Interactive Investor

Rare year of underperformance for UK smaller company trust

4th August 2022 11:20

Kyle Caldwell from interactive investor

For only the third time in 19 years this trust has underperformed the market, with interest rate rises having a negative impact.

An investment trust with a remarkable track record of consistently beating the market has reported a rare year of underperformance.

Henderson Smaller Companies (LSE:HSL) investment trust, a member of interactive investor’s Super 60 list, fell short of its Numis Smaller Companies Index benchmark in its financial year to 31 May 2022. The results, released this morning, show its net asset value (NAV) fell by 17.8% over that period versus a decline of 9.5% for the index.

Its share price fared even worse, down 27%, reflecting a widening of its discount. Over the year, its discount widened from 3.7% to 14.6%.

The underperformance of the UK smaller companies trust marks only the third time in 19 years that it has failed to gain an edge over the index. For the whole of that time the portfolio has been managed by Neil Hermon.

Hermon acknowledged that it “had been a disappointing year in performance terms”. He explained that this was due to “the significant underperformance of growth companies as they de-rated in valuation terms due to rising interest rates and higher bond yields”.

The fund manager said that in most cases falls in share prices did not reflect operational and financial performance.

The conflict in Ukraine also added to uncertainty, which deterred investors from putting money into stock markets. Given that smaller companies are on the riskier end of the equity spectrum, increased levels of caution caused investors to shun this part of the market.

Gearing also hurt performance, having started the year at 8.8% and ending at 11.2%.

Hermon said: “Smaller companies materially underperformed larger companies over the year. This was due to a general flight to the safety, defensiveness and liquidity of large capitalisation stocks and the higher weighting of oil and gas and mining sectors in the FTSE 100, which benefited from a spike in commodity prices.”

Regarding gearing, Hermon pointed out that it “has made a significant positive contribution to investment performance over the 19 years I have managed the investment portfolio.

Looking ahead, Hermon said that “some fantastic buying opportunities” have emerged following the underperformance of UK smaller companies.

A number of new holdings have been added to the trust, including brownfield land developer Harworth (LSE:HWG); engineering, research and development firm QinetiQ (LSE:QQ.); wealth manager Rathbones (LSE:RAT); RPS (LSE:RPS); the environmental, health, safety and risk consulting group; aggregates and concrete business SigmaRoc (LSE:SRC); and office space provider Workspace (LSE:WKP)

In conclusion, Hermon said: “The year under review has been a disappointing one for the company. Absolute performance was negative, and the company underperformed its benchmark.

“However, our portfolio companies have performed robustly, are soundly financed and attractively valued. Additionally, the smaller companies market continues to throw up exciting growth opportunities in which the company can invest. We remain confident in our ability to generate significant value from a consistent and disciplined investment approach.

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