An investment trust that's well-placed to profit from the rebound

This trust invests in stocks of all sizes and looks well placed to ride a rapid economic recovery

Investment trusts’ average discount to net asset value (NAV) is 6%. But there are plenty of trusts with double-digit discounts. Often, this is the result of persistent poor performance. Sometimes the sector is out of fashion. But occasionally it is because professional investors struggle to pigeon-hole it. The Henderson Opportunities Trust (LSE: HOT), of which I was a director until March, is one of these. With net assets of £80m, it is the smallest of three trusts managed by James Henderson and Laura Foll. 

It invests right across the UK market and is benchmarked against the All-Share index. When smaller companies are doing well, it outperforms but when they lag, as they had last year , this tends to get left behind. For most professional investors, this characteristic, and the trust’s small size, are off-putting – but it should appeal to opportunists. 

The obvious answer to the ebb and flow of  smaller companies’ performance would be for the managers to switch out when small caps are riding high and jump back in when they are depressed, but this is easier said than done: small caps rarely look expensive even at the top of their cycle. More importantly, Henderson and Foll have a firm bias towards value in large-cap stocks but this has been a dismal place to invest for 20 years.

The stars align

Four factors now make HOT attractive. Firstly, its shares trade on a generous discount of 18% while yielding over 3%. Secondly, UK large and mid-cap value stocks are looking appealing. Thirdly, sustained underperformance makes smaller companies look cheap, especially those on Aim. Finally, the team combines Henderson’s well-deserved reputation as a contrarian happy to buy out-of-favour stocks with Foll’s diligent analysis and discipline in cutting poor performers.

“We have a value bias,” she says, “but we don’t buy just anything on a low valuation, and avoid companies with flat or falling sales.” Many investors conflate value with income but “there is very little overlap. The best value opportunities are now in the companies that have suspended their dividends.” 

While their share prices have fallen sharply, the long-term prospects of many larger companies that have been forced to restructure have improved, providing contrarian opportunities for the fearless.

Meanwhile, UK small caps offer “exciting opportunities, notably in technology, to which there is little exposure among large caps.” Portfolio examples include Blue Prism, a pioneer in robotic process automation, RWS, a leader in providing translation and localisation services, Learning Technologies, an e-learning provider, and Ceres, a pioneer in fuel-cell technology. 

Serica, responsible for 5% of the UK’s gas production, has been a good long-term investment. In the mining sector, large cap is preferred, notably Rio Tinto with “low-cost mines, good cash-flow generation and a strong balance sheet.”

Britain is due a quick rebound 

Foll and Henderson are optimistic about both the UK economy – “we are positioned for a relatively quick recovery” – and the market but a trust such as this depends far more on their skill than on a rising tide. Though allocation between size segments held performance back last financial year, “stock selection was a positive contributor in each segment; large caps, mid caps, small caps and Aim.” 

Moreover, “the greatest opportunity lies in the smallest companies and Aim stocks, currently held back by liquidity concerns which have caused open-ended funds to sell…we expect a catch-up.” The pandemic may have delayed this by six months but with small caps down 25% this year and large caps only 15%, the potential is greater than ever.Such is their conviction that the trust is geared with borrowings of 15% of net assets to finance extra investment. Given their focus and their record, that confidence looks justified.

Recommended

Share tips of the week
Share tips

Share tips of the week

MoneyWeek’s comprehensive guide to the best of this week’s share tips from the rest of the UK's financial pages.
19 Feb 2021
Where to find deep value in investment trusts
Share tips

Where to find deep value in investment trusts

Professional investors Nick Greenwood and Charlotte Cuthbertson of the Miton Global Opportunities trust pick three of their favourite investment trust…
15 Feb 2021
Why investment trusts are the connoisseur’s choice of fund
Investment trusts

Why investment trusts are the connoisseur’s choice of fund

Investment trusts have justified their reputation as the best type of collective investment in 2020, says Jonathan Davis.
7 Dec 2020
Why investors should take investment trusts up on their free lunches
Investment trusts

Why investors should take investment trusts up on their free lunches

Investment trusts are brilliant, says Merryn Somerset Webb. Perhaps the most brilliant thing of all about them is the fact that investors can meet and…
16 Nov 2020

Most Popular

The days when you could get 7% from your bank are long gone – so what do you do?
Bitcoin

The days when you could get 7% from your bank are long gone – so what do you do?

With interest rates at rock bottom for so long, we’ve been forced to move from saving to speculating to earn any sort of return. Dominic Frisby asks w…
24 Feb 2021
Why you should still put money into a cash Isa
Cash ISAs

Why you should still put money into a cash Isa

Interest rates may be lousy, but tax-free saving into a cash Isa is still a good idea.
23 Feb 2021
Are we heading for another bond market tantrum?
Government bonds

Are we heading for another bond market tantrum?

The last time the US central bank tried tightening the purse strings, the bond markets threw a tantrum. With yields now rising, could we be about to s…
25 Feb 2021