Ryan Lightfoot-Aminoff
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Updated 27 Jun 2024
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Disclaimer

This is a non-independent marketing communication commissioned by Schroder Investment Management. 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.

  • Schroder UK Mid Cap (SCP) has released its interim results for the period ending 31/03/2024. Over the period, the trust delivered a 9.3% NAV total return, versus its benchmark, the FTSE 250 ex-Investment Trusts Index, which returned 11.4%. The trust’s peer group, the AIC UK All Companies sector, returned an average of 11.7%.
  • Whilst absolute performance was strong, relative returns were affected by areas that would benefit from lower interest rates, such as more indebted companies and the real estate sector. The managers’ focus on quality factors, such as strong balance sheets, meant they were underweight these areas. However, more cyclical holdings such as Just Group and Clarkson were beneficiaries of the improved economic outlook and contributed positively.
  • Whilst the trust marginally underperformed on a short-term basis, long-term returns have been very strong. The managers have significantly outperformed the benchmark over a number of other time periods including over one, five and 10 years.
  • The discount widened from 12% at the beginning of the period to 15.2%, which is a trend seen across the peer group. However, we note that the discount has narrowed post period end to c. 11% as at 25/06/2024 as the trust has performed ahead of the index.
  • The board has declared an interim dividend of 6p per share for the 2025 financial year, an increase of 9.1% on the interim for 2023. This was more than covered by first-half revenue which was 6.69p per share. Based on this dividend, and the previous year’s final dividend, SCP offers a yield of 3.4%. However, we note the final dividend has been increased in each of the past three years.
  • Net gearing increased to 8.2% as at the end of the period, versus 6.8% at the beginning. Gearing was a net benefit to performance as a result of the rising market.
  • Chairman Robert Talbut discussed the valuation opportunity stating: “the UK stock market represents one of the cheapest regional equity markets in the world, with the UK mid-cap sector looking particularly attractive”.

Kepler View

The managers of Schroder UK Mid Cap (SCP), Jean Roche and Andy Brough, look to build a concentrated portfolio of the best ideas from the UK’s index of medium-sized companies, the FTSE 250. Both managers have extensive experience to support their stock selection approach, which should drive the 40-50 stock portfolio to deliver outperformance of the benchmark.

In the interim period covered by the results, the trust returned 9.3% on a NAV total return basis. Whilst this was a strong return in absolute terms, the managers underperformed the benchmark by 2.1%. However, the trust outperformed in the period post results, having delivered a return of 7.7% versus the index of 2.2% to 24/06/2024. This builds on SCP’s outperformance over its benchmark over the longer-term.

The managers believe that M&A could be a feature going forward which would be supportive for performance. In 2023, the premium paid on takeovers was an average of 52%, compared to a typical level of 30% to 40%. We believe this demonstrates how depressed valuations have been, and how much there is to recover. When these low valuations are combined with the potential for an improved political and regulatory backdrop, there is significant support for a long-term recovery in UK equities, which is an environment we would expect to be supportive of mid-caps outperforming.  

The board announced an increase to the interim dividend in the period to 6p per share, up from 5.5p in 2023. Revenue per share in the period was 6.7p meaning the interim dividend was 1.1x covered. In the last annual statement, the trust had reserves equal to 1.5x the year’s dividend. The dividend has been increased regularly since inception and is one of the standout features of SCP in our opinion, despite not being an explicit goal of the managers. The increase in the 2023 dividend marked a ‘ten-bagger’ (or 10x) rise from its first annual dividend (2004). As the dividend remains well supported, albeit not guaranteed, we believe it continues to add to SCP’s investment case.

Despite the strong absolute performance, the discount on the shares widened in the interim period. This trend was echoed across the peer group, and as such, the board did not buy back any shares in the period. Post results, the discount has come in slightly to c. 11%, though this is still broadly in line with the level seen in September 2023, despite the significantly higher NAV, and better outlook for UK companies. As such, we believe the current discount remains an attractive entry point for long term investors, especially considering the context of the long-term performance of the trust.

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