Summary
Troy Income & Growth (TIGT) is relatively concentrated portfolio of around 40 stocks, with a focus on blue chip UK listed companies which have strong franchises and sustainable dividend growth.
The trust’s objective is to provide shareholders with an attractive income yield and the prospect of income and capital growth via a portfolio of UK equities. Frances Brooke and Hugo Ure, the trust’s portfolio managers, aim to achieve this objective through focusing on capital preservation and investing in companies with proven business models. This strategy has resulted in a trust which, historically, has held up better than its peers during difficult markets.
The trust has performed relatively well since our last update (3 December 2015), holding onto positive territory with an NAV total return of 0.4% while the underling index lost 1.1% and the average trust in the Morningstar IT UK Equity Income peer group lost 2.4%. During the most recent six month reporting period (to 31 March 2016) the trust delivered NAV returns of 6.2%, almost double the returns from the FTSE All Share which gained 3.5% over the same period.
The trust is one of only a small number with a ‘zero discount’ policy, which means its shares rarely trade at any significant discount or premium to NAV, and it has implemented this policy successfully, without detriment to its overall size.
Portfolio
The investment team at Troy emphasise capital preservation across all their funds, and the team achieves this by investing in sectors with low fixed operating costs and companies less sensitive to changes in the business cycle. They prefer companies which offer sustainable yields – often those with a lower running yield which pay special dividends when they can – to those with higher yields and ‘progressive’ dividend policies which tie them to an ever increasing dividend regardless of the economic conditions.
The trust’s portfolio is made up of around 40 stocks and is split between a broad array of sectors. The trust’s cautious approach means the concentration of income in the portfolio is considerably lower than that of the market as a whole, according to the managers, and as a result it has been able to avoid 14 out of the 15 FTSE 100 companies that have either cut or announced their intention to cut their dividends in the last 18 months.
The managers fear that reliance upon dividends is too heavily concentrated on a small number of major blue chip companies, and as such have worked to broaden their exposure further down the market cap scale – investing in companies toward the bottom of the FTSE 100 in terms of size and the top of the FTSE 350 (whilst still maintaining some exposure to the largest blue chips). Since our last update the managers have sold out completely from HSBC, one of the biggest companies in the FTSE 100, after it moved to a 7% yield.
With major problems in its Asian operation, low returns on investment, little chance of a rate rise in the UK to boost its operation at home, and an increasingly ‘impenetrable’ business model, the managers say they have grown uncomfortable with the giant bank. They are building a position in Wells Fargo, a major US bank with a blue chip pedigree across the Atlantic, which they say has much better returns on equity and a solid yield of 3.1%.
The managers actively seek to avoid cyclical companies that have committed to pay what they regard as unsustainable progressive dividends, preferring instead those which pay a lower running yield but pay ‘special dividends’ when the money is available to do so. This type of company, in their view, is able to operate in a more flexible manner because it is not tied to a progressive dividend upon which its shareholders (and share price) are reliant – reinvesting excess profits in its operations when the time is right, and paying out excess profits when the money is there to do so.
Source: Morningstar
The trust has a long-only equity focus, but last year the managers wrote a put option (a form of derivative) for the first time and they have used this facility on three further occasions since then. Put options are a form of derivative contract wherein the manager promises to buy a set amount of a specified stock at a specified price, within a specified timeframe, if the stock hits that price at any point during that timeframe.
The seller of the ‘put’ receives a premium from the buyer of the contract (in exchange for a commitment to buy the underlying equity in the event that the stock falls to the agreed level). In each case so far the contracts have expired without the stock hitting the ‘strike’ price agreed, meaning the trust has benefited from the option premium, but not picked up any shares in the target companies. The managers stress that this is meant as a minor enhancement to the portfolio, and is not part of a major strategy shift. Likewise they hedged currency for the first time earlier this year, hedging against a falling dollar in March after it spiked, and limiting their losses on the downside as a result since it has retrenched.
The trust’s investment policy specifies a minimum of 80% exposure to UK equities, leaving 20% of the portfolio free to invest overseas or in cash. Restrictions are also placed upon the weighting of each holding within the portfolio, with managers required to hold no more than 6% percent in any one stock.
Limitations are applied even more tightly where smaller companies are concerned, with a maximum portfolio weighting of 3% applied to medium sized companies and 2% to smaller sized companies.
Dividends
Troy Income & Growth pays dividends quarterly and yields 3.2%, putting it toward the lower end of the field in the Morningstar IT UK Equity Income sector – though this must be considered in the context of the trust’s mandate, which is to produce income and growth not chase headline yield. The trust has a revenue reserve in place which is enough to cover just under half a year’s dividends even if the underlying portfolio income were to dry up, but is also able to draw income from the capital account should it need to. The trust’s revenue reserve has grown in absolute terms but, because the trust itself has grown significantly, is smaller in proportion total assets.
Returns
Since Troy started managing the trust in 2009, performance has been strong. An investment of £1,000 five years ago would at the time of writing (23/05/2016) be worth more than £1,605 in price terms, while the same amount invested in the FTSE All Share index would be worth around £1,304.
Source: Morningstar
The trust has performed relatively well since our last update (3 December 2015), holding onto positive territory with an NAV total return of 0.4% while the underlying index lost 1.1% and the average trust in the Morningstar IT UK Equity Income peer group lost 2.4%.
Source: Morningstar
A core element of the managers’ style is their aim to perform well during periods when stock markets are in decline, and as the chart below shows they have shown themselves capable of doing so – performing well in 2011 when the FTSE All Share was in negative territory, and outperforming the index by a significant margin in the last two years when it has struggled to make headway. This is driven by a focus on investing in companies that possess high quality earnings and deliver income across varying economic conditions; their aim ultimately being to find companies which are resilient to economic hardship. This focus does, however, tend to see the trust left behind during strong bull markets – when companies like this (which are often more expensive) tend not to surge ahead at the same rate as cheaper, less resilient stocks.
The trust currently offers a net dividend yield of 3.35% which is distributed quarterly in January, April, July and October. Last year the trust paid total dividends of 2.225p, an increase of 4.7% on the year before. Since the start of the trust’s new financial year in December 2015, the trust has increased the aggregate of the first and second interim dividends by 4.35% to 1.2p (a quarterly reate of 0.6p) when compared to the equivalent dividends in the previous year.
Source: MorningstarThis dividend is covered by healthy revenue reserves which enables the trust to pay out a consistent dividend rate. It also enables the trust to deliver even when companies within the portfolio are in decline and, in worst cases, income within the portfolio completely dries up. (Discover more about dividend cover here)
Gearing
In keeping with the trust’s conservative approach, the trust has been ungeared throughout the year although it has the facility to use gearing should the managers see the opportunity to do so (learn more aboue gearing here). The managers, however, have not used gearing since the trust was taken over and say that they would only do so where a tactical opportunity arose – a major fall in the market, for example – and then only for a short period, taking profits as soon as a bounce occurred.
Management
Francis Brooke has been managing the Troy Income & Growth investment trust since Troy took on the mandate in 2009. Hugo Ure joined Francis as assistant manager in 2011, and was promoted to co-manager in March 2015.
Francis and Hugo, who have worked closely together since 2010, do not rely on a quant screen to filter out stocks, and do not have dedicated analysts to provide stock ideas. Instead the managers pursue a qualitative collegiate approach to ideas generation, drawing on the expertise of the whole team at Troy including Sebastian Lyon, manager of the Troy Trojan fund and founder of Troy, Sean Beck, his co-manager, and various investment assistant managers and investment analysts.
The team are free to examine ideas anywhere and are not tied to specific industries or sectors. This free-to-roam approach, in the managers’ view, means they can understand company valuations in a wider context, beyond the confines of a company’s sector. It also marks the trust out from many of its competitors, which increasingly operate within the confines of computerised risk controls – limiting their exposure to stocks, sectors and asset classes.
Discount
A key feature of the trust is its extensive use of a discount control mechanism which allows the board to buy back shares when heavy selling causes them to slip out to a discount, and issue new ones (or reissue shares held in treasury) when demand for the trust pushes its shares to a premium. (Click here to learn more about discount control mechanisms).
In the months that followed the introduction of the mechanism in 2010, shortly after Troy took control of the trust, a large number of shareholders in the trust opted to sell their holdings, the end result being that the trust bought back around 10% of its shares into treasury.
The company also bought back more shares in 2013 and early 2014, its defensive nature proving unpopular as investors became more bullish and their appetite for risk increased. Recently however, investors have become more risk averse, and Troy’s defensive style has once again come back into vogue – leaving it in a position to issue more shares to meet demand.
In the six months to the last annual report in March 2016, the trust issued 8.42m shares and did not repurchacase any shares, resulting in an increased number of shares in total – 267m of them in all. The size of a trust has an impact on its overall cost, which is represented by the ongoing charge figure (OCF) and as Troy Income & Growth has grown it has seen this figure fall – from 1.39% in 2009 when the managers took over to 1.03% today; a fall of more than 25%.
Charges
Troy charges a management fee of 0.75% for the first £175 million of the trust’s assets under management. The fee on assets under management beyond that threshold is 0.65%.
Compared to its peer group the trust is relatively expensive, with an ongoing charge figure (OCF) of 1.03%. Fifteen of the 25 trusts in the AIC UK Equity Income sector are cheaper in OC terms, however the size of a trust has an impact on its overall cost, and Troy Income & Growth at £193m is a relatively small fish in this particular pond – which contains some of the largest investment trusts in the world, three of them with more than a billion pounds under management.
To the managers’ credit, Troy Income & Growth has seen its OC figure fall by more than 25% since they took over – from 1.39% in 2009 to its current level at 1.03%.
