Rathbone Income
This fund's appeal depends on your perspective, but we believe the long-term story here is still intact.
The fund has only managed middling returns relative to its Morningstar category peers over the past three- and five-year periods, but we don't believe that tells the whole story. Stick’s all-cap approach is partly the reason the fund has been lagging its Morningstar UK Mid-Cap peers. This fund is not a pure mid-cap play like Old Mutual Select UK Mid-Cap – Stick has historically allocated more of the fund’s assets into giant-caps than his average peer, and these have sharply underperformed relative to mid-cap companies over the past five years. That's thoroughly in keeping with Stick’s value stance, as the large-cap arena offers a greater degree of value than mid- and small-caps. Indeed, the rise in the fund’s giant cap stake from 21% in September 2005 to the current exposure of 31% is evidence that Stick is adhering to his discipline.
That approach has several strengths. First, relative to other mid-cap equity funds, it helps even out some of the market's rough patches. The fund thus handily outperformed it's category peers in the bear market of 2001 and 2002. More recently, Stick’s penchant for value stocks propped up the fund during the summer sell-off. Between 13th July 2007 and 16th August the FTSE 250 ex IT lost 11.6% and its average category peer lost 9.22% - this fund held its ground marginally better and lost only 8.7%. The fund is also less dependent on the mid- and small-cap rally than are many of its UK Mid-Cap peers, which should give it more staying power when that rally comes to an end. It's worth noting, however, that relative to the IMA's UK Equity Income Sector, which tends to be populated with large-cap oriented funds, this offering has a different cast. It is higher volatility than the norm, but its returns and income land in that peer group's upper echelons. That's primarily because the fund has more mid-cap exposure than the IMA sector norm (which is why we place it in our UK Mid-Cap Equity category).
All of that said, we do have some concerns here. The exposure to typically cyclical sectors such as industrial materials and energy has been creeping up through holdings such as Burren Energy and BHP Billiton. The industrial materials exposure, in particular, is now overweight the category average, which presents a risk to the fund if the commodities rally begins to wane. Also, around a quarter of the fund is invested in relatively less liquid, small-caps stocks. The risk here is that it will be difficult to trade out of such positions in down markets without incurring significant losses for shareholders, particularly given the size of the fund. Finally, we have some reservations about the remuneration structure - the bonus is currently based on the profitability of the business, rather than the fund’s performance. We feel the incentive scheme could do better in aligning Stick’s interests with those of the shareholders.
Even factoring in those concerns, however, we believe that the fund's strengths outweigh its weaknesses. Given its income mandate, the fund is unlikely to run with the bulls when growth securities lead the way, but it provides a good income stream and relative steadiness compared to its UK Mid-Cap Equity peers. Moreover, we still think Stick is a skilled manager who can add value for shareholders over the long-term.
