At the end of the part 3, like Doc Brown, I left you hanging and suggested I might come back with a 4th part at a future date. So today I'm doing that with a trip around the world to look at some investment trusts that might be of interest as a way of playing some of the themes that were explored earlier in the series. If you click the image you will also be able to read an interesting article based on a note from the Investment Trust Analysts at J.P. Morgan which looked at the best performers over the 30 years since 1985. Interestingly the UK All Companies and UK Income Sectors provided some of the best returns which does make one wonder if you really need to venture off into all these esoteric overseas markets? It does however highlight the advantages of a long term investment approach, although 1985-2015 was a pretty good period for investing. Any way despite those caveats lets start in the UK before venturing further afield.
One of the things that came out from the earlier posts was that the UK market, despite the recent concerns after a 6 year bull market, actually seems to be fairly valued and may offer returns in line with the long term average in the future from here based on current starting valuations.
It is difficult to find much of value in Investments trusts or IT's as most of the top performers like Edinburgh Investment Trust (EDIN) and Finsbury Growth & Income (FGT) stand on premiums these days. However in the UK Equity Income sector there are a few that stand on a discount at the moment. A couple of the funds concerned are JP Morgan Claverhouse (JCH) and Temple Bar (TMPL) which are both in that select group of trusts that have increased their dividends for the last 30 years or more. While their recent performance is not up with the best, they have both beaten the All Share over the last 3 and 5 years and currently stand on discounts of around 6% and 5% & have lowish management charges of 0.55% and 0.35% respectively.
Some developed European markets such as Italy and Spain came out as looking quite attractive in the statistics I presented in part 3 with potentially better returns than those on offer in the UK. Now I'm not aware of any IT's that offer direct exposure to those markets I'm sure there are some ETF's and Open ended funds that cover those markets if you want to focus down to a country level in Europe. Personally I prefer to play it via more broadly based funds and let the managers allocate where they see attractive opportunities. The best IT (based on past performance) seems to be Jupiter European Opportunities (JEO) but this one sells at a premium as a result and only offers a yield of 0.7%. While another favourite of mine is European Assets (EAT) which invests in smaller European companies and offers a decent 5% yield, but it too trades close to NAV. Other options which currently trade on small discounts include Fidelity European Values (FEV) and JP Morgan European which offers growth (JETG) or income shares (JETI). I cannot recommend, other than on a contrarian basis any Emerging European funds as the two that are available Baring Emerging Europe (BEE) and Black Rock Emerging Europe (BEEP) have both lost money for their poorer unfortunate holders over the last 1, 3 and 5 years!
Asia Pacific Equities
These can be viewed as developed or emerging depending on the market. Some of the larger emerging markets like India and China are covered by IT's. In India you can choose between JPM Indian (JII) and New India (NII) which is managed by Aberdeen Asset Management. These stand on discounts of around 9% and 7% respectively. There was also a recent article looking at the market which asked is India the new China?
Talking of China there are also two IT's you could choose from - the widely publicised launch from a few years ago Fidelity Chinese Special Situations (FCSS) which saw Anthony Bolton make a brief return to fund management. This one has been criticised for its fees but does now stand on a 13.7% discount so may be interesting on that basis if you want to try and play China for the longer term. Alternatively you could look at JPM Chinese (JMC) although this has not performed as well as the Fidelity Trust and currently has a slightly narrower discount of around 12% and is less well known perhaps, but there was a good profile piece here. None of these offer much in the way of yield but if you want some yield and a more broadly based exposure in this region then you could check out Aberdeen Asian Income (AAIF), Henderson Far Eastern Income (HFEL) or Schroder Oriental Income (SOI) which offer yields of 5.1%, 6.6% and 4.1% respectively. Of these Schroder Oriental is the best long term performer but trades on the biggest premium of 4%+ as a result. The value option is the Aberdeen fund as it currently stands on a 3%+ discount probably reflecting its underperformance in NAV terms over the last 1 and 3 years.
A more general category for funds which cover all emerging markets. While Terry Smith and his recent Fundsmith Emerging Equities Fund (FEET) was a popular recent launch it does however trade on a premium which puts me off. I prefer the longer standing JPM Emerging Markets (JMG) which currently stands on one of the widest 11.4% discounts in the sector despite being one of the better performers and it also has over 20% in India. If you want income from the same stable is the JPM Global Emerging Markets income fund (JEMI) which has been around for about 5 years and has mostly been on a premium but with the recent market volatility it has unusually moved to a small discount of around 1.5% so it might be worth a look.
If that is too dull, you can get more adventurous and venture into what are known as frontier markets which would take in more of the smaller emerging African, Asian, Eastern European, Latin American and Middle Eastern markets. A couple of choices here would seem to be Advance Frontier Markets (AFMF) & Black Rock Frontiers (BRFI). These have not been around as long, but they do seem to have performed better than (less badly) than the more traditional EM funds in recent years, but who knows going forward.
Aside from that you can get more focussed and go for individual countries or regions if you are really brave. But then again you would need to be a dyed in the wool contrarian value investor to consider JPM Russia Securities (JRS). Russia as we know has its problems and this trust has lost money over the last 1,3 and 5 years too, but Russia did come out at the top of the expected returns list in part 3, so you pay your money and take your choice but I'm not sure I'm brave enough.
Other than that the other disaster area has been in Latin America where again most of the available trusts including JPM Brazil (JPB) have lost money over 1,3 & 5 years, but then Brazil came in at number 2 in the list of expected returns as a result of the depressed valuations. There may be some contrarian opportunities in the broader Latin American trusts - Black Rock Latin American (BRLA) & Aberdeen Latin American Income (ALAI) which trade on discounts of 7 to 9% and offer yields of 6.5 to 9% too respectively. I note also that the BlackRock Trust (the bigger of the two) has more than a years worth of dividends in reserves so they may be the more able of the two to maintain the payout, depending on what happens to their underlying income flows. On their website they also highlight the favourable demographics of the region with the graphic below which ties back into Part 2 of this series. It is mostly invested in Brazil and Mexico so not too risky within the region, so on balance it might be worth further investigation, although I'm inclined to stick with the more broadly based funds rather than the regionally or Country focussed funds which just seem to be too risky to me.
Well done if you have got this far and I hope you have enjoyed this series of Back to the Future themed posts which have tried to look at lessons from the past and apply them to the present day to see what they might tell us about the future. As discussed there are lots of benefits to thinking about valuations and investing for the long term if you are prepared to ride out short term volatility. I also happen to think that making sure you get a good yield on your investment and reinvesting the dividends is also important for boosting your returns too as shown in the graph below. So I'll leave you with that graph and a link to an article (which you can read by clicking the graph) which discusses those aspects of investment in more detail. After that is the AIC symbol (Association of Investment Companies) and a link to their site where you can get more information and statistics on Investment Trusts if that is of interest to you. Have a great weekend and good luck with your investing in the future where ever you choose to invest.
In a busy day for company news we have had final results for Matchtec (MTEC) today, which I flagged up the other day and at first glance they seem up to or slightly ahead of expectations. Group turnover came in slightly ahead of £499.3m forecast at £503m while their adjusted diluted earnings came in at 43.3p v 42p forecast for a modest 3% beat, although I note that the consensus had come down from 42.65p in August after their year end trading update. So it seems that they are not only cautious in their commentary but also manage expectations quite well. On the dividend they also beat expectations by delivering a 12% increase in the final to 16.32p (3.23% yield on that alone and a 10% increase for the full year to 22p versus the 21.4p that was forecast. This was 2.1x covered by earnings and seems to back up their bullish outlook statement with hard cash.
Talking of which, the balance sheet saw debt come in at £33.6m despite the cash portion of the consideration for Networkers of £29.2m and the £8.4m of debt which came with it. This was helped by the strong cash generation of £20.8m on the back of an operating cash conversion rate of 124% up from 115% in the previous year. This debt seems manageable, given the cash generative nature of the business and in the context of the £150m market cap. It also represents 1.9x this years EBITDA which is also within normal ranges that bank covenants look at & I note that they have a £95m facility available in any event suggesting plenty of headroom.
In the statement they suggest that engineering markets remain buoyant and they backed this up by reporting 24% growth in that sector. Meanwhile they say the transformational acquisition of Networkers International, which boosted these figures, is on course to deliver the expected synergies by 2017 as the integration there remains on track. On this they say the Group is realising cost synergies from the combination which they quantify at £1.3m in 2016, although they do say they are reinvesting some of these savings into sales and marketing, regional management and connectivity for some international offices to
improve the business, so not all the savings will drop though to the bottom line. I see that a broker is suggesting that maybe a third to a half of these will be reinvested. There are apparently also early signs of sales synergies coming through with more expected next year.
On the outlook the Chief Executive said "we regard all our international locations to be a huge opportunity to advance our activities in local and regional markets across the world and are planning for substantial growth over the next few years. " He went onto say that as a result he believes they will be able to deliver enhanced shareholder value and improved returns. They also highlight the increased global reach of the group on the back of the acquisition and how this will help them meet the changing needs of their clients. They also suggest that the deal brings them into a new market for providing technicians for the internet of things as they see existing connected car technology spreading into avionics and maritime.
This all sounds quite bullish talk for what is normally a fairly cautious and understated management, so hopefully the seeming promise of the new combined business will match these expectations going forward from here. In a separate announcement today they also named a new non executive chairman with effect from December.
Summary & Conclusion
A good set of numbers from this small (£150m market cap.) and increasingly international recruitment company on the back of a transformational deal which they are bedding in as expected. It seems that earnings may not be upgraded that much yet but may edge up to say 48 p and I suspect dividend forecast will probably edge up to around 24p or so to reflect the 10% growth delivered this year and a 2x cover say. On this basis the share at this mornings 505p are trading on 10.5x with a well covered 4.75% yield.
I reckon this leaves scope for a re-rating if they can deliver on the promise of the combined group that they are highlighting in this statement. I note in the marketing material issued by Equity Development (ED) today (which I attach below) that the sector average yield is 2.9% - so if you used 3% then that could suggest a target price of 800p if it got re-rated to that kind of yield. This would also represent a not impossible 16 to 17x PE.
In the note ED suggest the shares are cheap in both absolute and relative terms and have upgraded their price target to 705p from 680p based on a sum of the parts calculation and an 11x EV/EBITDA rating compared to a sector average of 12.9x. I note that if this multiple moved closer to the sector average then that could also suggest a target price around 800p+.
Thus with a potential for the shares to re-rate up to the 700 to 800p range in the medium term I have been happy to accumulate more shares at these levels. This will not obviously happen over night and may well require some patience as demonstrated so far this year with this one which has been somewhat lacklustre in terms of price performance.
Provided economies and employment markets remain strong then I see no reason whey this one cannot make some progress in the short term from its currently oversold position, at least some way towards matching my price expectations. With this years likely dividend growth of 10% and the 4.75% yield suggesting a minimum expectation of around 550p and a total return of at least 15% in the next year or so in the absence of any change to the rating. This is after all where it was trading as recently as September this year.
Not much to report on today, although we have had an in line trading update from Next which made it into the Compound Income Scores portfolio at the last quarterly review as it scores 97 on the CIS. This well managed group did edge up its profits guidance for the year but that's all I have to say as I'm sure it will be covered in great detail everywhere. Talking of detail there was a good detailed look at it recently from another blogger called Damien Cannon - so you can head over there next if you want to read his thoughts on it. While my former colleague also has it in his portfolio which you can read about here if you want, although it is a subscription based service.
As for what Next - I'll try and do an update on the Matchtec (MTEC) figures tomorrow and then round the week off with part 4 of the Back to future series I have been doing. Then as it is the end of the month I'll update the scores at the close of play on Friday so we can take a look at the CIS portfolio for October next after that.
As the latest free Ubuntu OS update is out called Wiley Werewolf (they always use the same two letters of the alphabet for their updates) I also like the sound of the next Long term support one due in 16.04 which is going to be called Xenial Xerus which is apparently means a friendly squirrel so not scary at all and actually quite easy to use once you get used to it.
Any way talking of tech just to remind you that Matchtec (MTEC) the £150m market cap., AIM listed, engineering and tech recruitment company will be announcing results on Thursday. This is a stock I have written on a couple of times or so this year. I have to admit it has been a bit underwhelming so far but maybe standing on around 10x with a 4.5% yield it might prove a bit more interesting if they have anything positive to say on current trading or not as the case may be.
While today talking of scary we have had results from a stock - Utilitywise (UTW) the £135m market cap, AIM listed, energy and water consultancy business which features in the Compound Income Scores Portfolio. This one has also been a bit underwhelming and regular readers may remember that I debated selling it at the last quarterly review given its poor price momentum and very volatile price action, but I gave it the benefit of the doubt given it continued to score well.
Any way the results seem to be a bit of curates egg as turnover and earnings are ahead of forecasts, but the dividend has come in a bit light at 5p v the 5.44p forecast. This does however represent an increase of 25% nevertheless and they say it reflects their confidence in the future. So on the face of it the figures seem fine, but then there are some issues in the detail, although these, to some extent, shed some light on and address some of the accounting concerns that have been levelled at this one.
Firstly, in a separate announcement today, they have renegotiated terms with one of their major suppliers and as a result they will get 80% of the payments up front on extensions in the same way as they currently do for new contracts. They have also agreed to apply this to historic contracts which means they will see an immediate inflow of £3.6m and a corresponding reduction in their accrued revenues which should go some way towards assuaging the critics on this front. They say they are hopeful of making similar arrangements with other major suppliers so if they do I assume the accrued revenue balances should reduce and cash increase further going forward.
Going back to today's figures they said that they had undertaken a comprehensive review of their accounting processes, which is good. However, they then go onto say they are re-stating prior year numbers due to accounting errors relating to provisions for consumption variances on historic contracts which turned out to be higher than the 15% they had assumed, which sounds bad. They did however confirm that current contracts are running in line with that assumption so it seems to be a historic rather than an on going problem. Hopefully the market will take this positively as a clarification on another area where there were concerns, but I guess there is a risk that the restatement of profits due to an accounting error could be taken badly. Coincidentally the magnitude of the hit seems to be close the amount they have just got in from the supplier so the net effect overall financially should be fairly negligible.
The other slight niggle in the statement relates to the rapid increase in the number of Energy Consultants whose numbers have risen since 31 July 2014 from 363 to 610 as at 31 July 2015. This was a key part of their growth strategy but they seem to have scaled this back slightly when they say in the statement:
"we have refocused our recruitment strategy to ensure we have the highest quality of staff capable of delivering our Trusted Advisor strategy effectively, in turn increasing our new customer conversion rates. As a result of this recruitment in the first quarter has been slower than anticipated and whilst the outlook for the current year remains good, overall headcount growth will be slightly slower than previously communicated."
The number of energy consultants is now planned to increase to over 800 by the end of 2016, although I'm not sure how many they had previously planned or whether this means costs and sales will be lower than expected or just costs.
In any event it seems like they have struggled to grow as fast as they wanted here, either they couldn't get the people or the new people didn't sell as well as they had hoped and as a result their future secured revenue at this stage of £26.2m is down 7% v last year. So overall I suspect there could be some downgrades to forecasts on the back of this which would be a continuation of the recent trend, which is not a good sign and so that will be worth watching.
Summary & Conclusion
A mixed set of numbers which may lead to some more downgrades, prior to which, based on existing forecasts for the current year leaves it on around 8x with a suggested 4% yield although the yield may also turn out to be lower given the miss on the dividend today. The rating is probably low enough to absorb some modest downgrades as the market was sceptical of this one any way. It will be interesting to see if the clarification on accounting and payment terms from suppliers can lead to it being viewed in a more favourable light and perhaps getting a re-rating, so a hold for now I would say on the back of this, but as ever time will tell.
Late morning update - well that didn't take long - hearing house broker Finn Cap is cutting PBT forecasts by 10% for 2016 & 8% for 2017.
Here we go as threatened / promised is part 3 of this film themed set of posts looking at what we can learn about the future for investing by looking at the past. Since the third Back to the Future film was set in the Wild West this post appropriately will take a look at markets which some categorize as the Wild West given their volatility and propensity for crises.
Since sequels often rehash what has gone before lets start by recapping the first two parts. in the first part we saw that real returns from UK equities have been in the region of 5 to 6% in the last 50 to 115 years. We also explored the fact that we have been in a secular bear market since 1999 as the market was on an extended valuation at that time. This highlighted the importance of the valuation levels in determining future returns. We then went on to look at current valuations in the UK market based on dividend yield data from Capita Asset Services. This suggested, that based on current levels of dividend distributions from UK companies, that in the long term future from here, we might be able to look forward to real returns from UK equities roughly in line with the 5 - 6% long term averages, which is nice.
In the second part I left you in the hands of Professor Hans Rosling to talk about demographics and its effects on countries and their prosperity etc. If you have not had time to watch it (spoiler alert) the summary is that the worlds population will continue to grow before levelling out. Most of the remaining growth is going to come in Africa and the Far East and there are good reasons to believe that many in these regions will continue their journey out of poverty towards greater prosperity as their populations grow and their economies become more developed.
Essentially the demographic trends seem to be pointing us towards emerging markets, although this is not a new idea although it has been found that investing in the highest growing economies has not always been a recipe for success. See the Global Year Book 2014 which had articles on Emerging markets v developed markets starting on page 5, and high v low growth economies and counter intuitive future investment returns on page 17. So in this third part I thought I would look to the future and see if it might be worth looking to play those demographic trends in emerging markets and maybe other developed markets by examining current valuations of global equities.
With the growth caveat in mind lets think a bit about the history. Emerging markets as an asset class really started to develop and become more mainstream in the late 1980's and early 1990's as far as I remember. However, I guess some pioneering investors, such as the late great Sir John Templeton, were early emerging market investors with their investments in the likes of Japan and Hong Kong before these became mainstream. Indeed in the Global Year Book 2014 which I mentioned above, the professors travelled further back in time to 1900 by defining emerging or developing nations based on GDP per capita being less than $25,000 rather than index provider definitions. This suggested that developing markets, on this definition, had produced annual returns of 7,4% and had underperformed developed markets which had produced 8.3% per annum since 1900.
These returns were however, hit somewhat (classic English under statement there) by the the 1917 Russian revolution when investors lost everything and a post war collapse in Japan when investors effectively lost 98% in dollar terms! In addition another contributor was China, where markets were closed in 1949 following the communist victory, and where investors in Chinese equities effectively also lost everything. However the authors do point out that from 1950, emerging markets staged a long fight back, albeit with periodic setbacks. From 1950 to 2013, they achieved an annualized return
of 12.5% versus 10.8% from developed markets.
In their current guise what today are known as emerging market according to index providers are often referred to as the BRIC's (Brazil, Russia, China, India) a phrase coined by Goldman Sachs, plus many other Far Eastern and frontier African markets which have been though several rounds of enthusiasm and pessimism and associated booms and busts. Their strongest period of outperformance came in the decade after the developed markets peaked in 1999/2000 after the dot com bubble and as enthusiasm for growth in emerging markets really took hold. They have however, in the last five years or so, underperformed badly with the MSCI Emerging Markets ETF being down by around 15% versus a rise of 85% for US equities & +15% or so from EAFE equities (developed ex US) over the same period, see chart below. After that I provide some graphics looking at valuations on Global markets and I will discuss the implications of these after these which are:
excellent Asset Allocation resources provided by Research Affiliates. The graphics look at :(1) Shiller PE's on global equities, (2) Expected 10 year risk and returns across different asset classes and (3) Expected 10 year risk & returns for individual equity markets.
At certain times in the past investors have been prepared to pay a premium for emerging markets and then been disappointed by returns as the natural volatility of these economies and markets kicked in. In fact the important point to remember when investing in emerging markets is that they tend to be much more volatile than developed markets so you need to be prepared to accept that if you are going to invest in them. At other times in the past investors have become very pessimistic about emerging markets after various crises in the Far East and Russia and may be even after the current China crisis if that's what it is. Returns have then tended to be better because, as we learned in part one, future returns obviously tend to driven by the price or valuation you pay at the outset.
It's noticeable that Emerging markets overall and Brazil, China and India are all close to their lows in terms of their Shiller 10 year PE. Meanwhile US equities & Japanese equities look relatively expensive on 25x and 24x while UK and EAFE look more reasonable on 11x & 14x respectively. While CAPE is not necessarily a good short term timing indicator, it does suggest a bias away from US equities and towards other developed and Emerging markets could be good for future returns on your portfolio as per the Real 10 year expected return chart above.
In passing before I get on to the summary and conclusion it is encouraging / reassuring to see that they also suggest 6% real returns from UK equities over the 10 years confirming what we saw from looking at the Capita dividend based calculation in part 1.
Summary & Conclusion
So far in this series we have seen from studying the past that the price you pay is important for you potential future returns. While a talk on demographics suggests that emerging markets might be a fruitful hunting ground for future growth and increased prosperity, although we also touch on in this part the evidence that rapid GDP growth does not always necessarily lead to above average investment returns, so that is worth bearing in mind too.
However, despite that caveat, the demographics and a look at current valuations suggests that there may some potential from decent future returns from some developed markets and emerging markets going forward in time from here. It is however important to remember that emerging markets are likely to be more volatile than developed markets so you have to be comfortable with that if you are going to consider investing in them.
With that in mind I think I'll go one better than the makers of the original Film series and come back in the future with a part 4 and have a look at ways you can play these areas via London listed vehicles and investment trusts. Still I guess you can never rule out another Back to the Future film because the fashion in Hollywood these days seem to be to re-boot or resurrect old tired franchises - evidence for the prosecution - Jurassic World, Mad Max Fury Road, Terminator Genisis, Star Wars whatever - you get the picture, The End.