Weekly Market Commentary | 24/10/23 | STJ, HL., BPM, LIO, TMG | Forced selling creating an opportunity?

Bruce looks at UK fund manager outflows, both at an industry level and manager-specific level. Companies covered: STJ, HL., BPM, LIO, TMG.

The FTSE 100 was down -3.2% last week to 7,384. Nasdaq100 and S&P500 were also both down -2.9% and -2.4% respectively, with the FTSE China 50 off even more steeply at -4.7% over the last 5 trading days. The price of gold rose +4.2% to $1953 per ounce. The US 10Y government bond yield rose to 5.0%, its highest level since the financial crisis and the TLT is now down -16% YTD making it likely that US government bonds will see a negative return three consecutive years in a row.

On Mello last week, someone mentioned that UK fund managers were seeing significant outflows. On an industry level that seems to be wrong: below is the data from the Investment Managers Association (IMA), which shows that monthly equity net retail flows (blue bar) recovered over the summer and have improved significantly from August and September last year.

However, I don’t think that the industry-level data tells the full story. Several, fund managers have now released updates for the Jun-Sept quarter, which shows that Premier Miton and Liontrust have been really struggling.

Their 12-month outflows are -25% and -12% respectively which represents a considerable challenge. Worryingly, the pace of outflows has accelerated in the most recent quarter, and annualised represents a decline of -42% and -20% of AuM for PMI and LIO versus 1st October 2022. That level of outflows is clearly not sustainable. We’ve seen some strange share price movements in recent months, and that suggests we could be seeing forced liquidations from fund managers. It doesn’t feel as bad as H2 2008 when hedge funds were facing redemptions, but it is comparable. In the longer term, this creates an opportunity.

We’re also seeing many bids coming in recent weeks, The Restaurant Group, STM, and Finsbury Food. Add to that On The Market and Kin and Carta last week. Corporates and Private Equity still have plenty of money to spend and are keen to do deals at the current valuations. Mark Simpson who I share a podcast with points out that cash bids in an oversold market are more valuable, as many investors are fully invested and can then deploy the windfall to invest in shares when they are at bargain levels. Thus, even if you think that bids are coming in lower than you’d like to see as stockmarket valuations are beaten down, it’s still good news when you reinvest cash. If you had received the cash a couple of years ago when AIM was above 1,300 (versus 685 currently) you would have struggled to find bargains to reinvest in.

Below I look at LionTrust results, St James’s Place and B.P. Marsh & Partners. Then a brief comment on The Mission Group’s profit warning. I have been putting my cash to work this month, increasing my position size in Impax AM, Hargreaves Lansdown and opening a starter position in Gooch & Housego.

St James’s Place Q3 update to Sept

St James’s Place, the Wealth Manager with almost £160bn of AuM and over 900,000 clients announced a Q3 update and a simplification of their charging model. They have been in the news over the last couple of weeks, following suggestions that they were coming under pressure from the regulator (FCA) over complex charges and high exit fees. That follows the FCA’s consumer duty regulations, which was introduced at the end of July and require firms to put their customers’ needs first. About £47bn, or roughly a third of AuM were subject to exit penalties as of June this year.

Last week STJ announced that they would scrap exit fees, though the changes will only be in place by the second half of 2025. They are still rather high: a maximum 4.5% initial charge (previously 5% maximum), and maximum 167bp per annum ongoing charge for investment bonds and pensions. The latter charge is broken down into three elements i) ongoing advice 80bp ii) ongoing product 35bp iii) ongoing fund 52bp. That maximum 167bp drops to 159bp for unit trusts and ISAs.

In my view that still looks at the top end of the range compared to other Wealth Managers like Rathbones, which charges 1.2% on the first £250K and Brewin Dolphin 1.5% on the first half a million. Although they are not directly comparable, the low-cost investment platforms like Hargreaves Lansdown and AJ Bell charge 45bp and 25bp respectively. On the analyst call management downplayed the risk of these assets leaving for lower-cost platforms saying that when exit fees roll off after 6 years, saying that they don’t see many clients taking their money out.

STJ management believes this will cost between £140-160m to implement these changes, with approximately £10 million over the remainder of 2023, £95 million in 2024 and the balance in 2025. That compares to statutory IFRS PBT of £502m FY Dec 2022. That is just investment spend on the IT plumbing to achieve the simplification, management don’t put an explicit figure on the reduction in cash profits from giving customers a better deal.

Comparison with HL.: Hargreaves Lansdown also reported last week, Q1 to September. The platform reported net flows of £0.6bn, with closing AuA (Assets under Administration) of £135bn. Revenue was up +13% to £183m. However net client growth was just 8,000 in the quarter, down by half from the same quarter last year and that resulted in the shares selling off -5%, as investors worried that HL. were struggling to retain clients and assets. HL. may be facing tougher competition for new business from the likes of PensionBee, which I wrote about in early September.

Valuation: Sharepad shows that STJ RoE has been trending up from a 15-20% range to 35% FY Dec 2022. There were clearly risks in the business model though, and the share price has been selling off steeply since the start of last year.

One surprising aspect is that despite the headlines about high costs, the business continued to see client inflows of just under a billion pounds. Partly that is because £81bn of AuM are pensions, which saw £2.4bn of gross inflows in Q3 Sept.

On the analyst call the CFO suggested that Embedded Value per share would fall by -17% to £13.60 (so the share price is 0.46x EV). The shares are on a PER 7.7x Dec 2024F and an 8.9% forecast dividend yield the same year.

Opinion: This is a fascinating sector to follow, as the regulator demands lower, more transparent fees. For instance, the FT said that the FCA had written to the Chief Executives of platforms and questioned the low rates being offered on customer’s cash. That has implications for platforms like HL. and AJB. My view is that Wealth Management ought to be a good business for shareholders, as many wealthy clients value intangible benefits and the relationships they build up over many years of financial planning. This doesn’t seem to be an industry where clients shop around for the cheapest Wealth Manager on Moneysupermarket. I suppose regulatory intervention and technology could change that, but for now, I continue to hold Hargreaves Lansdown.

B.P. Marsh & Partners H1 July results

This specialist investor in unlisted insurance and financial businesses is currently sitting on £51m of cash following the sale of its 18% stake in a business called Kentro. BPM specialises in early-stage financing for businesses with enterprise value up to £25m, whereas competitors would typically need an enterprise value of at least £50m before an investment opportunity became interesting. So B.P. Marsh operates in a niche where funding can be difficult to obtain, and they then hope to grow their investments and later sell to mid-market private equity houses.

Kentro disposal: Kentro, the business they’ve sold, is an insurance business consisting of Nexus and Xenia. Nexus, underwrites insurance via 800 retail brokers in nine countries, while Xenia is a credit broker in the UK, with over 1,500 policyholders ranging from large corporates to SME customers. The disposal was announced in mid-May, but they only received the cash after their 31 July H1. They invested £15m starting in 2014 and achieved an exit multiple of 3.4x and an IRR of 24%. Prior to disposal, they had marked the value to £51m, so there’s no gain on disposal but also it does give some confidence that BPMs marks are not wildly optimistic. It’s a similar story for other recent disposals, as this slide from the management presentation shows.

Some of the money is being returned to shareholders, in the form of a special dividend of 2.78p (or £1m), on top of an FY 2024 dividend of £2m (split evenly between the interim and final dividend). The proposed DPS for the next 3 years is 5.5p. There’s also been a £1m buyback program this year, at an average price of 377p per share. In the RNS, management comment that they intend to strike a balance between using sale proceeds for investment for long-term capital growth, whilst providing shareholders with a meaningful ongoing return. It strikes me that this is an attractive market for a management team to have cash to invest in unlisted financial businesses with lots of potential.

Valuations: The current NAV is £203m, which equates to 567p per share. That is up 3x from NAVps of 188p in 2013. Sharepad shows that the business has tended to trade at a 20-30% discount to NAV over the past decade, versus a 33% discount currently.

For comparison, IP Group which invests in early-stage academic spin-outs from universities (Oxford Nanopore, Ceres Power), is currently trading on a 60% discount to NAV. IPO’s growth in NAV per share is much less impressive, only up +49% over the last decade.

Opinion: There is some risk that as less money flows into Private Equity, BPM won’t be able to exit its investments at an attractive price. That said, Brian Marsh, the founder has built a good track record of over 30 years experience of in buying and selling insurance businesses. NAV per share has compounded at +11.8% CAGR since 1990. This seems like a solid investment case and I may choose to open a position.

Liontrust Q2 Sept Update

This fund manager which launched a failed bid for the troubled Swiss asset manager GAM released a Q2 update. The bid looked opportunistic, as GAM’s share price was down -95% over the last five years after it was fined by regulators following their involvement with Greensill. At the time GAM had £21bn AuM, and Liontrust was offering £96m, or less than 0.5% of AuM for the distressed asset manager. LIO management comment that their acquisition of GAM would have accelerated their strategic objectives, but they can successfully grow AuM without doing deals to buy other fund managers.

Liontrust’s net outflows were £1.6bn, and AuM fell -6.3% to £27.5bn. More than half of those outflows were driven by retail selling (61%), versus Institutions (22%) and Alternative Funds (14%).

Management says that their bias towards UK equities, quality growth style, and mid and small caps have all been headwinds. The UK All Companies sector has been the worst net-selling retail sector in the UK for six of the past seven quarters, according to the Investment Association (IA).

Valuation: The shares are trading on a PER of 7.1x Dec 2024, and an eye-catching forecast dividend yield of 12.8%. The forecast payout ratio is over 90% though, so there must be some likelihood that the dividend is cut if outflows continue. The table below shows that the whole sector has had a torrid time with 6 stocks more than halving in value since May 2021.

Opinion: I said last week that fund managers could be an opportunity for value investors. The business model is very attractive when the environment is helpful and they are seeing inflows, operational gearing means that very little incremental capital is needed to grow.

By the same measure, when things go into reverse, the economics look poor and the share prices collapse. In December last year, I did ponder whether the rising costs of mortgages would mean retail investors selling equities to pay down debt on their houses. The retail outflows fund managers are seeing does suggest that may be happening, which I think creates an opportunity for anyone with spare cash to put to work. I increased my position in Impax AM last week.

The Mission Group profit warning

This marketing and PR company released a brutal profit warning on Monday. It wasn’t so much that FY Dec PBT was slashed by -60% to £3.1m, but that net debt has ballooned from £10.3m end of December last year to £25.5m as of last week. Management says they are likely to breach their debt covenants, and they have cut the dividend.

Valuation: The shares sold off -60% on the day of the announcement. Assuming earnings can recover to last year’s 6.7p EPS, then they are on 2x PER. However, that’s a big if, given that most of the balance sheet is intangible assets, so there might be a dilutive capital raising first.

Opinion: I own this and am disappointed that management didn’t see the downturn coming and prepare accordingly. With the shares now down -60% it feels too late to sell. Again, this might be interesting for value investors, but high risk / high reward. I won’t be averaging down.


Bruce owns Hargreaves Lansdown and Impax AM.

Bruce co-hosts the Investors’ Roundtable Podcast with Roland Head, Mark Simpson and Maynard Paton. To listen you can sign up here: privateinvestors.supercast.com

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This article is for educational purposes only. It is not a recommendation to buy or sell shares or other investments. Do your own research before buying or selling any investment or seek professional financial advice.