Artemis UK Special Situations Fund update

Andy Gray and Henry Flockhart, managers of the Artemis UK Special Situations Fund, report on the fund over the quarter to 30 June 2024.

Andy Gray

Source for all information: Artemis as at 30 June 2024, unless otherwise stated.

Politics have dominated discussions in the quarter, with surprise elections announced in the UK and France and the US presidential campaign kicking off in earnest. While the UK political landscape moves towards the centre, France looks fractured between two extremes and the odds of a second Donald Trump presidency shortened dramatically after this year's first televised debate.

The UK market is still lowly valued, so it is no surprise that M&A activity remains a feature. There has, however, been a noticeable shift towards larger deals in recent months, with those of more than £1 billion becoming commonplace.

Against this backdrop, the Artemis UK Special Situations Fund rose 4.1% in the three months to 30 June 2024, with the FTSE All-Share up by 3.7%. 

  Three months Six months One year  Three years  Five years
Artemis UK Special Situations Fund 4.1% 9.3% 16.6% 13.8% 49.1% 
FTSE All-Share TR 3.7% 7.4% 13.0% 23.9% 30.9% 
IA UK All Companies NR 3.9% 6.9% 12.5% 8.9% 23.4% 
Past performance is not a guide to the future. Source: Lipper Limited/Artemis as at 30 June 2024 for class I accumulation GBP. All figures show total returns with dividends and/or income reinvested, net of all charges. Performance does not take account of any costs incurred when investors buy or sell the fund. Returns may vary as a result of currency fluctuations if the investor's currency is different to that of the class. Classes may have charges or a hedging approach different from those in the IA sector benchmark.

Stock positives

There were several positive contributors in the quarter. Of note:

  • Britvic turned down an unsolicited offer from Carlsberg at a 29% premium to the pre-offer price, which we felt undervalued the business and its prospects. An improved offer at a 36% premium has since been approved.
  • Johnson Service Group is focusing on rebuilding margins. While wage inflation remains a headwind, energy costs are now easing. The workwear and protective clothing company laid out the impact at its AGM in May, which is material: it has raised profit forecasts by more than 10% for 2025 and 2026.
  • UK banks continue to perform well, with interest rates in something of a sweet spot – high enough to support net interest income but not high enough to trigger impairments in their loan books. With attractive returns and capital distributions in prospect, we feel NatWest and Barclays continue to offer good value.
  • Oxford Instruments’ new chief executive Richard Tyson unveiled his strategic update in June. The business is being restructured into two divisions with the aim of delivering sales growth of 5 to 8% and operating margins of more than 20%.

Stock negatives

Underperformers in the quarter included the following stocks, for the reasons specified:

  • B&M European’s low-price, volume-driven strategy allows savings to be passed on to customers. Costs are being tightly controlled and a store-opening programme supports future growth. Poor weather may be affecting current trading (with fewer barbeques and garden chairs being sold), but we remain focused on the long-term opportunity.
  • FirstGroup underperformed, with Labour’s manifesto pledge to nationalise the railways in focus. Bus franchising has also been highlighted by Labour, but there are opportunities as well as threats: we feel FirstGroup’s strong balance sheet is unappreciated and undervalued.
  • GSK fell in early June on the back of a Delaware court ruling affecting cases that argue Zantac (ranitidine) increases the risk of cancer. This ‘Daubert’ ruling, permitting the admission of expert testimony, reflects the judge's opinion on whether the evidence is sufficiently reliable to be presented to jurors at trial. An earlier federal court ruling dismissed the cases on that basis. The company will appeal the Delaware ruling.
  • A trading update from Spectris revealed a slow start to 2024 following strong performance last year. We reduced our holding as a result. Management later warned that trading has not improved as much as anticipated and lowered full-year profit guidance.

Activity

New idea generation remains strong and we introduced four new holdings to the portfolio in the quarter.

  • Pub operator Mitchells & Butlers has made a strong recovery since Covid. Revenues have rebounded as the business has been able to push through higher prices in response to industry cost inflation, while volumes have also started to recover. The company has a branded, majority-freehold estate that should continue to outperform in the long run.
  • Man Group, the alternative asset manager, has delivered strong investment performance, with major funds near high watermarks. This will likely trigger sizeable performance fees.
  • DFS, the furniture retailer, has been affected by weaker volumes that have declined significantly from pre-Covid levels. Yet it has taken substantial market share since then and a recovery to 2019 volumes would lead to materially higher profits.
  • WH Smith's shares have underperformed over the last 12 months, with its US stores lagging behind expectations. We believe management will be able to improve the business and expect it to continue taking market share as it bids on an active pipeline of new airport opportunities.

On the flip side, we sold out of four positions.

  • 3i's investment portfolio is dominated by European discount retailer Action, which remains in great health. Yet following strong performance in the share price, we now see more upside in other portfolio holdings.
  • Ashtead, the equipment rental company, has grown strongly over the years, but has reduced profit forecasts more recently. When shares continued to rise, we sold out.
  • We exited Burberry after a period of sustained poor trading. A difficult environment for the luxury sector was admittedly unhelpful, but the turnaround being implemented by the new chief executive and chief designer is not generating the expected operating improvement.
  • Genuit's shares hit their price target, so we sold out. Although revenue growth has been affected by weakness in the number of UK new-build housing starts, the introduction of lean manufacturing practices led to strong margin performance.

Engagement

We held meetings with the sustainability teams of several holdings in the quarter, including:

  • Lily Heinemann, Bodycote’s chief sustainability officer. Carbon reduction is the company’s major focus, and it is leading the heat-treatment industry in this regard.
  • Katie Fergusson, group head of sustainability at Anglo American, and Jonathan Dunn, head of climate.
  • Mike Bowers, chief sustainability officer at car distributor Inchcape, to review its first sustainability report. Inchcape is trying to reduce emissions where it can and is seeking to influence partners and consumers globally.
  • Sarah Webster, director of sustainable business at Britvic.

Outlook

A new Labour government with a comfortable majority offers a stable political backdrop for the UK. Economic data for the country is also supportive. Q1 GDP was recently revised upwards and inflation has hit the Bank of England’s 2% target, paving the way for interest rate cuts.

The UK market’s valuation discount is therefore looking anomalous, so we are unsurprised that M&A activity remains high. We see early signs of interest in UK equities, which we expect to increase, and are looking forward to the second half of the year with optimism.

Benchmarks: FTSE All-Share Index TR; A widely-used indicator of the performance of the UK stockmarket, in which the fund invests. IA UK All Companies NR; A group of other asset managers’ funds that invest in similar asset types as this fund, collated by the Investment Association. These act as ’comparator benchmarks’ against which the fund’s performance can be compared. Management of the fund is not restricted by these benchmarks.

Andy Gray

Manages:

‘UK special situations‘ strategy

Andy works alongside Henry Flockhart managing Artemis’ ‘UK special situations’ strategy.

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Henry Flockhart

Manages:

‘UK special situations‘ strategy

Henry works with Andy Gray managing Artemis’ ‘UK special situations’ strategy.

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