Mainstream equity income funds are in danger of missing out on attractive investment opportunities because of their focus on well-known dividend payers in the FTSE 100, according to veteran fund manager Gervais Williams, who has highlighted several of his holdings that are overlooked by his peers. 
Williams (pictured) manages the five FE fundinfo Crown-rated Premier Miton UK Multi Cap Income and the Premier Miton UK Smaller Companies funds. The latter was the best performing IA UK Smaller Companies fund in 2020 and has held onto that position over 2021 so far.
The £926.4m Premier Miton UK Multi Cap Income fund, as the name suggest, invests across the market cap with holdings ranging from FTSE 100 names to smaller Alternative Investment Market (AIM) stocks.
Giving an update on the fund’s allocation, Williams gave a side-by-side comparison of the fund’s sector weighting to the FTSE 100.
One of the disparities between the fund and the FTSE 100 was an underweight in consumer staples, the biggest sector allocation of the index but only the fifth biggest in the fund.
The manager explained that this was because “we don’t have that many opportunities to find investments where we think the cash payback could be abnormal”.
Williams added: “We accept that the recovery might come through in the consumer staples sector but more particularly what we’re really saying is that a lot of these companies might have debt, they might have costs which they’ve taken on or they may have VAT to pay back to the government in due course and therefore that will constrain their ability to maintain a good and growing income growth.”
Unlike the FTSE 100, the fund’s biggest sector allocation is financials, a sector Williams said has a lot of companies well positioned to generate cash surpluses and pay back capital in the form of good and growing dividends going forward.
Another differentiator is the energy sector, which Williams said he’s been “quite upbeat about in terms of investment over the last six months”. The fund has a slightly higher allocation of 9.4 per cent versus the index’s 9.1 per cent.
But the FTSE 100 index only makes up 27.2 per cent of the Premier Miton UK Multi Cap Income fund allocation.
The fund is mainly invested in the FTSE AIM All-Share market, which makes up 28.9 per cent of the portfolio.
Williams said that the fund has been overweight this sector in the past.
While the AIM contains what Williams called “immature” companies, he added: “We are continuing to find good opportunities to invest in companies, not just with attractive opportunities to generate profit, but particularly attractive opportunities to generate an attractive cash payback.”
Discussing investment opportunities, Williams said the ability to invest across the market-cap space and in a large number of holdings means the fund “has a wider opportunity set in the number of companies but it also has a wider opportunity set in terms of the ability to invest in a wider range of sectors perhaps than the mainstream income funds”.
This isn’t to say that the fund doesn’t invest in so-called “mainstream stocks which you might see in other equity income funds”, Williams said.
“Legal & General are in there, there are some car insurance companies in there such as Admiral and we have Tesco and National Grid,” he explained.
He added that Premier Miton UK Multi Cap Income does have names which are overlooked by other equity income funds, which have a smaller portfolio with bigger individual stock allocation.
He said: “With that in mind, just to sort of reinforce the nature of the strategy, yes we do have some mainstream FTSE companies in there, but we also have some overlooked companies that we think have the potential to generate more return and actually generate more surplus over the longer term.
He highlighted Kenmare Resources as a good example of this. The fund’s third largest holding (2.16 per cent), Kenmare Resources is an Irish mining company that runs the Moma Titanium Minerals Mine in Mozambique.
The company mines mineral sands, in particular ilmenite a key component in paint.
“It’s mine supplies about 70 per cent of the world paint market,” Williams said.
“It’s coming into a cash surplus and generating more profits, and therefore although the share price has already risen since we first invested in the last couple of years we would argue that valuation is still very much not just overlooking the current upside but the actually ability to generate surplus cash and pay that dividend, which we believe will drive the valuations of these kinds of stocks to much higher levels going forward.”
Another overlooked company Williams highlighted was Strix Group. Based in the Isle of Man, the company designs and manufactures kettle switches and controls.
“The company came to the position about four years ago and when it first came to market it didn’t have a very exciting growth history prior to coming to market. It was over-borrowed, and it had an awful lot of debt to pay off and that held back investment,” he said.
“But it’s been investing into new products over the last three or four years and we’ve seen that come through in sales growth and more profit growth. Ultimately it means that they can buy companies which are nearly bust and that can improve their returns. An example of that is Halosource, which the company bought for £1.3m a couple of years ago now.
“So as that cash payback comes about that generates more surplus and ultimately more ability to generate attractive returns in terms of share prices longer term.”
A final stock Williams thinks is overlooked by the market is the Premier Miton UK Multi Cap Income fund’s biggest holding: CMC Markets.
CMC Markets is an online trading company offering trades in shares, spread betting, contracts for difference (CFD) and foreign exchange globally. According to Williams, the company has the ability to generate more income and growth than its peers.
Williams said that over the past few years CMC’s share price has been “quite volatile”, owing a lot to financial regulation changes on spread betting.
But while changes from the Financial Conduct Authority (FCA) has increased the company’s volatility, it’s also made it a better investment opportunity, he argued.
He said: “We’ve seen really a combination really of more opportunity, and there’s been less competition for CMC due to the FCA changes and more close checking on your client and hedging costs have also come down.
“With that and the recovery of market volatility over the last 12 months, this company has actually traded very strongly.”
Williams has co-managed the Premier Miton UK Multi Cap Income fund with Martin Turner since launch in 2011.
Over the past five years it’s made a total return of 48.14 per cent, outperforming the IA UK Equity Income sector (26.09 per cent) and the FTSE All Share index (36.09 per cent).
Performance of fund vs sector and index over 5yrs
Source: FE Analytics
The fund has an ongoing charges figure of 0.81 per cent and a historic yield of 3.29 per cent.