The stockmarket rally since March has been dramatic, with the FTSE 100 up 46 per cent. Plenty of funds have matched this increase and some that were heavily positioned in economically sensitive sectors have risen by more than 70 per cent. That said, a number of funds have not kept pace.
Probably the most high-profile of these are the popular income and high-income funds run by Neil Woodford of Invesco Perpetual. Woodford has long been one of my favourite fund managers and remains so now. However, given the size of the rally, it is reasonable for brokers to ask why his funds have underperformed.
You need to know what drives Mr Woodford’s stock selection in order to be better placed to judge whether you agree or disagree with his investment stance. It is often a mistake not to look at the detail behind a fund’s performance, good or bad. But be aware that the competition likes to knock him and the split of the IMA sector seemed more about him than anything else. That situation now looks especially ironic as Mr Woodford has increased his dividends this year when most others have been forced to cut.
Mr Woodford’s investment process is a combination of looking at the global economic environment and then at what stocks he can buy to best reflect this view. It is fair to say his economic views have not changed for quite some time. He has generally been bearish on the global economy on the basis that just about everyone has overextended themselves with credit. Too much debt can pose major risks to a business or economy just as it can to an individual and we have felt the effects of that in the last couple of years.
The credit party ended suddenly and we have been left with the mother of all hangovers. The problems have yet to be properly addressed. Indeed, so far, our Government’s main solution has been to borrow more money.
The banks are also under pressure from two contradictory requirements – the Government wants them to lend more to keep the economy’s wheels turning but at the same time they are asked to retain cash and improve their It is clearly impossible to do both at once.
Economic recovery in the UK and US shows every sign of being slow and painful, so it is hard to believe we will return to a pre-credit crunch boom. We already know there will be tax rises, announced in the last Budget, and we can surely expect more bad news on this front after the general election. The opposition is warning us of tough times and we can expect severe cutbacks in the public sector. George Osborne’s pledge to freeze public sector pay is just the beginning, in my view. Bear in mind too that his proposed measures will save about £7bn but that this year we will borrow nearer £200bn.
The companies most likely to prosper in a slower-growth environment are those with strong balance sheets, good finances (with either no debt or manageable debt) and a stable business model that is relatively immune from economic problems.
To that end, Mr Woodford has concentrated his portfolio around companies he feels best match this criteria. Two of his largest holdings are AstraZeneca and GlaxoSmithKline, both trading at levels that value them cheaply in comparison with firms which have rallied so far. Other large holdings include Tesco, National Grid, Vodafone and British Gas.
Since March, these stocks have been left behind as investors have anticipated a V-shaped economic recovery and bought more cyclical companies. Mr Woodford thinks this is highly dangerous and likens the situation to one he faced in 1999/2000 when internet stocks took off and left the solid, dependable companies behind. He believes his stocks hold tremendous value and that this will be recognised by the market but, of course, he cannot say when.
So, while Neil Woodford remains bearish on the economy he is bullish on his own portfolio and I for one agree with him. I have already mentioned that he actually raised the dividend on his funds this year while many other equity income funds cut theirs by as much as 25 per cent. His funds may be at the bottom of the sector at the moment but what this suggests to me is that investors should buy more of the fund and not sell down their holdings.