements about smaller companies are generally true?

(a) They are more likely to suffer more during recessions and economic downturns than larger companies

(b) In the long term smaller companies outperform larger companies

(c) Smaller companies do not pay dividends

Whilst some do not, notably in the early stage when a company is not in profit, many listed smaller companies do pay dividends.

(d) Smaller companies are primarily exposed to the domestic, consumer economy

(e) Smaller companies funds are best managed passively using index tracking strategies.                         

Active fund management is best due to the lack of analyst research and price anomalies.

Marks:           One point for each correct answer, maximum  of three. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

8. Which of the following are normally positively correlated?

(a) Inflation and interest rates

(b) Interest rates and corporate bond prices     

When interest rates rise, bond prices fall

(c) Equities and bonds                                                                                         

A tricky one, sometimes they are, sometimes they are not, depending on market conditions. Overall though a positive correlation cannot be claimed.

(d) Unemployment and wage growth                                                            

They are negatively correlated.

(e) The win ratio of Barnsley football club and the UK economy.           

However if the UK economy improves with falling unemployment and wage growth attendances at football matches might go up.

Marks:           One point for the correct answer. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

9. Place in order the following equity markets in terms of the least to most expensive based on forward price to earnings ratios at 30/9/19

UK, US, Europe (ex-UK), Emerging Markets and Japan.

Emerging Markets, UK, Japan, Europe (ex-UK), US

Marks:           Two points for the exact correct order.

10. An individual has earned income of £18,000 in 2019/20. How much tax will he pay on £17,000 of dividends he receives from non-ISA investments in that tax year?

The answer is £1,125.

In 2019/20 the individual has a £2,000 dividend tax allowance. All of his personal allowance of £12,500 is used up by his salary and he is a basic rate taxpayer. This means £15,000 of dividends are taxable at 7.5% i.e. £15,000 x 0.075 = £1,125.

Marks:           Two points for the correct answer.

11. Someone invested £20,000 in a fund outside an ISA on 1/10/17. Two years later the investment is worth £27,000. The investor sells £6,000. How much is the realised capital gain for tax purposes?

The answer is £1,555.56.

The £6,000 sold has to be apportioned between a disposal of original investment and realised gain. The amount of original capital in the £6,000  is calculated as a proportion

£20,000

———           X          £6,000 = £4,444.44. 

£27,000

The gain is £6,000 – £4,444.44 = £1,555.56.

The calculation assumes for simplicity there is no dividend re-investment.

Marks: Two points for the correct answer.

12. Which of the following investments always pay returns free of income and/or capital gains tax to investors?

(a) Stocks and shares ISAs

(b) Premium Bonds

(c)  Unit Trusts

(d) Venture Capital Trusts

(e) Structured Products

(f) NS&I Income Bonds.

Marks:           One point for each correct answer, maximum  of three. Deduct half a point for each wrong answer but your overall score for the question cannot be less than zero.

There are a maximum of 27 marks.

0-5                  Brushing up required

5-10               Could do better

10-15             Pretty good

15-20             Good

20-26             Excellent

27                   You could be a very good financial adviser

Nothing in this test is intended as personal advice or a financial recommendation, for example to invest in safe haven assets and tax free investments.

Woodford Equity Income Fund

It has been announced today that the Woodford Equity Income fund will be wound up. Previously the intention was to re-open the fund once illiquid unquoted stocks were sold but this is now considered not to be in investors’ best interests. The decision was made by Link Fund Solutions Ltd, the Authorised Corporate Director (ACD) of the fund not Woodford Investment Management. An ACD is an authorised firm which administers a fund’s investments, handles the purchase and redemption of shares in fund and ensures the assets of fund are properly valued. They have the power to sack a fund manager and unfortunately for Neil Woodford this has now happened with immediate effect. The fund will be renamed the LF Equity Income.

The winding up of the fund will commence on 17th January 2020 and it will be undertaken in an orderly manner to avoid a fire sale of assets and investor detriment. A number of capital distributions is intended with the first expected at the end of January. What investors will get back will naturally depend on stock market conditions and the costs the winding up process will incur. For example Blackrock has been appointed to sell listed securities and naturally there will be fees.

It is likely that most investors will lose money on their investment and naturally I am sorry for clients that I recommended the fund to. The only consolation is that investors who bought Woodford’s funds when he was at Invesco enjoyed excellent returns over many years. This makes the extent of Woodford’s fall quite incredible and sobering for IFAs like myself who believe in active fund management. The industry and the regulators will be looking to see if the problems with Woodford are more widespread and will try to ensure there is no repeat or systemic risk for investors.

More information about the decision to wind up the Woodford Equity Income fund can be found in the article from Link Fund Solutions Ltd:

https://woodford.linkfundsolutions.co.uk/media/yr2dbqm2/15th-october-2019-investor-letter-regarding-the-winding-up-of-the-lf-woodford-equity-income-fund.pdf

Have you been paying attention?

For something different to my normal blog posts, here are twelve questions about investments. Have a go and test your knowledge but don’t worry about your score. Hopefully it will be just a bit of fun and you’ll learn a thing or two. See if you can answer the questions from your own knowledge or alternatively make best guesses. There are no prizes. The answers will be published early next week. 

1. What is a gilt?

An easy one to start.

(a) a corporate bond

(b) a UK government bond

(c) a type of gold

(d) the expression on your dog’s face when it pinches food off the kitchen table.

2. Place in order the following economies from highest to lowest in respect of the percentages of their GDP (gross domestic product, a measure of their economic output) that are imports and exports.

UK, US, Eurozone and China.

3. Your portfolio rises in value from £159,320 to £197,500. What is the percentage rise to two decimal points?

4. Which of the following statements about investment trusts are true? There may be more than one.

(a) They are open ended meaning the fund manager can create and redeem shares

(b) They can borrow to invest

(c) Their shares are listed and traded on a stock exchange

(d) They are required to distribute all income to investors as it arises

(e) They are good for holding illiquid assets.

5. Which of the following are considered safe haven assets during periods of economic and market stress? Again there may be more than one.

(a) Swiss Franc

(b) Gold

(c) Bitcoin

(d) Japanese Yen

(e) High yield corporate bonds

(f) Shares in travel companies and airlines

(g) US Treasuries.

6. Which statements are generally true if Sterling falls in value against other developed market currencies such as the dollar, yen and Euro.

(a) The UK imports inflation

(b) UK exporters benefit in selling goods and services abroad

(c) Foreign holidays are cheaper for Brits

(d) Petrol prices are likely to fall

(e) The FTSE 100 index is likely to rise.

7. Which of the following statements about smaller companies are generally true?

(a) They are more likely to suffer more during recessions and economic downturns than larger companies

(b) In the long term smaller companies outperform larger companies

(c) Smaller companies don’t pay dividends

(d) Smaller companies are primarily exposed to the domestic, consumer economy

(e) Smaller companies funds are best managed passively using index tracking strategies.

8. Which of the following are normally positively correlated?

(a) Inflation and interest rates

(b) Interest rates and corporate bond prices

(c) Equities and bonds

(d) Unemployment and wage growth

(e) The win ratio of Barnsley football club and the UK economy.

9. Place in order the following equity markets in terms of the least to most expensive based on forward price to earnings ratios at 30/9/19

UK, US, Europe (ex-UK), Emerging Markets and Japan.

10. An individual has earned income of £18,000 in 2019/20. How much tax will he pay on £17,000 of dividends he receives from non-ISA investments in that tax year?

11. Someone invested £20,000 in a fund outside an ISA on 1/10/17. Two years later the investment is worth £27,000. The investor sells £6,000. How much is the realised capital gain for tax purposes?

12. Which of the following investments always pay returns free of income and/or capital gains tax to investors?

(a) Stocks and shares ISAs

(b) Premium Bonds

(c)  Unit Trusts

(d) Venture Capital Trusts

(e) Structured Products

(f) NS&I Income Bonds.

Nothing in this test is intended as personal advice or a financial recommendation.

Sustainable Investment

Earlier this week I listened to an interesting webinar on sustainable investment given by Mike Fox of Royal London Asset Management (RLAM). It is a term you may have heard or something similar called ESG – environment, social and governance. Nowadays investment companies talk about embedding sustainability or ESG into their investment decisions and similarly businesses are keen to promote their socially responsible corporate culture and practices. For example Diageo, a global drinks manufacturer state the three priorities underpinning their sustainability and responsibility strategy are promoting positive drinking, building thriving communities and reducing their environmental impact. All very well and good perhaps, but what is the difference between ethical investment and sustainable investment or ESG?

To answer this question we need to consider the range of responsible investment strategies and look at the evolution of ESG. For many years most fund managers and many people considered investment to be amoral. Investments were bought purely for their ability to make money. There was no ethical or socially responsible considerations taken into account when selecting what companies or funds to invest in. It is a do nothing approach with respect to sustainability, with everything being a potential investment. At the other end of the scale is philanthropy, with wealthy people giving away money for social good. Here in contrast to an amoral view of investment, social good is the only thing that matters and a financial return is not expected.

In between these two outliers we have ethical investment and sustainable investment, though they are not the same. Although ethical investment came to the market in the mid-1980s, it remained for a long time a niche product with relatively low uptake. It focuses on avoiding the bad using negative screens. Traditional ethical funds are sometimes described as being “dark green.” According to Fox it is dour and focuses on UK and single assets. In contrast sustainable investment which evolved from ethical investment is modern and inclusive with a focus on doing good, rather than avoiding the bad. It is not country or asset class restricted. Fox also asserted that it has led to enhanced returns. Sustainable investment or ESG has now gone mainstream in the investment and corporate world at least. It is all the rage, whilst ethical investment rarely gets a mention.

Fox argues sustainable investment is predicated on the belief that capital can be deployed as a force for good. It is about investing in products and services that are cleaner and healthier and make a positive contribution to society. It is also about good corporate behaviour (ESG). Crucially Fox recognises the importance of making money i.e. generating returns ahead of the cost of capital. In simple terms for each £1 you invest you expect to get more than £1 back. That is what any investor expects. He contrasts this with what is called “impact” investing where below market returns are accepted for a greater social impact. RLAM are not in this arena. They are pragmatists and clearly want to make money for their investors and it is true their range of sustainable funds has been successful delivering strong returns. You won’t find anyone wearing sandals at their offices.

I can see the argument for a more inclusive sustainable investment strategy. Fox cited two examples in his presentation. The first was Diageo which according to Fox is an ESG leader with impeccable credentials, for example on good water management. He takes the view that alcohol itself is socially neutral in nature. It is not inherently bad and is good if used responsibly. In contrast tobacco he observed is socially damaging and harmful and shouldn’t be included in sustainable funds.

The second company was Google which although has had reported ethical issues such as privacy and alleged tax avoidance it has democratised knowledge, made it freely available with a big positive impact globally. Sustainable investment appears to be about making a net positive contribution and for Fox Google and Diageo fit the bill.

So what is my assessment? It is clear that sustainable investment has widened the scope and potentially the appeal of traditional ethical investing. It is undoubtedly increased the investment universe for fund managers in this space, with the potential for greater returns. Fox however did not present any evidence to support his claim that investment returns have been enhanced by a sustainable investment style. Whilst I am aware of some modern sustainable funds have cracking track records I am also aware of dark green ethical funds with terrific performance. So for me the jury’s out. My biggest concern however is that Fox who is clearly a cheerleader for sustainable investment does not appear to see a role for traditional ethical investment and in my experience this won’t do. A good number of my clients are still keen to avoid investment in the so called sin stocks such as tobacco or arms production. They want to invest with a clear conscience and that requires negative screening. For one client all companies involved in animal testing have to be avoided at all costs even if the testing is for human medicine.

The other issue for me, and this is just my personal opinion, sustainable investment or ESG appears to be a classic fad. It has come out of nowhere to the point it seems to be the most important issue in investment, the must have corporate policy to go alongside those on privacy, modern slavery, inclusiveness and diversity. Every business is keen to stress how seriously they take corporate responsibility and the environment. Whilst I am not saying these things are unimportant I can’t help thinking there is a certain amount of virtue signalling going on here. No business wants to be seen lacking in keeping pace with the accepted norms of  social responsibility. Moreover I don’t think the development of sustainable investment was driven by investor demand. It appears to something invented by those who want to make ethical investment less restrictive and therefore more mainstream. I may be cynical but it appears in part to be a bit of good marketing, designed to attract new investors, people who like the idea their investment is a force for social good, even if they are not too concerned about the lack of negative screens. Remember a company that is rejected by an ethical fund may be included in a sustainable fund if it is net positive i.e. its social good outweighs the bad. Finally I am not a fan of the term sustainable. It seems to me that if something is slapped with the label sustainable or progressive, it is indisputably good even before it is subject to critical analysis. That can’t be a good thing after all sustainable itself is not a quality; it is assessment of durability. It can be bad. My quirky sense of humour takes my mind to dictators and despots who pass laws that keep them in power for life. I know it is hyperbole but that is a sustainable outcome!

Despite the rise of ethical and sustainable investment most of my clients do not require it. They make no moral choices on what they are happy to invest in. A minority do. If you are in this camp you will need to decide whether there are strict red lines you don’t want to cross, in which case traditional ethical investment with negative screens is required. If however you are keen for your money to have a general positive social and environmental impact and you are happy to include investment in companies who may have ethical issues but where the good outweighs the bad, then sustainable investment is for you.  

The content of this blog is based on my own understanding of ethical and sustainable investment. It reflects my personal views and is intended as general investment information only.  Nothing in this article should be construed as personal investment advice. You should seek individual advice based on your own financial circumstances.