Fund in focus: Woodford Equity Income

Posted by Liz Rees in Fund and industry updates category on 01 May 19


Investment philosophy

Neil Woodford is well known for his contrarian investment style, focusing on companies which are out of favour and trading on low valuations. He believes these offer significant upside when the market eventually recognises their true value. The portfolio evolves over time as the manager’s economic outlook changes.

Woodford has employed a strategy of investing mainly in income generating shares complemented by a long ‘tail’ of smaller holdings in early stage businesses which may be unlisted.

The unlisted companies have tended to be concentrated in high growth areas, such as healthcare and disruptive technologies, and may become significant weightings if they perform well.

Performance

The fund has disappointed since launch. After a promising start it has lagged its peer group and benchmark in the last couple of years, as dividend yielding companies have been out of favour, whilst Woodford has avoided the best performing income stocks, in defensive areas, as he believes they look very expensive.

Woodford’s strategy has tended to produce a portfolio that is very different to the benchmark which means performance can also differ for long periods. This is not the first time that Woodford has experienced a spell of significant underperformance in his long career; he also lagged during the late 1990s tech boom and ahead of the financial crisis.

Unlisted Companies

The fund recently exchanged some of its unquoted holdings for shares in Woodford Patient Capital Trust, to ensure the unlisted section of the portfolio didn’t exceed the maximum 10% allowed by the regulator.

One holding -Oxford Nanopore- has announced its intention to list in the next 12 months so it was reallocated to the quoted segment. In addition, three companies, Benevolent AI, Industrial Heat and Ombu, have been listed on the Guernsey stock exchange to enhance liquidity, although one of these, Industrial Heat, is currently suspended.

Current outlook

The UK stock market has been out of favour with investors since the EU referendum. However, Woodford believes the UK is actually one of the bright spots in the global economy with consumer and government spending well placed to grow. With two thirds of the economy dependent on consumption, employment at record levels and real wage growth coming through, he expects this to benefit his investments. 

Woodford has been steadily raising exposure to sectors such as house builders, construction and commercial property Real Estate Investment Trusts (REITs) which can offer high yields and reasonable dividend cover, as he believes there is value in these domestically-facing businesses which could return to favour when Brexit is resolved.

Our view

To beat the market you have to do something different and it is the nature of a contrarian manager to be unpopular for a period. Woodford has been here before – nearly getting sacked for his contrarian stance. 

There are tentative signs that the value style may be coming back into fashion, as the later stages of the economic cycle favour cyclicals. However, Woodford has stated that many UK companies offer a valuation opportunity the likes of which he hasn’t seen for more than 30 years. 

Morningstar retains its conviction in this fund with a bronze rating and we also have faith that the value style of investing will return to favour. However, this fund currently has a greater mid and small cap focus and a larger tail of unlisted companies than he held when he was at Invesco. As such we believe the fund is higher risk. The exposure to unlisted companies has also been a problem for Woodford as the fund size has shrunk (due to investors selling). 

Important Information:

Past performance is not a guide to future performance. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested. Nothing in this article is intended to or should be construed as advice. This document is not a recommendation to sell or purchase any investment.

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