There’s a common mistake that investors make which can affect returns, warns Nick Purves, co-manager of the Temple Bar Investment Trust, who tells us how to avoid it. He also talks us through his biggest holdings and the rationale for owning one of the country’s largest banks.
Lee Wild, head of Equity Strategy, interactive investor: Hello, with me today I have Nick Purves, co-manager of the Temple Bar (LSE:TMPL) investment trust.
You took over the management of the trust at the end of October 2020 and since then performance has markedly improved. How much of the portfolio was chopped and changed when you took over? Were there any previous top 10 holdings sold and new position positions introduced?
Nick Purves, co-manager of the Temple Bar Investment Trust: Yes, I mean there was quite a significant amount of turnover at the time that we took on the trust. Although the previous fund managers would describe themselves as value managers, I think their interpretation of value was somewhat different to ours. So there was a reasonable amount of turnover, there's no doubt about it.
Lee: OK, I mean how much of a help to performance has been the style rotation that played out last November? We saw value stocks enjoy a tailwind following the vaccine announcements.
Nick: It’s undoubtedly been a very significant contributing factor, and you know, again there's no doubt that there’s an element of luck involved there. We were fortunate enough to take on control of the mandate at the beginning in November last year, and of course if you remember that was literally in a week or so preceding the Pfizer (NYSE:PFE) announcement that their vaccine obviously had a significant beneficial effect on coronavirus. And I think you know, that just - that and the other vaccine announcements you saw in November, I think did definitely, it injected a bolt of confidence if you like into stock markets that economies could really start to recover and return to some sort of normality. There's no doubt that we've seen that this year. And you know that, I suppose, prospect of economic recovery was no doubt very favourable for a number of the holdings in the portfolio.
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Lee: What have been the key drivers of outperformance in terms of the actual individual stocks and sectors over the past year?
Nick: I think it's always very difficult to, I suppose separate out, isn't it, what was, you know, which stocks have done well just because the backdrop has improved, yes? And as I said, there’s been no doubt that confidence has recovered very dramatically from where we were a year ago. And, you know, which stocks have almost sort of done well if you like, despite the recovery in confidence, and of course, within almost every company there's a bit of both, isn't there? But I think the companies that have done particularly well, however, we would say would be companies, like Royal Mail (LSE:RMG) would be an example, which was - actually it was a strange one because it actually, to start off with, it was perceived to be a sort of coronavirus loser, to the extent that investors really worried that basically Coronavirus was going to undermine the ability of the company to generate decent levels of profitability in the future. But it actually, you know, more recently, the market’s completely changed its mind about that, it’s recognised actually that perversely actually Royal Mail is a Coronavirus winner, because actually it has a very large share of the parcels market in the UK and also oversees actually. And of course parcel volumes have gone very significantly as a result of lockdowns and changing consumer behaviours.
So that would be an example of a stock that, yes, it's benefited from the recovering economic backdrop, but it's done particularly well because the investors have become way too pessimistic on the company's prospects to start off with.
Lee: Are there any other stocks like that Nick that you think did particularly well this year?
Nick: Absolutely. I mean there were – I mean I suppose there were some truly extraordinarily low valuations around, you know, in the summer of last year. A couple of examples, you know, I talked about Royal Mail just now. So Royal Mail got down to two times the level of profits that it reported for the year end to March 2021. It’s an indication of just how fearful investors have become about some of these companies prospects.
Another example would be NatWest Group (LSE:NWG), which is the old Royal Bank of Scotland. In the summer of last year, believe it or not, NatWest Bank got down to the same share price in absolute terms the Royal Bank of Scotland was in 2009 at the time when the government was basically having to step in and rescue the company. And that is despite the fact that it is a completely different company from the one that we saw 12 years ago. And if you remember, you know, in 2009 the company was very short of capital. Today it has around three times the level of capital that it did then, it’s a much simpler business. The balance sheet is being run much more prudently and we think the management team are really doing a good job in difficult circumstances.
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But despite all those good things, as I say, you know the valuation was as low as it was in 2009, it was trading around – yes, at the lows less than 0.4 times its asset value. So every pound of net assets on the balance sheet was being valued at around 40p in the stock markets. So again, an indication of just how fearful investors have become, and of course our job, you know, we’re very long-term in nature, and our job is to try and - is try to stand back, if you like, try and put the short-term concerns to one side and try and take advantage, we think, of what we see is overreaction by other perhaps more short-term shareholders.
Lee: And of course, NatWest is still one of your biggest holdings.
Nick: Yes, so absolutely. The valuation no doubt has improved somewhat. I mean, these companies - a good number of companies were being priced in 2020 for essentially financial distress. And I think you can't say that the same is the case now.
So there has been a recovery in share price and, you know, the level of expectation built into the market clearly has risen, but that doesn't mean the shares don't still offer good value. So if you take a company like – if we stick with NatWest. The company, over time, should be able to generate a 10% return on its assets. Which means that the company can command a premium to book value or its asset value. As I said, today it’s recovered from around 0.4 times asset value, which is where it was last year, to around 0.7/0.8 times today.
Lee: Nick, prior to you taking over management, the pandemic hit Temple Bar particularly hard, in the event of another significant market sell off, will the portfolio hold up better? Has some defensive resilience been built into the portfolio?
Nick: We think it'll hold up better. I think it’ll still underperform in the market. This is an important point, we don't seek to take out cyclicality. Cyclicality in its own right is not a problem for us. Investors generally, when you get a lot of uncertainty, which obviously we've had over the last 18 months or so, what tends to happen is there’s a flight to safety amongst investors generally. They seek out what they see as safe, predictable assets in the market. And they seek out those assets almost irrespective of valuation, and what tends to happen is that the price of certainty or safety goes up in the market and the price of cyclicality or volatility, however you want to think about it, goes down. And we think actually today that investors are overpaying for safety because they've been scarred by what happened last year.
Now obviously, cyclicality is not a good thing, we would all prefer we didn't have it. But you must - I think the mistake investors make is they forget that when you buy a share, you're buying a claim on a 20 to 30-year stream of cash flows from the company. What happens in year one and year two because of, let's say, a new strain of Coronavirus is really pretty irrelevant. It doesn't make that much difference to the long-term value of the company, to the shareholder. And yet, as you remember last year, you saw a lot of share prices halve when Coronavirus really got going in March and April last year. And so as I say, it’s sort of cycling back.
We think when there’s fear in the air, investor’s time horizon shortens, they sell cyclicality at too low a price. Our job is to stand back, step in if you like, and take advantage of that and buy into companies where yes, they may have cyclicality, but they are very undervalued on a long-term profits basis. And so a long-winded answer to your question, but we don't try and remove cyclicality, we accept it. Having said that you need to have one eye on risk, and you need to make sure, yes, it's alright to have some cyclicality in the portfolio, but what you need is companies with strong finances. because the reason why analysis is so important is because companies with strong finances can manage their way through an economic downturn without having to raise fresh equity.
So we’re very big sticklers for companies with strong balance sheets, and that's what definitely helped in the spring of last year, and in a number of companies in the portfolio, when we took on the portfolio we felt didn't have the financial strength that we were looking for, and we have removed those.
So in a nutshell, we think that the, let's say we had Coronavirus, you know, we went through it all again. I certainly hope it doesn't happen. We think the trust would fare better than it did in the spring of last year, but it would probably, you know, it’s still a cyclical portfolio and may well therefore underperform a falling market.
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Lee: OK, ii is campaigning for greater transparency regarding fund managers’ investments in their own funds, skin in the game. Do you own a stake in your funds?
Nick: I mean absolutely, yes. The trust today is standing at - I mean the top 10 holdings in the trust today, which account for almost 50% of the trust assets. are valued around nine times on a weighted average basis, are valued around nine times current year profit. So on a 2021 PE [price/earnings] of nine times.
Now you flip the E and the P around, that's an earnings yield of around 11%. So very attractively priced and a good number of those companies obviously paying out some attractive dividends as well.
So you've got an earnings yield of around 11%. A bit of earnings growth overtime, we hope. And what's more, the trust today is trading at around a 7% discount to its asset value. So when you buy shares in the trust, you're not buying on a PE of 9, I mean I can't do the maths, you’re buying on a PE between 8 and 8.5. So we think these stocks are very, very attractively priced. And that's why you know, that's why we both, myself and Ian Lance, who manages the portfolio with me, have significant amounts of money invested in the shares of the trust.
Lee: Nick Purves, co-manager of the Temple Bar Investment Trust. Thanks very much for joining me today.
Nick: Thank you.
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