SIT chairman Douglas McDougall, a veteran of the Scottish fund management industry who was previously senior partner at venerable Edinburgh investment house Baillie Gifford, also warned of the “major challenge” ahead for central banks and governments in timing the removal of massive economic stimulus measures.
And he cautioned that the sharp rebound in stock markets may have been fuelled by surplus liquidity arising from the policy measures taken to shore up the financial system.
The trust ploughed borrowings into equities to take advantage of the stock market rebound, which began in March, but has now moved back to a more neutral position.
John Kennedy, manager of SIT, said that the international investment trust had reduced its effective gearing into equities from a peak of about 114.5% in May to 105%. A ratio of 100% would mean that shareholder funds were invested fully in equities but that SIT’s borrowings, which amount to nearly £108m of its £700m of total assets, were not invested in stock markets.
Kennedy said the fall in gearing from the peak meant that SIT had cut its equity holdings by about £55m, with a reduction of £20m in June followed by further withdrawals in August, September and October.
Gearing enhances investment performance in times of rising markets but exacerbates the problem when stock markets fall.
SIT’s geared position enhanced its investment performance but was not enough to prevent the trust under-performing its comparator indices significantly in the year to October 31.
The trust’s net asset value per share rose by 14.8% during the year to October 31. The FTSE All-World Index rose by 18.3% and the UK FTSE All-Share Index advanced by 18.4%.
This 12-month period to end-October began after a sharp plunge in global stock markets which followed the collapse of US investment bank Lehman Brothers in September last year.
In terms of SIT’s under-performance, Kennedy said the damage had been done in March. SIT had taken a defensive stance because of its large private shareholder base but lost out when stock markets rebounded suddenly in March. It was hit by an underweight position in financial stocks which formed part of its “safety-first” approach on behalf of the 26,500 private investors who own about 65% of its shares.
Kennedy noted it had been the “hairiest and scariest” of financial stocks which had risen fastest when stock markets took off back in March.
SIT increased its gearing between March and May, at the same time raising its exposure to financials. Kennedy said the trust had made a profit of about £5.7m during the year on its investment in Spanish bank BBVA.
Kennedy noted that SIT had done well from the purchase of £110m of equities in October last year. In this buying spree, it bought industrial cyclicals such as German car giant BMW, Swiss-Swedish engineering company ABB, and German steel-maker ThyssenKrupp, which had seen their share prices hammered in the relatively indiscriminate, post-Lehman stock market sell-off. These purchases took gearing at that stage from 87% to 105%.
McDougall, in his statement on SIT’s results, said: “From the turning point in March to the year-end, global equities rallied by 50% in local currency terms and 40% in sterling terms. Economic fundamentals continue to improve as the effects of the authorities’ extraordinary policy stimulus measures are felt. Corporate earnings are recovering and there are increasing signs of stabilisation in several key economies.
“However, it is likely that the recovery in markets has not only priced in much of the improvement in the world economy, but may also have itself been fuelled by surplus liquidity stemming from such policy measures to support the financial system. Consequently, value in global stock markets is now much diminished following this rally.” He added: “The timely removal of central bank and state fiscal support measures – not so early as to stifle the recovery and not so late as to spark inflation – will be a major challenge for the period ahead.”
SIT is recommending a 1.1% increase in its regular full-year dividend to 9.6p per share. It noted this proposed rise compared with annual UK deflation of 0.8% in October on the retail prices index measure.
