Stock ideas for after the UK General Election

Our head of equity strategy gets lots of great ideas from Amati’s hugely successful small-cap fund manager Paul Jourdan.

This is a transcript of an interview filmed on Monday 28th October 2019, between interactive investor's head of equity strategy Lee Wild and fund manager Paul Jourdan.

Lee Wild:

I’m joined today by Paul Jourdan who runs the TB Amati UK Smaller Companies. Hello Paul.

Paul Jourdan:  Hello.

Lee: There’s a big argument at the moment about growth versus value. Now, value has been the pain trade for a number of years, but given we’re talking perhaps late cycle, there’s a view that value may be the strategy to follow at some point in the very near future. You being a growth fund, what do you think of that?

Paul: Well we’re a growth fund in the sense that we aim to invest in companies that can grow. Clearly, I think one of the problems with those that everybody seems to love about growth and value is that all investors think they’re buying good value shares, otherwise they wouldn’t be buying them. So, just because we’re growth investors doesn’t mean we don’t look at valuations.

And this whole business of valuation I think is probably under explored in markets generally in the literature, so we end up with a very crude distinction between are you a growth investor or are you a value investor, or are you maybe a growth at a reasonable price investor, and we come up with different flavours of the two different things. Or maybe value, but not looking for value traps.

But all of that terminology, we don’t really let that drive our process. We’re always looking to make the best investments we can find.  I think in times of innovation, as we’re in, in times of where you’re seeing big industrial changes, those are going to play to investors who look for growth, and you could imagine different kinds of times completely and I think the 1950s was maybe a very good example when Warren Buffett made his name as a value investor, supposedly in inverted commas, although he later changed to being a growth investor.

And when big companies remain dominant there is very little that can challenge, then maybe there’s a case to be made for a different style of investment. From our point of view, we simply weigh things up against each other and we try to find the best investments that we can.

Lee:  At the moment, the portfolio is about 9% cash. That sounds quite high to me, is this typical?  Is there a specific reason why cash is around 9%?

Paul: There is a reason, and you’re right it is high. It is higher than we would normally carry and, having said that, we’ve carried a similar level of cash for many months and it’s really our response to what is a high level of short-term uncertainty. So, if you like, it’s a tactical decision to carry cash, it’s not a strategic decision. It’s not to say that we think by carrying 9% cash if there’s a big market fall that’s all we need to do and it’s going to protect us, because the amount of cash you carry is never anywhere near as important as the kinds of companies that you invest in.

But there are reasons tactically why we want to carry cash given the level of uncertainty there is, and, if you like, it allows us to keep our options open. So, specifically at the moment we have had, over the last few months, some scenarios which would have been very negative for markets in the short term and some scenarios which would be hugely positive for markets in the short term, and we don’t know which one is going to arrive. We don’t really want to be in the business of just trying to guess, take a very position assuming that we know, because we don’t know.

Whereas carrying that level of cash means we can tilt the fund either way once more evidence becomes available, so it’s simply reflecting uncertainty. We don’t tend to go above that kind of level and, if you start to go above that level then that becomes too big a decision to make. But 9% cash, up to 10%, is really a useful tactical step when there’s a high level of short-term uncertainty and you don’t want to take a strong view on which way that’s going to go.

Lee:  And we’re talking about Brexit uncertainty mostly.

Paul: We are, Brexit uncertainty and of course general election uncertainty, and beyond that mixed in with it.

Lee:  So, do you think at some point, once everything unravels and we do have more certainty, depending on what that is, do you think you’re ready to deploy your cash and might that mean that other funds are perhaps doing similar things? Might there be this sort a wall of cash to come to the market?

Paul:  It’s possible. I can’t say what other funds are doing. Of course, it’s probably likely that in times of uncertainty most people raise a bit more cash than they will otherwise have. So, yes, it does, we’re very cognisant, as is everyone, of the fact that if the Brexit uncertainties get removed in a benign way then there’s a potential for very significant rallies in certain segments of the UK domestic facing stock market.

Equally if that doesn’t happen, or we have some political changes that are taken badly, then there’s the potential for the exact opposite to happen.  So, if you like we’re hedging our bets.

Lee:  You like financials, they account for about a quarter of the portfolio, I guess the type of company that you invest in won’t be, or a lot of them might not be familiar to retail investors. They’re not necessarily the High Street lenders. Could you just give us a flavour of some of the companies which make up the portion of financials in your portfolio?

Paul: Yes, they’re very varied and you’re right, it has become a big segment of the portfolio. That’s not really because we said, “now’s the time to buy financials” and, going back to what I was saying earlier about late cycle behaviour, it’s not the most obvious thing to do. But the UK financials, the financial segment of the UK stock market, is incredibly varied and we think it has got some brilliant businesses in it which is why we’re heavy investors in it.

So, thinking about our big positions, the largest actually at the moment is Onesavings Bank (LSE:OSB), which is a specialist buy to let mortgage lender that’s really focused on lending to professional landlords and, if you like, that’s one of our key ways of having something in the portfolio that will do very well if the Brexit uncertainty is removed in a benign way. We think it’s derated very significantly because of fears over a major crunch in the housing market, which we think is unlikely to happen to anywhere near the degree which would be required to seriously upset OneSavings Bank.

So, it’s become a Brexit sensitive stock whereas, when we look underneath it, there are all kinds of regulatory reasons why it’s thriving. It’s growing in a market that might surprise people that it’s possible to grow because, overall, the buy-to-let market has been under pressure as the individual landlords have been squeezed out by Government rules, whereas the professional segment of it has been really thriving.

And yet, within that, because the big banks aren’t really playing a part in lending to large professional landlords, a big opportunity has opened up for the specialists. So, it’s very specific why we’re investors in that company. 

And then the next one on our list in terms of size is Intermediate Capital Group (LSE:ICP), which is a fund management business that used to be primarily a balance sheet investor.

 It’s a very specialist investor which has built its business over a long period of time, and it comes from a background of investing its own money into private equity, debt structures, and that really sounds quite specialised. It is very specialised so, when a private equity company might buy a highly cash generated business, typically they’ll put more leverage into it than the banks would lend them, and they go to certain kinds of funds to get the leverage.

Intermediate Capital Group has long specialised in that area. And then, over the past decade, the reason why the business has become interesting to us, is because they realise that the asset class in which they specialise, and which they have broadened out from simply buy-to-let leverage to more infrastructure leverage, it’s always debt focused. But they’re investing in very large asset classes in markets which are unquoted and using the right structures to do, so they’ll normally use Limited Partnership, Limited Life Partnership Funds to do that.

It turns out that some of the largest institutional investors in the world, whether it’s sovereign wealth funds or the very large pension funds, are very happy to make the trade-off between giving up some liquidity for higher returns. In a low yield, a low interest rate world, that trade-off has become more appealing. So, Intermediate Capital Group have very successfully turned what was primarily a balance sheet investment business (using its own money to invest in other businesses) into an investment management business, now a real scale business, investing in €30-€40 billion of funds, and it’s got the potential to grow significantly. So, with an eye to the future, we think strategically this business is very well placed, and the underlying demand for the types of funds they run actually exceeds supply, so we can see many years of growth to come from that business. 

Lee: Intermediate Capital has done incredibly well since the credit crunch.  Now, I know you haven’t owned it for that entire period, but it’s still done very well for your fund, but if you were able to own just one stock, one company, which one would it be?

Paul: I’d say it’s a tricky question, it’s a Desert Island Discs kind of a question that and, of course, my answer would have to be that I wouldn’t own just one company. We’re big believers in the benefits of owning a portfolio of companies, but I would put Intermediate Capital Group right up there with the stocks that if, I couldn’t own very many companies, I would want to have in a portfolio.

Lee: That’s a fair answer, and an unfair question, but given everything that we’ve discussed, where should private investors be putting their money right now do you think? You’ve talked about uncertainty, it’s why your cash levels are particularly high, and I know you won’t impart advice, but what’s your top tip for investors at the moment in terms of how they should approach the markets?

Paul: I think it is always tempting when we’re going through such political volatility to run away from markets and, in a way, there’s a danger of becoming too scared and worried about what’s going to come around the corner. Clearly, the anxieties are perfectly understandable, but it’s best never to assume that you really know what’s going to come around the corner.

So, yes you need to make sure that you’re not over investing but, equally, you need to make sure that you’re not being tempted into becoming so afraid that you get run out of the market because you think you know the next thing is going to be bad. We simply don’t know, and there are many scenarios where a lot of uncertainties get resolved quickly, so you don’t want to get caught taking big decisions based on the political headlines. It’s better to take a longer-term view, and I think the best place to invest long-term money is still in businesses that are well run with growth characteristics, so I would make sure that you have some exposure to them.

Lee: Paul, thank you very much.