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Utilico Emerging Markets (UEM) offers a different set of exposures to the average emerging market fund, focusing on the infrastructure and utilities sectors and on Latin America rather than North Asia. The trust owns a portfolio of companies chosen for their strong positions in their industries, which should allow them to generate high shareholder returns over the long term, with an aim of harnessing the growth potential in the rise of the emerging markets middle classes.
The trust has performed strongly over the long term, with five year returns ahead of the index and peer group despite not being exposed to the fashionable, higher-growth sectors of information technology and consumer discretionary. The trust has tended to do better in down markets while making less than the market in rising markets, which is unsurprising given the bias to defensive sectors.
The more defensive sectors the trust invests in tend to pay higher dividends, and so the yield is significant, at 3.1%. However, the objective of the trust is to generate total returns, so income is not prioritised over capital returns. The dividend has been grown or held each year over the past decade, however.
The trust trades on a discount of 12.5%. This is tighter than the average for 2018, when emerging markets were out of favour, but wider than the five-year average of 10.8%. In 2018, UEM redomiciled to the UK from Bermuda, in an attempt to make the trust more attractive to investors and close the discount. The trust has also carried out regular buybacks when the discount widens into double figures.
The trust is managed by specialist fund manager ICM, and a team headed by Charles Jillings and Duncan Saville. The management team and directors have substantial shareholdings in the trust.
There is a performance fee, charged at 15% of the NAV total returns in excess of 8% (or the benchmark plus 2% when that is higher). There is a high watermark and the fee was last charged in 2017.
UEM offers attractive diversification from the dominant trends in active emerging markets funds: tech, consumer discretionary and North Asia. The focus on infrastructure and utilities could well prove beneficial if fears of a global recession prove founded. However, investors have to be comfortable with a high degree of exposure to Latin America. That region continues to experience political and economic disruption, which are unpredictable in their outcomes. It is worth noting that the company offers an admirable amount of transparency on the underlying portfolio and related information for shareholders online and in their reports and accounts.
|A tendency to outperform in rough markets||High sector and country exposures raise the downside risks as well as potential returns|
|Offers diversification to the consensus positions in tech and consumer stocks of EM funds||There is a performance fee which may deter some|
|A strong record of absolute returns attributable to a coherent strategy||the ownership structure is opaque|
Utilico Emerging Markets (UEM) invests predominantly in infrastructure, utilities and related sectors in emerging markets. These are the essential services that are well-placed to benefit from the growth in emerging markets in the developing world. The management team, led by Charles Jillings, aims to benefit from the high operating leverage enjoyed by businesses in these sectors, and seeks to identify those that have monopolistic positions in their areas of operation, giving a further boost to their return potential.
The aim is to generate long-term total returns from a concentrated portfolio, managed in a highly active fashion. The strategy centres around identifying undervalued stocks in the relevant sectors. The preference is for those that are asset-backed and have positive operational cash flows, which allow the companies to pay a regular dividend – UEM seeks growth in both income and capital as components of its total return.
Charles takes a long-term perspective when investing, actively seeking cash generative companies. The portfolio is constructed with no reference to a benchmark index but via a bottom-up screening process of the investible universe of approximately 900 companies. The companies that pass the selection criteria undergo thorough fundamental research, which includes construction of detailed financial models and valuation targets.
The largest sector weighting is to companies involved in electricity production and distribution. This includes three positions in the top ten, two in Brazil and one in Chile, and makes up 22.5% of the portfolio. Ports operators (14.3%) and roads and rail operators (11.3%) are the next largest positions, which highlights the portfolio’s exposure to the expansion of national economies and international trade.
Unlike the typical emerging markets fund, the trust’s major regional exposure is to Latin America rather than China. In total, 40% is held in that region, compared to 16.5% in China including Hong Kong. Brazil is the single largest country position, at 29.1%. For comparison’s sake, although it is not the trust’s benchmark, the MSCI Emerging Markets Index has 33% in China and just 7.2% in Brazil.
Brazil has been a high conviction country for some time, and the weighting has significantly increased over the past few years. Charles believes that under Jair Bolsonaro, policy is moving in the right direction to encourage the growth potential in the country. However, a pivot to Latin America in general was carried out during 2017, before Bolsonaro’s election. This resulted in a higher than usual turnover, which has since returned to normal levels. In 2016, the trust held 20.2% in the region, so the exposure has doubled. The sales of positions during 2018 has resulted in a more concentrated portfolio than before.
Currently, there is 39.2% in the top ten positions compared to 24% for the MSCI Emerging Markets. As much as 60.1% is in the top twenty. The largest position is 6.1% in International Container Terminal Services, a ports operator in the Philippines.
top ten holdings as of 31 july 2019
International Container Terminal Services
Companhia de Saneamento do Parana
||Waste and water
China Resources Gas Group
China Everbright Greentech
||Biomass utilisation and waste
Engie Energia Chile
Accompanying the fundamental research into companies’ financials, the team visits both the assets (a vital activity given its focus on utility and infrastructure names) and the company management. This helps to ensure they are gaining exposure to strong management teams which are good allocators of capital. Charles also tries to gain an insight into the overall economic picture through speaking with government ministers and economists, helping to gain a greater understanding of the trends driving emerging market economies and how they will impact corporates. This helps to further understand the corporate governance of the company, which is a major attraction for the team. However, the focus is on stock-specifics and the potential in the markets they serve.
UEM can also hold unlisted investments, although these make up only 3.9% of NAV (as of the last financial year end).
UEM has a short-term, multi-currency debt facility worth £50m, or 8.3% of NAV at current levels. It has been active in using the facility in recent years, but as of the last two year-ends has been net cash. This reflects the growing macro concerns around emerging markets. Debt has been drawn down, but offset by cash in the portfolio.
The company is limited to 25% of gross gearing as a proportion of gross assets at the time of drawdown, although the £50m account has been the only gearing facility operated in recent years.
Despite the trust’s preferred sectors being more defensive and out of favour in the sharp bull market of 2016 and 2017 in emerging markets, looking over a five-year period the trust has significantly outperformed the MSCI Emerging Markets Index and the Morningstar peer group of emerging markets trusts. NAV total returns have been 50%, with the index up 35% and the peer group average 15.5%.
This is largely due to superior performance in weaker markets: the trust lost significantly less than the index in 2015 and 2018, the last two down years.
The trust has also done exceptionally well in 2019. The weakness of sterling has helped in recent months, while a rally in the Brazilian Real helped the trust post gains of 3.4% in May while the MSCI Emerging Markets Index fell 4.2% (30.2% of the trust was in Brazil at the end of the month). Emerging market utilities in general made positive gains in that month, while electric utilities did particularly well – they were the trust’s largest sector position at 19.2%. The trust’s top holding, International Container Terminal Services, published strong results and the company’s shares, which made up 6.1% of the portfolio, rose 7.9%.
The trust’s positioning in defensive sectors has paid off over the last 12 months overall, while the sector average has underperformed the index. In general, the trust’s peers have been invested in more consumer-facing, internet and technology-linked stocks, which led the market in 2016 and 2017 but have underperformed in the past year’s volatility.
one-year relative performance
The trust pays a quarterly dividend, and yields 3.1%. Although the objective is total return, the sectors it invests in tend to pay higher dividends on average, with good dividend growth. The earnings on the portfolio have grown by 9% a year over the past five years, and the trust’s payout by 3.4%. The trust has paid dividends from capital when necessary, although the payout has been fully covered since 2016.
When the company was redomiciled to the UK in April 2018, it had no revenue reserves as it was a new company (although the predecessor, UEM Bermuda, had built up reserves). UEM therefore transferred £500m into a special distributable reserve in order to be able to buy back shares and issue dividends. Dividends should therefore be able to be maintained or raised even if revenues fall short of the previous year’s.
UEM is managed by a team led by Charles Jillings, chief executive of ICM Investment Management, licensed in the UK, which is the joint portfolio manager of UEM alongside ICM Limited, licensed in Bermuda. He works closely with Duncan Saville, director and founder of ICM. Charles is a trained accountant who joined ICM in 1995. As well as UEM, he manages UIL Limited, a Bermuda-registered closed-ended fund, listed on the LSE. UIL also invests in emerging markets, and owns 17% of the shares of UEM. In turn, most of UIL’s shares are owned by the directors and managers of UIL (including Charles Jillings and Duncan Saville) – so much so that UIL is proposing to shift its listing to the Specialist Fund Segment of the LSE, which admits companies with a free float of less than 25%. This does mean that the manager has a substantial shareholding in the trust, which aligns ICM’s interests with UEM’s. However, the 17% holding does give the manager substantial influence over the board too. Charles previously sat on the board of UEM as well as serving as manager, but has stepped down from the former role in the interests of strengthening its independence.
Charles is based in Epsom, Surrey, with a team of eight analysts who work with him on the trust and on UIL. Four are specialists in the transport, utilities, communications and environmental-water-and-multi-utilities sectors, with three junior analysts supporting them and a Latin American strategist on the team. ICM manages over £14bn (as of March 2019).
The discount has closed substantially this year as the trust’s more defensive positioning has done better in emerging markets, and after the trust was re-domiciled to the UK in April 2018. It now stands at 12.5%, below the one-year average of 12.2%, but almost in line with the five-year average of 10.8%.
Discount / Premium
The board has given the manager the ability to buy back shares, but it views this as an investment decision – i.e. the manager is expected to buy shares if it views the value as offering attractive return prospects considering their valuation. Buybacks have traditionally been employed when the discount has been wider than 10%. From inception to the end of the last financial year in March, the company has bought back 47.5m shares, or 17% of the total in issue. There is a continuation vote to be held at the Utilico Emerging Markets AGM in 2021 and every five years thereafter.
UIL limited owns 16.9% of the company. The ownership structure of UIL is complex and hard to trace, but Duncan Saville appears to be the largest end investor.
The latest ongoing charges figure (OCF) is 1%. This compares to an average of 1.27% for the global emerging markets trusts. The management fee is 0.65% of net assets, 30% of which is charged to revenue, and there is a performance fee. This is charged as 15% of the NAV outperformance of the greater of the following: either the benchmark returns plus 2%, or 8%. The benchmark used is the FTSE Actuaries UK Gilt 5 to 10 Years plus RPIX inflation. The fee was last paid in 2017 and is capped at an additional 1.85% of NAV. There is a high watermark, currently at 245.48p per share. The KID RIY is 1.76%, compared to an average of 1.81% for the sector, although methodologies can vary.
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Fund History: Utilico Emerging Markets
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