In 2012, as the number of complex multi-asset funds on the market continued to multiply, Artemis took a different approach. We launched the Artemis Monthly Distribution Fund, a straightforward portfolio combining bonds and global equities. Responding to client demand, our simple objective was to provide a regular monthly income along with capital growth.
Managers James Foster and Jacob de Tusch-Lec focus on one clear task: selecting those bonds and equities from across the globe that they believe can deliver income at each stage of the economic cycle.
For investors looking for a simple approach to income, with a demonstrable performance record, the Artemis Monthly Distribution Fund may be a suitable option.
Top quartile since launch
Since launch over three years ago, the fund has returned 54.1% compared to a sector average of 29.3%*. It is the top performing fund in the IA Mixed Investment 20-60% Shares sector and is currently producing a yield of 4.0%**.
In the following Q&A, James and Jacob explain what makes the Artemis Monthly Distribution Fund different and explain how they see the outlook for bonds, equities – and for their distinctively straightforward approach.
Why should investors consider the Artemis Monthly Distribution Fund - as opposed to buying separate bond and equity funds?
When we launched the fund, our hope was that by combining equities with bonds we could produce an attractive level of monthly income but with less volatility than would be possible by investing in a single asset class. Its structure provides our investors instant, simple and effective diversification. Three years on, those hopes have been borne out. And because the correlation between equities and fixed income has historically been quite low, that diversification should allow us to continue to deliver as economic and market conditions change.
Jacob de Tusch-Lec:
The diversification inherent in the fund’s structure is important. But it also means that when we identify a company with the underlying free cashflows to support an income stream, we can draw on our respective areas of expertise to determine whether its equities or bonds are more attractive. In some cases, a company’s equities will offer the more attractive risk-adjusted yield – in other cases, holding its bonds might be preferable. In that way, the fund’s unified portfolio allows us to deliver better returns than would be the case with a bond manager and an equity manager working independently.
How do you determine the fund’s asset allocation?
JF: In part, the fund’s composition is dictated by the parameters of the IA’s Mixed Investment 20-60% Shares sector. That means at least 30% must be invested in fixed income and cash, with a minimum of 20% and a maximum of 60% in equities. Typically, however, it holds about 60% in fixed income and 40% in equities. That split varies slightly (+/-5%) in response to the relative performance of each part of the portfolio. But that is rebalanced periodically, mainly by directing fund cashflow rather than by buying and selling securities across asset classes.Within that overall split, we take a holistic approach to portfolio construction, all of which takes place within the context of a top-down macro-economic overlay. So the percentage that we invest in various areas of the bond market will vary, in part, in response to the profile of the equity component. So if a lot of our equity holdings have bond-like characteristics (which is to say they are ‘bond proxies’) we may offset the fund’s exposure to changes in interest rates by holding rather more high-yield bonds – and rather less investment-grade bonds. The fund’s income focus, however, tends to mean it has a pronounced bias towards high-yield bonds. In equities, we have the flexibility to invest worldwide – we look for income across both developed and emerging markets. Sector and country weightings in equities are a consequence of stock picking – but again this is informed by our macro-economic overlay.
How does this fund differ from other funds in its sector?
Clearly, the Mixed Investment 20-60% Shares sector is a broad church. But the biggest difference between our fund and those funds that might be seen as its peers lies in its global reach. Traditionally, investors have looked to UK stocks for yield. And many income funds are dominated by the bonds and shares of domestic companies. Our fund, however, draws on more geographically-diversified sources of income, particularly in its equity component. Investing globally broadens our opportunity set and makes us less dependent on some of the big income-paying stocks and sectors that dominate the UK market. In the importance that companies attach to dividend payments, the rest of the world has largely caught up with the UK; dividend payments are no longer a peculiarly British institution. Furthermore, it could be argued that, in view of the gravity of the questions confronting the global economy, investing in companies in a variety of economic and interest-rate regimes is essential. The various blocks of the global economy are at different stages of their business cycles. This means there should be an opportunity for global managers to enhance returns by investing in the right markets at the right time.
A second difference between this fund and some of its competitors is its size. That’s particularly important when it comes to investing in bonds. Investors are starting to realise that liquidity levels in some parts of the bond market – and particularly among investment-grade issues – are dangerously low. So considerations of liquidity play an important part in the way that I manage the bond part of the fund. Happily, my task is made easier by this fund’s relatively modest size, which makes it far nimbler than some of its ‘mega-fund’ competitors.
Is the fund a composite of the two funds that you manage individually?
JTL: No. This could actually be viewed as a ‘best ideas’ fund: our best ideas, that is, for producing a high level of monthly income. In terms of equities, there is a significant degree of overlap between the fund’s holdings and the Artemis Global Income Fund. But the two portfolios are not facsimiles. This fund tends to focus on the core income-producing stocks found in the Global Income Fund and has fewer of its ‘risk’ and ‘special situations’ holdings.
JF: The aims of the Monthly Distribution Fund differ from those of the Strategic Bond Fund – so its holdings differ too. Here, we have a more direct focus on income, so the portfolio has a higher bias towards the high-yield bond market and fewer of the government bond and currency positions found in the Artemis Strategic Bond Fund.
What are the fund’s biggest positions at present?
JTL: At the end of April, 41% of the funds’ holdings were in global equities with 15% in investment-grade bonds, 41% in high yield and a small position in cash***. In equities, the fund has a strong bias towards Europe, as it has for much of the last three years. This is not because we are particularly bullish about the long-term prospects of the eurozone, which continues to face a number of structural challenges. But things are not getting worse and there are signs that its export-led recovery could begin to mutate into one led by domestic demand. So, one of the fund’s largest holdings is in Drillisch, a German telecoms company and a beneficiary of improving consumer confidence in the eurozone. We also own Aena, the Spanish airport operator. In addition to a dividend yield, it gives the fund exposure to early signs of recovery in the Spanish economy, where annual growth has risen to a reasonably healthy 2.6%.
JF: In bonds, the fund has a significant level of exposure to high yield. With expectations that interest rates in the US could rise, these have the advantage of not being highly correlated with government bonds. Their higher yield also contributes to the fund’s income account. There has been a significant level of new issuance in high yield. At times, this has caused bouts of indigestion. Beneath that, however, the fundamentals for high-yield bonds remain good. We also have a significant allocation to financial bonds, which have an attractive balance between risk and return. Under pressure from regulators, banks are not paying dividends and have repaired their balance sheets. That affords increased protection to bondholders – the yields we receive are, in effect, becoming safer with time.
The fund’s performance since its launch three years ago has been very strong. To what do you attribute that?
JTL: In some ways, we have been beneficiaries of forces beyond our control in the shape of lower-for-longer interest rates and helpful demographic trends. So income has been – and remains – in demand. One of the side effects of buying assets that deliver a good monthly yield is that the capital value of our holdings, both bonds and equities, has been bid higher. But if monetary policy may, in time, become less supportive, the demand for income is likely to persist, as an ageing population seeks sources of income. We think we can meet that demand while simultaneously being beneficiaries of it.
What is the outlook for the market? And for the fund?
JTL: From a directional point of view, I don’t have any strong conviction. Economic growth in the US is not so strong as to make an immediate increase in interest rates a threat. But nor is it weak enough to make bonds attractive. That represents a sweet spot for equities. In real terms, disposable incomes in the US are growing quickly. Inflation is low, wages are rising in nominal terms and energy prices are lower than they were a year ago. So bond yields may move sideways in the US even as they move higher in Europe. That could make for a tricky summer.
Perhaps the most painful outcome would be an equity market that goes sideways, but with a shift away from over-owned stocks and sectors (consumer stocks and quality defensives) into under-owned areas (like commodities and ‘value’ stocks). Given all this uncertainty, we will need to change the shape of our equity portfolio as conditions evolve. In fact, that process has already begun. For example, energy companies have actually delivered excellent earnings relative to low expectations. We’ve bought back into Statoil and have also done well from LyondellBasell, a chemicals company whose profits are correlated to oil prices.
In bondland, it is often pointed out that fixed income has had such a good run – arguably for 30 years – that it must end soon. But, year after year, bonds beat expectations. Of course there are risks. Inflation could take off. But we feel that would need a collapse in sterling and an increase in wage inflation. Recently sterling has been strong and wage inflation has been remarkably low. Looking overseas (where inflation is often created), deflation seems to be more of a risk at the moment. Perhaps the biggest danger is the excess debt in the system. Since 2007, global corporate debt has increased from $38 trillion to $56 trillion and there is no sign of that appetite reducing. Our feeling is that demand for bonds is still very strong, because interest rates are low and because of regulation. Given that governments still want cheap finance for themselves, those regulations are unlikely to be relaxed significantly any time soon. So bonds – and particularly those of the high-yield variety – should help us to continue to deliver the monthly income to our clients.