Mercantile 28 July 2023
Disclosure – Non-Independent Marketing Communication
This is a non-independent marketing communication commissioned by Mercantile. 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.
Mercantile Investment Trust (LON:MRC) owns a portfolio of primarily medium-sized, UK-listed companies that lead manager Guy Anderson selects through a bottom-up process that focusses on quality and long-term growth prospects. Guy has the flexibility to also invest in smaller companies, as well as the ability to run his winners into the large-cap FTSE 100 Index. Guy’s disciplined process has meant that MRC’s portfolio is currently offering higher quality than its benchmark, experiencing upwards earnings revisions, but is still trading at valuations in line with the market (see Portfolio).
Changes to the portfolio this year have been limited, but Guy has focussed on companies which are able to navigate uncertainty. Guy admits the economic picture is mixed and that negative sentiment has resulted in falling valuations. However, the earnings of the portfolio companies have been broadly resilient, driven by stronger consumer spending than many have expected, especially in light of weak economic headlines (see Performance).
Guy believes the UK remains cheap versus international peers and that the premium on mid-caps has come down significantly versus large caps. As such, the portfolio has an element of a double discount, as the trust itself has moved to a Discount that is more than one standard deviation wider than its five-year average.
MRC pays a modest Dividend. This has returned to being fully covered following an improvement in underlying revenue generation. As capital growth remains the primary objective for the managers of the trust, the dividend is a secondary goal. Following a number of upgraded forecasts, the payout has increased by 3.6% in the past year.
We believe MRC offers something different for investors thanks to its focus on quality mid-cap companies, including some exposure to smaller companies. This helps it stand out against a number of strategies that have a bias to large caps, and against an ETF. The quality focus is supported with impressive resources in order to help identify mispriced opportunities (see Portfolio).
The long-term Performance of the strategy compared to peers has been strong, but MRC had a difficult period in 2022. However, following stronger recent returns, the trust is now ahead of both the peer group and benchmark over one and five-year periods. We believe this demonstrates the resilience of the strategy and should offer reassurance going forward into a potentially unclear period. Guy’s focus on identifying companies whose fortunes remain under their control should support performance, if economic uncertainty continues.
We believe the wide Discount could be considered an opportunity for long-term investors, too. The discount has widened in line with the sector average in the past couple of years and is now one standard deviation wider than its own five-year average. When this is considered alongside the depressed UK valuations and the erosion of the premium of mid-caps against their large-cap equivalents, we believe MRC offers a compelling value opportunity.
- Trust is offering higher quality and earnings prospects for similar valuations to index
- Trading at a wider discount versus its own history
- Dividend has grown and returned to fully covered
- Mid-cap focus provides domestic exposure which could be threatened by weaker growth
- Another value rally could impact relative performance
- Gearing can amplify losses, as well as potential upside