Amid the volatility, assessing the real outlook for companies

  • Companies with the strongest operational performance are likely to see the greatest long-term appreciation in their share price
  • There are an increasing number of companies with a notable gap between the movement of share prices and the underlying performance of the company
  • This creates opportunities for active investors in high quality companies

“In the short run, the market is a voting machine but in the long run it is a weighing machine” – Benjamin Graham, pioneer of value investing

This is an unusual moment in markets. Investors are troubled by the impact of a potentially toxic combination of geopolitical tensions, rising energy and food costs and a weakening consumer. Economic data is unquestionably weaker. However, the corporate sector continues to defy gloomy expectations and in many cases, any panic seems unfounded. 

The philosophy of Murray Income Trust is that those companies that can grow their earnings and their dividends are likely to be long-term winners – and these companies are most likely to be high quality businesses. This is far more important than buying cheap companies, but if an investor can buy a company with strong operational performance that is also on a compelling valuation, they should give themselves the best chance for long-term capital growth. 

With that in mind, we are always on the look-out for companies where there is a notable gap between the movement of share prices and the underlying performance of the company. This is often where the best opportunities arise for active managers. Today, we see plenty of companies reporting strong earnings figures, giving optimistic forward guidance, but where the share prices have been hit hard anyway.

One example where the forward guidance issued does not reflect the gloom implied by the falls in the share price might be Dechra Pharmaceuticals. This is a veterinary pharmaceutical business that saw its share price fall over 20% in the first quarter of the year. However, at the same time, its most recent update to the market showed expectations of future earnings have risen and the company has issued an upbeat outlook for the year ahead, in spite of the well-flagged headwinds to economic growth. 

Other companies have reported a strong start to the year, but have seen their share prices hit hard: Croda International, for example, or car distributor Inchcape. In reality, the fortunes of these companies have relatively little to do with the UK economy and far more to do with structural growth factors. Croda International, for example, makes specialty chemical products and is supported by the resilience of its end-markets including pharmaceuticals, personal care and agriculture, while outsourcing by original equipment manufacturers is likely to underpin Inchcape’s earnings. Even companies that look more vulnerable to a consumer slowdown, such as Howden Joinery, have reported good results and buoyant trade. 

This is not unusual. Investors will often panic first and ask questions later. They are understandably nervous about the flagging economic recovery and the impact of inflation on consumer confidence. However, amid this wobble in confidence, they are misreading the likely impact on certain companies. As the climate becomes clearer, they are likely to become more discerning in their appraisal of the corporate landscape. 

For the Murray Income portfolio, it means that we are not moving out of many of the companies in the portfolio. Their operational performance has been strong and we are willing to look through short-term share price movements. It also means that some of the high quality, long-term growth companies that we like have come down to more favourable valuations. We’ve recently bought Experian, for example, Oxford Instruments and the London Stock Exchange

To be clear, this is not about buying companies simply because they are cheap. While there are plenty of companies that look cheap using a discounted cash flow model, these models tell an investor little about the sustainability of growth that can be expected into the future. There has been a rotation in markets away from higher quality stocks in preference for ‘value’ stocks. Certainly, a changing interest rate environment might favour cheaper stocks, but we don’t want to base our long-term strategy on the direction of monetary policy or inflation. 

At Murray Income, we are looking through this market turbulence. Experience tells us that over the long-term, companies that grow their earnings will see their share price rise. We are looking hard at what companies are telling us about their prospects and focusing on quality – this is our touchstone for generating attractive long-term returns.

Companies selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance.

 

Important information
Risk factors you should consider prior to investing:

  • The value of investments, and the income from them, can go down as well as up and investors may get back less than the amount invested.
  • Past performance is not a guide to future results.
  • Investment in the Company may not be appropriate for investors who plan to withdraw their money within 5 years.
  • The Company may borrow to finance further investment (gearing). The use of gearing is likely to lead to volatility in the Net Asset Value (NAV) meaning that any movement in the value of the company’s assets will result in a magnified movement in the NAV.
  • The Company may accumulate investment positions which represent more than normal trading volumes which may make it difficult to realise investments and may lead to volatility in the market price of the Company’s shares.
  • The Company may charge expenses to capital which may erode the capital value of the investment.
  • Derivatives may be used, subject to restrictions set out for the Company, in order to manage risk and generate income. The market in derivatives can be volatile and there is a higher than average risk of loss.
  • There is no guarantee that the market price of the Company’s shares will fully reflect their underlying Net Asset Value.
  • As with all stock exchange investments the value of the Company’s shares purchased will immediately fall by the difference between the buying and selling prices, the bid-offer spread. If trading volumes fall, the bid-offer spread can widen.
  • Certain trusts may seek to invest in higher yielding securities such as bonds, which are subject to credit risk, market price risk and interest rate risk. Unlike income from a single bond, the level of income from an investment trust is not fixed and may fluctuate.
  • Yields are estimated figures and may fluctuate, there are no guarantees that future dividends will match or exceed historic dividends and certain investors may be subject to further tax on dividends.

Other important information:

Issued by Aberdeen Asset Managers Limited which is authorised and regulated by the Financial Conduct Authority in the United Kingdom. Registered Office: 10 Queen’s Terrace, Aberdeen AB10 1XL. Registered in Scotland No. 108419. An investment trust should be considered only as part of a balanced portfolio. Under no circumstances should this information be considered as an offer or solicitation to deal in investments.

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