Schroder UK Mid Cap: Stick with your lockdown winners

If there is one lesson that Jean Roche, manager of the Schroder UK Mid Cap (SCP) investment trust, has learnt over the past 18 months it is to never underestimate the importance of having a strong balance sheet.

‘The structural winners will always out,’ she told Citywire.

Roche (pictured above), who took over as lead manager of the £248m investment trust from veteran stockpicker Andy Brough in January of this year, believes it is short-sighted to refer to stocks as ‘lockdown winners’.

As we emerge from the Covid crisis, she said these companies were showing themselves to be structural winners as well, citing Dunelm (DNLM) as a prime example.

‘Dunelm is seen as a lockdown winner, but actually its stores were shut for a lot of it. It has proved its online offer and that was how it managed to have a successful Covid trading period,’ said Roche.

‘But actually the stores [now] open are a big part of the case as well.’

Looking ahead, Roche anticipates that companies, like Dunelm, which have invested in their online offering, will continue to dominate. ‘The digitisation trend is not going away. It is only going to get stronger,’ she added.

She highlighted Computacenter (CCC) as another structural winner. ‘Computacenter has been seen as a lockdown winner but continues to push through small upgrades consistently. It is the tech stock that no one has ever heard of which keeps beating expectations.’

A healthy UK consumer

While letting Roche take the lead on the trust, Brough remains co-manager and continues to lead on the £998m Schroder UK Mid 250 open-ended fund. The two portfolios remain invested in many of the same medium-sized UK companies, though there is now significant divergence among their biggest holdings, with the trust focusing more on the industrials sector.

While Roche acknowledges it is difficult to come up with one factor encapsulating the health of the UK economy, she is encouraged to see high excess savings figures. Though she caveats that this is unlikely to be spread evenly across the population, this means some consumers have a significant savings buffer to lean on.

‘You have then got to gauge what people are going to spend their excess savings on,’ she added.

Travel and leisure companies may appear obvious beneficiaries, but Roche has so far avoided these sectors. Although she expects to see a rebound in sales at these businesses, she questions whether this will feed through to earnings-per-share growth, given that a number of these companies have added cash to their balance sheets by raising equity.

‘I find the fact that a lot of them have issued a lot of shares off-putting,’ she said.

‘On the discretionary spend side, we have some retailers and gaming names, and that is where I am tempted to stay for now rather than the “socialising” stocks, as I call them.’

The trust also owns housebuilders Crest Nicholson (CRST) and Vistry (VTY), which is also a top 10 holding in the fund. Roche remains bullish on the sector, pointing out balance sheets are healthier than they have in the past and the supply-demand equation looks strong as well.

IPO boom

With 109 initial public offerings (IPO) in the UK so far this year, Roche highlighted Brough’s recent description of these being akin to ‘The good, the bad and the ugly’. She added that it will only become clear if these IPOs were truly successful in five years’ time.

Nevertheless, Roche has been tempted into two so far: Trustpilot (TRST) and Bridgepoint (BPT).

‘I saw with Trustpilot a unique company, offering a unique currency of trust online, which is obviously a gap in the market,’ she said.

Meanwhile, private equity investor Bridgepoint appeared on Roche’s radar because it specialises in European unlisted mid caps and previously invested in Pets at Home (PETS) and Safestore (SAFE), two holdings in the trust. She said the IPO offered an attractive valuation in comparison to Bridgepoint’s European peers.

‘It was a unique opportunity to invest in private assets, which is a structural growth trend,’ she added.

While UK stocks still look undervalued compared to their international counterparts, Roche notes that many high growth companies in the FTSE 250 do not necessarily look cheap but this is ‘deservedly so’ – because they should continue to grow at a fast pace. That includes Dechra Pharmaceuticals (DPH) and Pets at Home, which are both tapping into the growth in pet ownership in the UK, with Dechra specialising in animal medication.

Over the past two years, Roche and Brough have reduced the number of holdings in the trust’s portfolio from more than 60 to close to 50 today, taking a more focused approach. Roche said this exercise has largely been completed. In some cases that has been down to their sell discipline, as they offload companies once they have been promoted to the FTSE 100, as was recently the case with Royal Mail (RMG).

‘The mechanics of the strategy with this trust is to pick up the rising stars from small cap and the fallen angels from the FTSE 100 as they see their way through the incubator that is the FTSE 250 index. We wish them well once they go to the FTSE 100,’ Roche said.

Over the past five years, the Schroder UK Mid Cap trust has returned 97.8% in share price terms, which compares to 83.7% by the average trust in its UK All Companies sector, as tracked by the Association of Investment Companies. The trust, whose shares currently trade at an 11% discount, is up 30.1% over the past 12 months, which compares to a sector average of 24%.