Aberforth Split Level Income

ASIT’s portfolio remains highly geared to an UK economic recovery...

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This is a non-independent marketing communication commissioned by Aberforth Split Level Income. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.

Aberforth Split Level Income

Aberforth Split Level Income (ASIT) invests in UK small-caps. Managed on a collegiate basis by the investment team at UK Small cap specialists Aberforth Partners, ASIT comprises a portfolio of UK smaller companies which the managers believe to be trading at substantial discounts to their fair-value.

A fixed-life trust due to be wound-up in July 2024, ASIT employs structural gearing through zero-dividend preference shares (ZDPs), as discussed under gearing. These afford the managers flexibility to continue to generate a high level of yield without having to compromise their investment process to exclude outstanding opportunities for capital growth.

Nonetheless, as we discuss under dividend, the current historic yield of c. 4.7% is likely to prove illusory given the sharp reduction in dividends from within the investable universe. ASIT’s board has guided dividends lower for the current financial year, and the first interim dividend was markedly lower than from the previous financial year. We would still, however, anticipate a greater level of yield from ASIT than from most UK small cap peers.

Recent returns in the post-vaccine rally have been strong, but since listing performance has been more challenging as value style indices have generally lagged. However, the fixed-life nature of the trust allows us to project what the returns to wind-up will be under a variety of assumptions, as we do in the performance section.

Despite the very significant rally in ASIT’s NAV in recent months, the managers note that they still observe significant value opportunities within their market and portfolio, as discussed under portfolio. They have continued to operate a ‘value roll’, selling down positions which have rerated higher and moving into more lowly valued opportunities.

Analyst's View

Looking out to the wind-up date, the assumptions required to generate attractive annualised total returns over this period do not look overly challenging to us, though given the fixed wind-up date the potential impact of intra-market style cycles on NAV growth will remain of concern.

However, we note that ‘high yield’ factors as a strategy within the UK market has only in recent weeks begun to outperform, despite a broader ‘value’ rally. We think this may suggest that much of the initial value/cyclical rally from November was merely a readjustment of insolvency expectations from a market paranoid about indefinite lockdowns. The extremity of the valuation discount in ASIT’s portfolio in November suggests as much to us. If this is the case, we think the value rally may well have further to run as economies continue to reopen, spare capacity disappears, and inflationary pressure (led by policymakers determined to run the economy ‘hot’) emerge.

Income investors will likely be disappointed to see dividends guided lower for the current financial year, but the backdrop of mass dividend cuts does offer explanation for such a course. Similarly, the mass de-ratings in many companies’ valuations over 2020 should have given rise to a raft of opportunities for cycle-conscious value investors such as Aberforth, and we think that from a total-return perspective this should offer an attractive hunting ground for the managers. Even with the guidance lower, we would anticipate a premium level of yield from this point compared to the peer group average.

bull bear
Disciplined investment process with significant management experience behind it
Ultimate magnitude of dividend cut remains to be seen
Portfolio retains substantial upside to managers’ estimation of fair-value
Gearing can exacerbate downside (as well as amplify upside)
Fixed life limits discount risk
Fixed wind-up date offers NAV cyclicality risks
Callum Stokeld
Callum joined Kepler as an investment trust analyst in July 2019. Prior to this he worked as a senior investment analyst on a range of multi-manager, multi-asset portfolios, having previously worked at IFA firms in roles focused on oversight of fund selection and asset allocation. He graduated from the University of Glasgow with an honours degree in Law.

Fund History

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