An update from manager Charles Luke
In this podcast Charles Luke, manager of Murray Income Trust, speaks to Alan Brierley, Director of Investment Company Research at Investec.
Charles discusses Murray Income Trust's investment philosophy and process and the Trust's recent combination with Perpetual Income and Growth Trust. He also explores the outlook for dividends in the UK and discusses where the greatest opportunities might lie going forward.
Recorded on 2 February 2021.
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Alan: Welcome to this podcast today. My name is Alan Brierley and I'm responsible for the investment company research product at Investec. Today I'm talking to Charlie Luke, who is the manager of Murray Income. Charlie and his team have constructed an excellent long term track record. In a recent research report, we found that over five years, the NAV total return of the company is ranked 4 out of 100 UK equity income closed and open ended funds. Firstly, would it be possible to give an overview of Murray Income, including your investment philosophy and process?
Charlie: Hi, Alan. Yes of course. So Murray Income is an investment trust which sits in the AIC UK equity income sector. Following the combination with Perpetual Income and Growth Investment Trust, we now have gross assets of over a billion pounds. And the investment objective is to do three things. Firstly, to deliver a high yield, and the current dividend yield is just over 4%. Secondly to grow the dividend, which the Trust has achieved for 47 consecutive years. And the third objective is to generate capital growth and the Trust has outperformed the FTSE All-Share over 1, 3, 5 and 10 years since I started to manage the trust which was back in 2006. Then I would like to describe the investment proposition as being focused on the three ‘D’s. And they are our aspiration to be dependable, diversified and differentiated. So, dependable through a focus on high quality companies providing resilient income streams and strong capital growth potential. And when we say high quality, we're thinking about the company's business model, management, financials and ESG credentials. We're also dependable in the sense that we benefit from the large ASI UK equity team, which is probably the best resourced team in the UK market. That allows us to cover all the companies in the FTSE 250 with our own in depth research, and we have excellent corporate access. And then finally, in terms of being dependable, we have a patient buy and hold investment approach, which allows the fundamentals to win out, which has proven itself over time. Then the second D is diversification - being diversified. And I think one of the lessons of 47 years of consecutive different growth is that it isn't necessarily wise to put all of your eggs in one basket. So we have a shortfall diversification by sector, by income and by capital. We’re also diversified because we can invest up to 20% of gross assets in overseas listed companies, which is helpful in terms of diversifying risk in some of the sort of concentrated sectors in the UK market but also providing access to great quality companies and industries that you can't find in the UK. And at the moment the overseas listed holdings account for around about 15% of the portfolio. We’re also diversified in the sense that we want to help exposure to mid cap companies, which is where the team's research really comes into its own. And mid cap companies currently make up just over a third of the portfolio. And then finally, in terms of diversification, we also have a very simple low risk option writing programme, which has been tried and tested for over a decade. And that's carried out in line with our fundamental analysis and research. And that helps to modestly diversify our income and also provides the headroom to invest in companies with lower starting yields, but better capital and dividend growth prospects. And then the final day D, the third D, is differentiation. And we acknowledge that there are a lot of UK equity income funds out there. But we think we're differentiated by the focus on good quality companies, our diversification, the overseas holdings, a really strong focus on ESG, the healthy mid cap exposure and as well as our option writing. And if you unite all of those characteristics together, you end up with a portfolio that provides an attractive dividend yield, the potential for capital and income growth has demonstrated capital resilience in challenging markets and some good performance but I think particularly good performance on a risk adjusted returns basis.
Alan: Excellent. Thank you very much. At a time when concerns have been expressed about managers over reaching for yield, could you talk a little bit about the relationship between capital growth and dividends?
Charlie: Yeah, absolutely. I think that's a really important point. So I think to my mind, I think that capital growth and dividends go hand in hand. And the reason for that is the simple premise that over the long term, if a company is going to grow its dividend, it needs to gross its earnings. And I think good quality companies are best placed to do that. So we want to avoid investing in companies simply because they have high dividend yields, which you find more often than not end up being cut, and think much more about the underlying ability of the companies that we invest in to grow their earnings, and therefore to grow their dividends over the long term. And I think as an aside, we find that one of the benefits of good quality companies tends to be that in more challenging times, they have greater earning stability, which leads to a much higher likelihood that they will maintain or increase their dividends. And in better times, income investors in good quality companies tend to benefit because these are the sorts of companies that usually have strong balance sheets, and that capital can be returned to shareholders in the form of special dividends.
Alan: Okay, thank you. Last year, the boards of Murray Income and Perpetual Income and Growth announced plans to combine the two companies. This has created one of the largest UK equity income investment companies. Could you advise how things have bedded in?
Charlie: So firstly, I should say that, you know, we were all absolutely thrilled to be chosen by the board of Perpetual Income and Growth and I'm pleased to say that shareholders are now benefiting from a lower management fee and ongoing charges per share, better liquidity and narrower spread, and hopefully a high profile which should make it easier to grow the trust organically. Things have bedded in very well, the whole process was made easier because the Perpetual Income and Growth portfolio was actually aligned with Murray Income before the combination. So we haven't inherited any illiquid or unquoted holdings, just the companies that we wanted to own.
Alan: Okay, thank you. We expect the closed end structure to provide inherent competitive advantages, such as the ability to focus on managing money rather than inflows and outflows, use gearing and the use of revenue reserves to smooth out dividends. Can you talk about these in the context of the pandemic?
Charlie: Yes, sure. So, as you say, investment trusts have a lot of competitive advantages, both in absolute terms and also relative to their open ended cousins. So investment trusts have an independent board and they’re accountable to shareholders. And Murray Income is fortunate to have an excellent and very experienced board with a diverse range of skills. As you say, trusts can gear or take on borrowing to potentially enhance returns over time. We've been very conservative in our approach and currently have gearing of around 10% and that needs to be thought about in the context of a portfolio that is less volatile than the market as a whole. Charges are generally lower, so Murray Income has a tiered fee structure with net assets over 450 million pounds charged at just 25 basis points. So the overall management fee for Murray Income is below 40 basis points which is very competitive, and I think helps to demonstrate that the board is doing a good job for shareholders. Also as you say, investment trusts have broadly speaking permanent capital. So distractions of inflows and outflows on a daily basis are generally not something that needs to be worried about. And then one of the main benefits of investment trusts is the ability to retain surplus income and smooth dividends, unlike open ended funds, which need to pay everything out and that has been helpful over the last year throughout the pandemic and has allowed us to maintain our long track record of dividend growth by dipping into our reserves.
Alan: Okay, focusing on the sustainability of the Murray Income dividend – can you talk about the outlook for dividends for both your portfolio and the wider UK market and also the strength of the revenue reserve accounts.
Charlie: Yep, so I'm not that optimistic about a rebound in dividends for the wider market. I think a lot of companies have been over distributing and now have other priorities which might be investing in their businesses or paying down debt. So you've seen large cuts from some significant dividend payers such as Imperial Brands, or Shell, that will take many, many years to regain their prior levels. I think a recent Link report suggested it could be 2025 at the earliest before dividends reach their 2019 level. And I think it may well take considerably longer than that. But I think, you know, if there is good news, quite a few companies that have cut their dividends have at least returned to the dividend list, and many others have signaled their intention to do so. For the Murray Income portfolio, we think the income generated by the portfolio in calendar 2020, will have fallen by around about 15% compared with 2019. And that compares to the dividends paid by the market which according to Link fell by 44%. So far more resilient, given the focus on good quality companies with strong balance sheets. And in the Murray Income portfolio, nearly all of the companies in the portfolio that have suspended their dividends have either started up again, or have said they will do so very shortly. I'm much more optimistic about the ability of the portfolio to grow its dividend on a sustainable basis rather than the market because, as I said before, good quality companies tend to have structural growth opportunities to help grow their earnings and can actually benefit from more challenging periods such as this. And then just to answer your question about the strength of the revenues. One of the quirks of the accounting with the Perpetual Income and Growth transaction was that we couldn't combine the two revenue reserves, so the Perpetual Income and Growth revenue account was paid out to shareholders as special dividends. So we have the Murray Income revenue reserves for the larger trust but the revenue per share has been diluted, and shareholders have given us permission, like actually like many other trusts in the sector, to pay dividends out of capital. Our forecast suggests that we won't - that won't be something that we will need to do. So we think we can continue to modestly grow the dividend while reveal rebuilding the dividend cover. But it is actually something that's useful to have the ability to pay out of capital, just as an option.
Alan: Thanks. And finally, for many investors, the UK has reached almost pariah status, with valuations at historically extreme levels. Can you talk about portfolio construction and where you see the greatest opportunities looking forward?
Charlie: Yes indeed and nobody likes the UK market. Global and European equity funds UK holdings are close to multi year lows, while valuations, even if you adjust for sector differences, are more attractive than many other regional equity markets. So to my mind owning mostly UK listed investments is a significant opportunity, particularly as we now have a Brexit trade agreement with the EU. And it looks as though our vaccine programme is going well compared to other countries. And we're also fortunate that there are lots of good quality companies listed in the UK that are still paying attractive dividends. So perhaps unsurprisingly, I think a quality income strategy focused on the UK makes a lot of sense. So to go into that in a little bit more detail. Clearly, it's been a very tough year – a tough 12 months for income investors. But I think it's important not to forget that income investing is still very important and meaningful. So you receive a significant part of the total return from the dividend, the yield acts as a valuation backstop, the dividend is a touchstone for the health of the company. And it also helps to reduce agency risk. Quality is also likely to remain very relevant given the world of modest growth, low interest rates, high debt and a lot of pressure on corporate profits. And I think there’s three reasons for that. So, we should see a premium for companies capable of delivering healthy yields and growing their dividends. So for example in the portfolio, we own Close Brothers, Intermediate Capital, Unilever, property companies such as Sirius Real Estate, Safestore and LondonMetric which fit into that bucket. Secondly, companies with strong balance sheets that can undertake M&A or continue to invest through the cycle should emerging in strong competitive positions. So examples of those sorts of companies in the portfolio will be Croda, Rentokil, Sanne, Mondi and Euro Money. And then finally, earnings growth in a world of modest growth is likely to be prized more highly than ever. So companies with sustainable competitive advantages and pricing power should benefit disproportionately. And again, companies in the portfolio that play to that that theme are the likes of XP Power, Dechra Pharmaceuticals, Smith and Nephew, Relx and Fevertree. So to sum all that up, I think that UK equity income with a focus on good quality companies is a very attractive and currently under appreciated place for investors. And a large and liquid investment trust is a very appealing vehicle for accessing that. And actually there's a lot more information about the trust on our website, which is www.murray-income.co.uk.
Alan: Excellent. I think that's a very clear message Charlie, thanks so much for your time today.
Charlie: Thank you, Alan, and thank you to all the listeners.
This podcast is provided for general information only and assumes a certain level of knowledge of financial markets. It is provided for information purposes only and should not be considered as an offer investment recommendation or solicitation to deal in any of the investments of products mentioned herein and does not constitute investment research. The views in this podcast are those of the contributors at the time of publication and do not necessarily reflect those of Aberdeen Standard Investments. 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 returns. Return projections are estimates and provide no guarantee of future results.