Be active when increasing your exposure to the UK

They say that the numbers never lie but sometimes they can create the wrong impression. Upon discovering that 70% of the Artemis income fund is invested in the FTSE 100 – not much less than the market – you might be tempted to shout ‘tracker’ and move on. That would be unfair – as our long-term performance demonstrates, it is anything but passive. Here’s a timely reminder why looking more closely at the numbers is so important. 

The recent performance of the US market may be giving asset allocators pause for thought. There are suggestions that some are looking to dial down their exposure to the US. Outperforming has been hard for active US managers when the tech stocks have towered four square over all the other index constituents. But that may be changing, tilting the balance of power back to active managers. 

In a global context, the attractive valuations in the UK market are difficult to ignore. And the recent divergence in US and UK performance may presage a change in the UK’s longstanding orphan status. Some think it is a good time for investors to come on home. Unsurprisingly, we would agree with them. But given the experience of recent years, the temptation to switch from a passive American fund to a passive Brit alternative must be great. Unsurprisingly, we think that would be a poor choice.

Good active management in practice

A good active manager creates value by spotting the stocks that are not today what they will be tomorrow. That works both ways – it means spotting companies in the ascendancy and those in decline. 

The UK market is often misunderstood because people think it is largely commodities, financials and fast-moving consumer goods. Look at the FTSE 100’s top 20 companies and what you get is just what you would imagine, to a large extent. Buy a FTSE 100 tracker and 61.1% of it will be invested in these 20 companies. 

Buy our fund and it will be less than a quarter of this by value. Amid our top 20 holdings we see fit to commit significant capital to only four of these companies. Nearly half the fund is in stocks that make up just 13% of the index. As you can see, for us the benchmark is not a starting point in deciding how to weight our investment. We own what we own with conviction. 

Tech diversification

The stocks we favour demonstrate that there is more breadth of opportunity in the UK market to be exposed to strong fundamentals and exciting businesses than many would believe. The fund is positioned to diversified sources of income, but there is one theme that runs through many of our holdings – technology. 

Take a look at academic publisher Pearson. Founded in 1840 and a one-time owner of the FT, it is now primarily a digital publisher and becoming a lifelong learning partner to many industries, companies and individuals – offering education and, importantly, accreditation. Many are questioning whether the traditional university model works. How long can students go on paying £27,000 for a three-year course delivered over a few hours each week in a lecture theatre while also covering the circa £11,000 a year costs of living away from home? Pearson is well placed to capitalise on the shift to ongoing digital learning. 

RELX is also a publisher – a merger of British trade book and magazine publisher Reed International (founded in 1894) and Dutch scientific publisher Elsevier (founded 1880). Today it is a £43bn multi-national information and data analytics company. 

Smiths Group is another world-leading British company founded in the 19th century. It has operations in more than 50 countries. It started out making precision watches for the Navy. That was cutting-edge technology of its time. And the business is still technology-driven. It makes airport security scanning equipment and sensors. 

If we look at retail, Next has transformed itself in the past 10 years. It is much more than just a clothing retailer, with a strong online presence across an expanded offering in homeware, beauty and third-party brands. It is starting to turn its own cost base into a revenue opportunity by acting as a platform for other businesses, helping them with the front-end and back-end challenges of marketing and distribution. How many understand just how Next has transformed the scale of opportunity in this way? Its offering is increasingly evolving into a multi-channel platform like Zalando. The valuations? Next is on a P/E of 13x, compared with 60x for Zalando.

It is a similar story with enterprise software company Sage. It provides accounting and other associated services to smaller businesses but has become a very big business in the process, with a market cap of more than £7bn. Its US equivalent is probably Intuit. Intuit trades on a P/E of 78; Sage on 27. 

Marketeers often talk about a company’s 'TAM' – its total addressable market. These digitally savvy companies have embraced tech to open up huge market opportunities. They are addressing them smartly and profitably. 

Yes, the largest companies still dominate the corridors of the FTSE 100 and while many of them may still be worthy enough investments, they are arguably more adult than adolescent in their life cycle. That’s what you get most of if you go passive. Choose a good active UK manager instead and you can gain exposure to a broad range of the more exciting companies – and on attractive valuations next to those of their US peers. 

Andy Marsh works alongside Adrian Frost and Nick Shenton as part of Artemis’ income team

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