Results analysis: Henderson European Focus Trust

• Henderson European Focus Trust (HEFT) has released interim results for the half-year ending 31 March 2022. Over this six-month period HEFT generated a NAV total return of -3.7% and share price return of -5.6%. While this means that HEFT has underperformed its benchmark, the FTSE World Europe ex UK Index, which is down -2.4%, it has substantially outperformed its peer group: the AIC Europe sector returned an average NAV total return of -8.3%, and share price total return of -10.5%.
• Over the same six-month period, HEFT’s cum income discount widened from 8.3% (as of 30/09/2021) to 10.2%. Since the half-year end it has widened further to 13.4% (as of 23/05/2022).
• This widening is the reflection of the continuing risk-off attitude of European investors, with HEFT having fallen -1.2% in NAV terms since its half-year end (as of 23/05/2022). However, HEFT has outperformed over this period as its benchmark has generated a return of -5.1% and its peers a -8.3% NAV total return.
• There have been two substantial changes to HEFT over the reporting period. The first was a 10 for 1 share split, which came into effect on 07/02/2022, with the intention being to enhance the overall liquidity of the trust.
• The second change was the introduction of structural gearing via the issuance of €35m worth of long-term fixed-rate unsecured private placement notes at a weighted average interest rate of 1.57%. The managers will continue to have access to a previous flexible overdraft facility. Net Gearing was at 3.9% as of 31/03/2022 and is currently at 1.0% (as of 23/05/2022).
• HEFT declared an interim dividend of 1.20p per share in H1, a 25% increase on the 2021 interim dividend.
• While HEFT’s Chair, Vicky Hastings, is understandably cautious, she comments that: “even when the macro-economic statistics make grim reading, there should be some companies bucking the trend and some industries with sustained and robust growth - along with some companies whose valuations seem at odds with their prospects: these are the investments that you should expect to find in our portfolio.”

Kepler View

Henderson European Focus Trust (HEFT) has long offered investors one of the more valuation-conscious approaches to European equity investing. We think this is a key differentiator given the sector’s strong growth-strategy bias, with Morningstar indicating that HEFT has the largest bias to value of its AIC sector, though it is still classified as a ‘core’ strategy. HEFT’s managers, Tom O’Hara and John Bennett, have long espoused the need to have a rational approach to company valuations, believing that strong stylistic biases have the potential to destroy shareholder returns when market sentiment turns, something which we have certainly seen in recent months.

Tom and John believe that the recent events across Europe have led to a significant shift in the region’s economic trends, such as greater localisation of supply chains and investment into energy, infrastructure and defence, and this has influenced their current positioning. The duo also believe that the current environment may mark the return to a more valuation-conscious equity market after half a generation of easy-money conditions and fiscal austerity. This is in addition to the impact of increasing global inflation rates, with central banks across the world having begun a tightening of global interest rates, to the detriment of highly valued growth stocks.

While the focus on valuations has led HEFT to lag its growth-focused peers during the recent years of growth-stock dominance (though it still remained ahead of its benchmark), it has been the primary reason as to why Tom and John have managed to avoid much of the pain their peers have felt over the last six months. The team note that prior to the outbreak of the war it was their exposure to the consumer reopening theme which was driving HEFT’s returns, with cheaper, cyclical companies benefitting from the rise in interest rates. Yet with the outbreak of the Ukrainian conflict, the market rapidly shifted into defensive companies, which HEFT thankfully also has exposure to. This has led to a blend of oil, insurance, and pharmaceutical companies ranking as HEFT’s top six-month contributors, a reflection of both trends.

While it has been a test for any investor to retain a consistent valuation discipline over the last five years, given the tremendous momentum behind growth stocks (and their expanding multiples), we think the recent months have shown the attractions of such an approach. The fact that Tom and John have stuck to their principles in the face of stylistic headwinds should be commended, as it indicates consistency and discipline in their approach. And if investors believe that we have experienced a genuine shift in market dynamics, with structurally higher inflation and interest rates becoming the norm, then Tom and John’s approach should be all the more desirable.

In our view HEFT’s 13.4% discount (as of 23/05/2022) could be an attractive long-term entry point, the discount having widened with the broader sell off of European equities, despite HEFT’s comparatively strong performance. HEFT’s recent addition of gearing could further enhance the attractiveness of the trust over the long-term, especially if it turns out to have  been implemented at the start of a prolonged tailwind for the team’s style.

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