Investing in the Merchants Trust can add some Footsie firepower to your portfolio

This week, Chancellor Rachel Reeves changed her position on the economy. Having previously adopted a view fraught with doom, she now claims that “the best days lie ahead.” It’s a significant shift that retail investors can’t ignore.

Reeves seems to have realized, belatedly, that despite the challenges, Britain has a growing fan base.

Major US banks are increasingly interested in the UK stock markets and are seeing this as a time to acquire unloved shares, believing they are about to rise.

A year ago, the main motivation for buying British shares was the hope that the companies involved would succumb to foreign takeovers.

Such merger activity has increased. No fewer than twenty bids have been made for FTSE 350 companies this year.

Yet the belief is that more companies can evade such attempts and grow to reach their full potential, making them too expensive for predators. Dzmitry Lipski, fund guru at the Interactive Investor platform, sums up the mood, saying: “This time it’s different.”

Paradoxically, the new, more optimistic climate is partly caused by the arrival of a new government that will likely be in power for five years.

As a result, Britain is considered more stable than France, Germany or the US. The belief that Britain offers better prospects than other G7 countries is supported by the Organization for Economic Co-operation and Development (OECD), which this week upgraded Britain’s annual growth rate from 0.7 percent to 1.1 percent . The body also increased its forecast for 2025.

Alexandra Jackson of the Rathbone UK Opportunities fund said: ‘The UK is no longer an economic outlier. GDP is recovering. Inflation is close to target – and sterling is surging.

‘But share valuations still suggest that UK shares are still undervalued. The UK market trades on a price-to-earnings ratio – a closely watched indication of value – of 11.5 times, compared to 18.7 times for the MSCI World index. The US ranks even higher.”

Fears that Reeves’ first budget on October 30 will be packed with tough measures are leaving some investors sitting on their hands.

But it’s worth exploring the possibilities, especially an investment fund that plans to make the most of current conditions. Simon Gergel, manager of Merchants, a British business trust founded in 1889, believes we may be ‘on the cusp of something special’.

Richard Knight, the trust’s deputy chief executive, added: ‘We are keen to capitalize on a moment of disruption.

‘The UK stock markets are surrounded by a cloud of negative sentiment.

‘But not only are they diverse, they are also undervalued and are therefore a wonderful place to get brilliant ideas at the moment.’

The trust owns approximately 50 shares. Most are FTSE 100 names, such as BP, Lloyds and Shell.

But it is also investing in housebuilders like Barratt, who will benefit from Reeves’ pledge to deliver 1.5 million homes over the next five years.

The portfolio also includes FTSE 250 index companies such as IG Group, the spread-betting platform.

The members of the FTSE 250 tend to be more domestically focused, but Keller, the geotechnical contractor, operates largely in the US on projects such as the construction of a stadium for the US football team Dallas Cowboys.

Keller’s shares have doubled in the past twelve months.

Merchants’ mission is to provide growth, but also income. It has been paying dividends consistently for more than forty years, but companies aren’t bought just because they offer good returns. Gergel says: ‘The main reason to buy a stock is that we think we can make money from it.’

In this quest, Gergel, Knight and the team look for long-term themes, such as demographic change and decarbonization and the transition away from fossil fuels.

Based on this, it may seem strange that BP and Shell are among the top positions, but Knight defends the decision.

“The country will need oil and gas for a long time, and getting it locally is both cheaper and greener. Both companies also have great transition plans.” he says.

As decarbonisation drives demand for copper, an essential element in wind turbines, Merchants has a stake in the Atalaya Group, which mines it in Spain.

Some investors may shrug their shoulders when it comes to oil and gas. Others will object to Merchants’ interest in British American Tobacco (BAT).

Gergel acknowledges that this stake allows the trust to offer a dividend yield of 4.8 percent.

But he adds that he and his fellow managers are seriously considering the social problems of investing in tobacco, which puts pressure on growers to change labor practices on farms. He points out that BAT has a ‘next-generation’ product range with less harmful products.

‘Oversold’ out-of-favor stocks feature in the portfolio, with Burberry being a recent purchase.

Shares of the British fashion house, founded in 1856, have just had their best week since 2009, after falling 50 percent in the past six months.

This happened against the backdrop of a consumer slowdown in China and the lack of appeal of the current collection in almost all regions.

Knight notes, “This is a brand with heritage, thanks to the classic trench coats and check pattern.”

The Merchants team believes Burberry can achieve renewed success under new CEO Joshua Schulman and chairman Gerry Murphy.

Gergel says: ‘We think it is a classic turnaround situation.’

Over the past three years, Merchants has returned 32 cents, compared to the 19 percent average for its sector.

Shares in the trust have a negligible discount – 0.7 percent – ​​to the trust’s net asset value

With other trusts receiving double-digit discounts, this underlines Merchants’ appeal to those looking for a better future for UK plc.

OTHER UK PLC OPTIONS

The revaluation of the British stock markets is a signal to take a critical look at your entire portfolio. It’s easy to assume that you have a well-diversified spread of investments, when in fact you are overly sensitive to US tech giants, which make up a large percentage of many popular funds and trusts. F&C is a popular trust, but US tech titans – Apple, Amazon and the rest – dominate the portfolio.

When building a UK portfolio it also makes sense to check that you are achieving balance.

Interactive Investor’s top picks include City of London, a conservatively managed trust that backs big FTSE 100 names such as BAE, BAT, NatWest and HSBC.

Interactive Investor’s Lipski also cites Artemis Income Fund, which also invests in FTSE 100 names such as Relx and Tesco, and JP Morgan UK Equity Core Fund, whose biggest holdings include AstraZeneca, Shell and HSBC. FundCalibre prefers Murray Income, another trust investing in the stalwart FTSE 100 – and one of my bets on the UK markets revival.

If you are interested in the revival of smaller companies, you may prefer Oydssean Trust, whose managers use ‘constructive engagement’ to encourage companies to improve their performance.