Your SlideShare is downloading. ×
Rwc
Upcoming SlideShare
Loading in...5
×

Thanks for flagging this SlideShare!

Oops! An error has occurred.

×

Introducing the official SlideShare app

Stunning, full-screen experience for iPhone and Android

Text the download link to your phone

Standard text messaging rates apply

Rwc

265
views

Published on


0 Comments
0 Likes
Statistics
Notes
  • Be the first to comment

  • Be the first to like this

No Downloads
Views
Total Views
265
On Slideshare
0
From Embeds
0
Number of Embeds
2
Actions
Shares
0
Downloads
5
Comments
0
Likes
0
Embeds 0
No embeds

Report content
Flagged as inappropriate Flag as inappropriate
Flag as inappropriate

Select your reason for flagging this presentation as inappropriate.

Cancel
No notes for slide

Transcript

  • 1. Generating higher income with a lower volatility equity strategy OCTOBER 2012
  • 2. RWCRWC Income Team Nick Purves | Ian Lance | John Teahan Portfolio ManagersThe team joined RWC in August 2010 to launch the income franchiseBetween 4 and 16 years at Schroders – senior portfolio managers & specialist derivative trading • Managed Schroder Income Fund from 2003 and Schroder Income Maximiser Fund from inception in 2005 • Schroder Income Fund ranked 1st (out of 57) in its sector during period under management • Schroder Income Fund: Morningstar five star rated, OBSR AA rated, Winner of Moneywise fund awards 2009 UK Equity Income and Equity Income and Growth • Schroder Income Maximiser: Morningstar five star rated, OBSR A rated, Winner of Lipper Fund Awards 2010 UK Equity Income, Winner of Trustnet 2009 UK Equity Income • Manager of St James’s Place Equity Income Fund since 2001 • Total of £1.3bn under management RWC | 2
  • 3. RWCInvestment Performance (net of fees) SJP Equity Income vs FTSE Allshare Data to end September 2012 Total Return Annualised SJP Equity Income Fund % 111.1% 6.5% pa FTSE All Share Index % 52.5% 3.6% paSource: RWC / Bloomberg. Data is shown for the period 29/12/2000 to 31/09/2012 net of fees. Equity index used is FTSE All share (TR).Note that Nick Purves has been responsible for the SJP Equity Income Fund since 29/12/2000 during that time he has been employed by both Schroders and RWC RWC | 3Past performance is not a guide to the future. The price of investments and the income from them may fall as well as rise and investors may not get back the full amount invested
  • 4. RWCInvestors want income…Source: Bloomberg RWC | 4
  • 5. RWC...but with less volatility FTSE 100 Index -50% -50%Source: Bloomberg RWC | 5
  • 6. RWCRWC Enhanced Income FundOffers higher than average yield • UK equity income fund targeting 7% yield • Underlying fund yields 4-5% • Yield is ‘enhanced’ through the use of covered callsBut with lower than average volatility • High quality, lowly valued cash compounders • Call overwriting strategy lowers volatility • Willingness to hold cash – currently 15% • Other methods of capital protection e.g. put spread RWC | 6
  • 7. RWCHow do we produce the income?How the Strategy Works • Current underlying portfolio dividend yield of 4.4% enhanced to 7% • Fund sells 3 month call options on each stock in the portfolio for 1% premium (x 4 quarters=4%) • Strike price of call options is set above the level of individual stock price at the start of the quarter • This has the effect of a cap on the growth of each stock at the end of the 3 months • Fund receives option premium from selling the call options, which is applied to enhance income for investorsExample: Vodafone option Vodafone share price 150p Option Price 1% = 1.5p 3 month option Strike level 173p = c. 115% RWC | 7
  • 8. RWCDelivering on the IncomeThe Fund delivered a 7.2% yield on year 1 and 7.6% in year 2 Table 1: Fund Distributions Unit Price Date Distribution (£) Yield % (B Share Class) Dec-10 95.5 1.45 1.45% Mar-11 94.4 1.75 1.83% Jun-11 95.0 2.02 2.14% Sep-11 81.9 1.66 1.75% Dec-11 84.5 1.48 1.71% Mar-12 87.7 1.50 1.78% Jun-12 86.4 2.06 2.35% Sept-12 87.3 1.43 1.67%Lowering volatility helps smooth the income stream*The Yield is calculated as the summation of quarterly percentage distributions. The historic yield is equal to 7.6%.**The Retention Rate is the % of initial premium received retained against the payout on the expiry of the option contracts RWC | 8
  • 9. RWC Lowering volatility does not mean having to sacrifice return Relationship between risk and return within asset classes 10% 1.2% 1.1% 9% 8.8% 1.0% 1.0% 1.0% 1.0% 8% 7.1% 7% 0.8% 0.8% 6% 5.7% 5% 4.6% 0.6% 4% 3.7% 0.4% 3% 2% 0.2% 1% 0% 0.0% Quintile 1 Quintile 2 Quintile 3 Quintile 4 Quintile 5 (Low Volatility) (High Volatility) Monthly Standard Deviation (Risk) Average Monthly ReturnSource: Clarke, de Silva, Thorley ‐ “Minimum Variance portfolios in the US Equity Market” 2006 RWC | 9
  • 10. RWCWhy does this work? Month 1 Month 2 Beta Start Value Return Value Return ValueMarket 1.0 100 10% 110.0 -10% 99Low volatility 0.5 100 5% 105.0 -5% 99.75High volatility 2.0 100 20% 120.0 -20% 96Source: RWC (for illustrative purposes) RWC | 10
  • 11. RWCDelivering on the volatility YTD to end of September May-12 12% 10% 8% 6% 4% 2% 0% -2% -4% -6% -8% FTSE All Share RWC Enhanced Income FundSource: Bloomberg, *30 day volatility for May 2012 RWC | 11
  • 12. RWCWhy does it matter for you? Low volatility impact on asset allocation 7.1 79% Low Volatility Equity 21% Fixed Income 7.0 Increased exposure to growth assets for 6.9 given level of risk Expected Return (%) 6.8 6.7 6.6 60% Low Volatility Equity Reduced risk 60% Cap Weighted Equity 40% Fixed Income for given level 40% Fixed Income of return 6.5 6.4 11.5 12.0 12.5 13.0 13.5 14.0 14.5 Volatility (Expected Standard Deviation (%))Source: “Local Government Pensions in England” Audit Commission 2010 RWC | 12
  • 13. RWCFour Steps to Lower VolatilityCall over writing strategy reduces volatility • In falling market, few prices go through strikes and hence premium income is retainedWillingness to hold cash • Taking advantage of fall in share prices to buy higher yielding stocksAbility to apply measures of downside protection • Use index put options to reduce drawdown in weak marketsHigh quality, lowly valued cash compounders • This does not mean paying ANY price for Consumer Staple stocks! RWC | 13
  • 14. RWCQuality businesses grow intrinsic value with time….. • For high return businesses intrinsic value grows over time; low return businesses see intrinsic value decline • Earnings and cash tend to be stable and predictable • Strong balance sheet further reduces volatility Next PLC - Historic and Predicted CFROI British Airways - Historic and Predicted CFROI 25 35 30 20 25 15 20 % 10 % 15 10 5 5 0 0 -5 -5 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 CFROI % Discount rate Average CFROI Discount rate Average Next PLC British Airways 2500 800 700 2000 600 1500 500 400 1000 300 500 200 100 0 0 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Last Price Last PriceSource: CSFB Holt / BloombergCFROI – Cash Flow Return on Investment RWC | 14
  • 15. RWCCombining high quality and yield lowers volatility & improves risk adjusted returns Quality/Dividend Yield High Dividend Yield Strategy StrategyReturn (%) 8.3 8.6Max drawdown (%) 33.3 47.9Beta (x) 0.6 0.9Volatility (%) 10.5 16.9Risk-adjusted Return (x) 0.79 0.51Source: SocGen Cross Asset Research, October 2010, 2000-2010 RWC | 15
  • 16. RWCBut quality alone does not work S&P Stock Ratings and Stock Returns 20.0% 18.0% 16.0% 14.0% Annual Average Returns (1986-94) 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% A+ A A- B+ B B- C/D S&P Common Stock RatingSource: Excellence Revisited M Clayman 1994 RWC | 16
  • 17. RWCValuation is THE Key Determinant to Future ReturnsSource: Robert Shiller, Morgan Stanley RWC | 17
  • 18. RWCKey is to buy QUALITY but only when it is good VALUE Intrinsic Value Margin of Safety Share priceSource: RWC, for illustrative purposes only RWC | 18
  • 19. RWCAnd today consumer staples stocks are expensive And not as defensive as common perception Coca-Cola Pepsico 45 2.3 80 6.0 2.2 5.5 70 35 2.1 5.0 60 2.0 4.5 25 50 1.9 4.0 15 1.8 40 3.5 2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 Price (LHS) BEst Standard EPS Adjusted+ 2012 Price (LHS) BEst Standard EPS Adjusted+ 2012 Procter & Gamble 65 Nestle 5.0 80 5.5 55 4.6 70 5.0 45 4.2 60 4.5 35 3.8 50 4.0 25 3.4 40 3.5 15 3.0 2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 Price (LHS) BEst Standard EPS Adjusted+ 2012 Price (LHS) BEst Standard EPS Adjusted 2012Source: Bloomberg RWC | 19
  • 20. RWCWhen growth stocks disappoint…. Burberry 17 0.74 16 0.72 15 14 0.7 7% 13 0.68 -24% 12 11 0.66 10 0.64 9 8 0.62 May-12 Jul-12 Oct-11 Feb-12 Mar-12 Apr-12 Oct-12 Sep-11 Nov-11 Dec-11 Jan-12 Jun-12 Aug-12 Sep-12 BEst Standard EPS Forcast (right-hand side) Price (left-hand side)Source: Bloomberg RWC | 20
  • 21. RWCRWC Enhanced Income Fund – Why now is a good time to consider this strategyOffers 7% yield in a low income environmentBut with lower than average volatility • Low volatility is a good long run strategy • Deteriorating economic fundamentals combined with high valuations make now a good time to consider defensive funds RWC | 21
  • 22. RWCAppendix
  • 23. RWCDividend growth strategies tend to be lower volatility Annual Compound Return & Standard Deviation; Jan 1973 – Sept 2010 10 30 8 25 6 20 4 15 2 10 0 5 -2 0 Dividend Cutters Zero Dividends Dividend Stocks Growing Dividend Stocks (No change) Annual Compound Return Annual Standard DeviationSource: Ned Davis Research RWC | 23
  • 24. RWCand are defensive in a market declineSource: David Dreman in Contrarian Investment Strategies: The Psychological Edge 2011 . See also ‘Do Dividends matter more in declining markets’ Fuller and Goldstein 2005 RWC | 24
  • 25. RWCDividend yield is only part of the solution Performance of Dividend Yield Performance of High Free Cash Flows & only relative to market Dividend Yield relative to market • Combining dividend yield and cash flow improves returnsSource: Empirical Research Associates, October 2010. Data is UK market 1987-2010 RWC | 25
  • 26. RWCHigh dividend yield can be misleadingExample: Utility Companies Free Cash Flow Financial Gearing Profitability / Return Dividend Yield Yield (Debt/EBITDA) on Capital National Grid 5.7% 1.6% 4.2x 5.3% SSE 5.9% -1.6% 3.3x 7.1% United Utilities 4.5% 1.2% 6.1x 2.9% RWE 6.3% -1.5% 3.5x 4.2% EON 5.5% 1.1% 2.9x 4.1% Severn Trent 4.0% 1.7% 5.2x 2.8% Average 5.3% 0.4% 4.2x 4.4%     • Dividends paid from borrowings • Financially weak • Poor profitabilitySource: Bloomberg, Company reports, Morgan Stanley, HOLT - August 2012 RWC | 26
  • 27. RWCPaying too much for quality yields poor results - GlaxoSmithKline • Since 2000 earnings and dividends +7% p.a. whilst the shares have fallen • In 2000, excitement about the company’s prospects resulted in a P/E of 40x • In the next decade, the earnings doubled and the shares halved • Today, investors are gloomy about future growth so shares priced at 12x 2012 earnings; 5.0% dividend yieldSource: Bloomberg, company report and accounts RWC | 27
  • 28. RWCCurrent Portfolio – RWC Enhanced Income Fund Food Retailers Pharmaceuticals Tesco 4% Retailers Astra Zeneca 4% Next 4% Eli Lilly 2% 4% 16% GlaxoSmithKline 5% Telecoms 6% Merck & Co 2% Deutsche Telecom 3% Pfizer 2% KPN 2% Vodafone 5% 9% Energy BP 4% Royal Dutch Shell 4% 8% Media Daily Mail & General Trust 3% Reed Elsevier 3% 6% 1% Support Services Index Put Options 1% 3% Industrials Insurance Smiths Group 3% Legal and General 4% 14% Old Mutual 3% RSA Insurance 4% Standard Life 3% 16% 4% Cash Other Financials 3% 1% Close Brothers 2% 8% Provident 2% Swaptions Food & Technology Logica 3% Beverage Microsoft 2% Unilever 3% HP 2%Source: RWC, August 2012. Positions less than 2% excluded RWC | 28
  • 29. RWCContactPlease contact us if you have any general questionsor would like to discuss any of our strategies. RWC 60 Petty France, London, SW1H 9EU Tel: +44 20 7227 6000 Fax: +44 20 7227 6003 Email: invest@rwcpartners.com Web: www.rwcpartners.com RWC | 29
  • 30. RWC Risk Warnings & DisclaimersThis document contains information relating to RWC Partners Limited, RWC Focus Asset Management Limited and RWC Asset Management LLP (collectively, “RWC”), each of which is authorised and regulated in the UnitedKingdom by the Financial Services Authority (“FSA”), and services provided by them and may also contain information relating to certain products managed or advised by RWC (“RWC Funds”).RWC may act as investment manager or adviser, or otherwise provide services, to more than one product pursuing a similar investment strategy or focus to the product detailed in this document. RWC seeks to minimise anyconflicts of interest, and endeavours to act at all times in accordance with its legal and regulatory obligations as well as its own policies and codes of conduct.The services provided by RWC are available only for and this document is directed only at, persons that qualify as Professional Clients or Eligible Counterparties under rules of the FSA. It is not intended for distribution to andshould not be relied on by any person who would qualify as a Retail Client.In addition, although certain sub-funds of RWC Funds SICAV are recognised schemes for the purposes of Section 264 of the Financial Services and Markets Act 2000 of the United Kingdom (“FSMA”), all other RWC Funds areunregulated collective investment schemes for the purposes the FSMA, the promotion of which either in or from the United Kingdom is restricted by law. Accordingly, this document is issued and approved by RWC Limited forcommunication by RWC Partners only to, and is directed only at, persons reasonably believed by it to be of a kind to whom it may communicate financial promotions relating to unregulated collective investment schemes by virtueof the Financial Services and Markets Act 2000 (Promotion of Collective Investment Schemes) (Exemptions) Order 2001, as amended (the “Order”), or the Conduct of Business Rules of the FSA. Such persons include: (i) personsoutside the United Kingdom; (ii) persons having professional experience of participating in unregulated collective investment schemes; and (iii) high net worth bodies corporate, partnerships, unincorporated associations, trusts, etc.falling within Article 22 of the Order. Any unregulated collective investment schemes described herein are available only to such persons, and persons of any other description may not rely on the information in this document.Where this document is received outside the United Kingdom, it is the responsibility of every person reading this document to satisfy himself as to the full observance of the laws of any relevant country, including obtaining anygovernment or other consent which may be required or observing any other formality which needs to be observed in that country. Nothing in this document constitutes an offer or solicitation by anyone in any jurisdiction in whichsuch an offer is not authorised or to any person to whom it is unlawful to make such an offer or solicitation. Interests in RWC Funds are available only in jurisdictions where their promotion and sale are permitted.No person receiving this document may further distribute it, or copies of it, to any other person or publish any of its contents, in whole or in part, for any purpose.This document is provided for informational purposes only. The information contained in it is subject to updating, completion, modification and amendment. RWC does not accept any liability (whether direct or indirect) arising fromthe reliance on or other use of the information contained in it. The information set out in this document is to the reasonable belief of RWC, reliable and accurate at the date hereof, but is subject to change without notice. Inproducing this document, RWC may have relied on information obtained from third parties and no representation or guarantee is made hereby with respect to the accuracy or completeness of such information. Performancefigures and data analysis within this document are shown and calculated net of fees and expenses and represent the reinvestment of dividends and income. Market index information shown within this document is included toshow relative market performance for the periods indicated and not as standards of comparison. Such broadly based indices are unmanaged and differ in numerous respects from the portfolio composition of RWC Funds.This document does not constitute offer or solicitation to anyone in any jurisdiction of or to acquire interests in any RWC Fund. Investment in any RWC Fund should be considered high risk. Past performance is not a reliableindicator of future results and may not be repeated. The value of investments in RWC Funds and the income from them may fall as well as rise and may be subject to sudden and substantial falls. Changes in rates of exchangemay cause the value of such investments to fluctuate. An investor may not be able to get back the amount invested and the loss on realisation may be very high and could result in a substantial or complete loss of the investment.In addition, an investor who realises their investment in RWC Funds after a short period may not realise the amount originally invested as a result of charges made on the issue and/or redemption of such investment. The value ofsuch interests for the purposes of purchases may differ from their value for the purpose of redemptions. No representations or warranties of any kind are intended or should be inferred with respect to the economic return from, orthe tax consequences of, an investment in RWC Funds. Current tax levels and reliefs may change. Depending on individual circumstances, this may affect investment returns. There is no guarantee that the securities referred to inthis document will be held by RWC Funds in the future. Nothing in this document constitutes advice on the merits of buying or selling a particular investment. This document does not constitute investment, legal or tax advice.This document expresses no views as to the suitability or appropriateness of the RWC Funds or any other investments described herein to the individual circumstances of any recipient. Potential investors in the RWC Fundsshould refer to the latest relevant Full Prospectus, KIID and latest Annual and Interim Reports for more information.A United Kingdom investor may not have the right (otherwise provided under the FSA Handbook of Rules and Guidance) to cancel any agreement constituted by acceptance by or on behalf of an RWC Fund of an application forinterests in an RWC Fund. In addition, most if not all of the protections provided by the United Kingdom regulatory structure will not apply to investments in an RWC Fund. Investors in an RWC Fund will not receive compensationunder the Financial Services Compensation Scheme in the United Kingdom in the event that the fund is unable or likely to be unable to satisfy claims against it.This document is issued by RWC Partners Limited, a company registered in England and Wales (No. 03517613) with its registered address at 60 Petty France, London SW1H 9EU.. RWC | 30