Artemis UK Special Situations Fund update

Source for all information: Artemis as at 31 December 2024, unless otherwise stated.

The fund’s objective is to grow capital over a five-year period. The fund rose by 1.7% during the quarter, compared with losses of 0.4% from its first benchmark, the FTSE All-Share index¹, and 1.3% from its second benchmark, the Investment Association UK All Companies sector² average.

For full five-year annualised performance, please see below. Please remember that past performance is not a guide to the future.

The long-awaited UK Budget and US presidential election influenced stockmarkets in the final quarter, with contrasting impacts on sentiment. The Budget was mostly a case of 'risks avoided' for the fund, with many of the speculated measures – such as additional bank taxes – failing to materialise. That said, hopes have been dashed that the Budget would act as a ‘clearing event’ for sentiment towards UK shares, due to concerns over the risk of rising unemployment and the inflationary impact of national insurance increases. The contrast is stark with the US, where the election victory for Donald Trump has re-kindled animal spirits, overcoming – for now – any concerns over tariffs (a tax on imports) or the budget deficit (the difference between a government's current revenues and spending).

Positives

Our bank holdings – Barclays, Standard Chartered and NatWest – performed well and aided the fund’s performance. Third-quarter results confirmed the progress being made by all three.

Half-year results from low-cost airline Jet2 were significantly ahead of expectations, with strong customer demand. It expects to run more flights over summer and, with pricing stable, we expect 2025 to be another year of growth for the business.

Tobacconist Imperial Brands released full-year results that were ahead of expectations. Sales of reduced-harm products (such as vapes) were surprisingly strong, leading investors to revise their views on the company’s long-term profits.

We have for some time felt the strong balance sheet of transport operator FirstGroup gave it options and we were pleased to see it put this to good use with its purchase of London bus business RATP London. The deal goes some way to filling any revenues lost from rail contracts which are set to be nationalised over the coming years.

Negatives

Detractors from the fund’s performance over the quarter were dominated by holdings affected by changes to national insurance and the minimum wage announced in the Budget. The impact on profits will be most keenly felt by businesses with high numbers of lower-salaried employees, in sectors such as retail and hospitality. It will be least manageable for smaller or less profitable operators.

In contrast, we own leaders in these markets that have demonstrated an ability to handle such pressures. Our holdings have shown good progress in managing margins during the higher inflationary period of the past couple of years and we expect them to navigate this latest challenge just as successfully.

Activity

We have regularly discussed housebuilders for the last 18 months or so, but until now, valuations have put us off. However, weakness across the sector has resulted in what we see as an attractive entry point and in October we bought into Barratt Redrow, the UK's largest housebuilder. Barratt has taken over many of its peers in the sector and the recent acquisition of Redrow strengthens its leadership.

The UK housing market has been subdued during the recent period of higher interest rates, but is showing signs of a pick-up. A recovery is required to get anywhere near the government’s new homebuilding target, hence the recent change in planning regulations.

Lloyds Banking Group has long been seen as the 'high-quality' UK bank, yet the recent car-loan commission review, where it has more significant exposure than peers, has pushed down the share price. We see any potential charge as manageable as Lloyds has plenty of spare cash available. The bank benefits from many of the same growth dynamics that NatWest is set to enjoy, with the added potential from its young wealth management business. We initiated a position using the proceeds from a reduction in NatWest shares.

Insurer Direct Line was the subject of two takeover bids last year. The most recent was by Aviva at 275p, in a mix of cash and shares. We like the deal. The new management at Direct Line was already in the process of an overhaul of the business, which can now be accelerated under Aviva’s ownership where systems and processes are already in place. Aviva is effectively buying two well-established consumer brands (Direct Line and Churchill) and the Green Flag rescue business. The cost savings will be significant. We started a position in Direct Line when the initial approach was announced, before adding a holding in Aviva when the higher offer of 275p was agreed and the likelihood of the deal increased.

Outlook

Optimism is not in abundance in the UK stockmarket. Low forecast economic growth, persistent inflation – leading to stubbornly high interest rates – and the lack of a catalyst to push the low valuations of UK shares up towards the global average all represent challenges.

The fund performed well in 2024, despite the lack of interest in the UK stockmarket and we see no reason why we couldn’t aim to deliver again in 2025. The low valuation of high-quality UK shares is an opportunity we plan to take advantage of.

We continue to invest with a contrarian mindset. Despite its outperformance, the valuations of the fund’s holdings are almost as cheap as they were a year ago. Profits have grown, companies are recovering and we continue to manage the portfolio with an eye on value. These factors give us confidence in the potential for further strong returns in the year ahead.