Frikkee, manager of the Smith & Williamson UK Equity Income fund, says that although the likes of Shell and BP are now almost as out of favour as Rio Tinto and BHP Billiton were last year, they don’t have the growth and upgrade potential that the miners had.
“Clearly at the moment the cheapest sectors are the miners and I am positive on some of those names there. The other area is the oil majors and I think they are going to take a much longer time to become attractive,” she said.The manager points out that the major players in the UK oil space are not making a return ahead of their cost of capital, which means that it will be very difficult for them to grow.
Frikkee says she was one of the first equity income managers to return to miners last year – a move that is starting to pay off in her fund.
“I’m delighted because I went all out last summer in miners,” she said.
“The main trigger for the timing was valuation. So for the trust, because we focus on companies with good profitability, I’ve concentrated on stocks that make a return on capital ahead of their cost of capital. So Rio Tinto and Billiton are the obvious ones that come out.”
As a benchmark for valuations, Frikkee says she looked back to the Asian crisis in 1997 and 1998 – which she says was last time people worried about Asian demand.
“Both of those companies were cheaper now than they’ve ever been in that 15-year period. I bought more Rio because Rio was in there when I joined Smith & Williamson and I added Billiton to the portfolio,” she said.
“These two stocks I thought were exceedingly cheap.”
Both stocks have trailed the FTSE 100 significantly over the last year, but have started posting stronger figures in the last six months.
Rio Tinto, for example, is up 15.73 per cent, more than doubling the returns of the FTSE 100.
BHP Billiton is behind the FTSE over the period, though it is still up 4.42 per cent.
Performance of stocks vs index over 6 months
Source: FE Analytics
Frikkee says another quality that drew her to add exposure to the mining sector earlier than her peers was the fact that expectations were extremely low.
“Mining companies, obviously when demand for commodities comes down, that happens first, and then cost-cutting takes time, so margins get squeezed. Particularly for Rio Tinto I saw a real opportunity. Even though demand might still be weak, costs have been adjusted and therefore the margin goes up. And that’s what we’ve seen.”
She says the majority of mining companies posted strong figures for the fourth quarter of last year, which could indicate a return to favour for these battered stocks.
“Upgrades are starting to come in. I monitor the weightings of my peers in particular to big miners and it’s starting to tick up. I’m hoping they’re going to boost my share price,” she said.
Over the longer term, the Smith & Williamson portfolio has trailed the IMA UK Equity Income sector and FTSE All Share.
However, it has made 17.34 per cent since Frikkee took over in July last year, ahead of both the sector and index.
The portfolio is currently yielding 4.18 per cent.
Performance of fund vs sector and index since July 2013
Source: FE Analytics
The fund is just £20m in size, a fraction of the amount of money Frikkee ran when she was in charge of the multi-billion pound Newton Higher Income fund. She says this means she has far more flexibility to find growth opportunities further down the market cap spectrum than she did previously.
Besides Rio Tinto and BHP Billiton, the manager holds several other FTSE 100 firms in her top 10, including GlaxoSmithKline, HSBC and GKN.
She also holds FTSE 250 manufacturing and engineering holding company Senior PLC and FTSE 250 engineering and construction business Kentz Corporation in her top 10.
Financials are the highest weighting in the portfolio, at 33.7 per cent. She also currently has 7.1 per cent in cash and cash-related holdings.
The fund requires a minimum investment of £1,000 and has ongoing charges of 1.67 per cent.
As a manager, Frikkee has beaten her peer group composite over one and three years.
She has trailed them over the past decade, however, returning 104.15 per cent while her peer group gained 110.89 per cent.
Hargreaves Lansdown’s Adrian Lowcock says Frikkee’s past performance was hampered by the strict structure of the Newton fund. He points out that she had to sell BP when it cut its dividend because the fund was targeting a rising income.
“She sold BP at the bottom. She really had no choice,” he said.
“Having probably suffered under the restrictions of her previous mandate, this is an opportunity to see how she can perform under a new structure.”
“Having to always grow the income would have become a cross to bear on that,” he added.
Lowcock says a combination of the size of the fund and a more flexible mandate should allow Frikkee to show off her stockpicking skills, rather than just allowing the style of the fund to drive performance.
