Fund managers find opportunities among small-and mid-caps

As clustering among UK equity income funds remains, managers are finding better prospects of dividend and capital growth among small- and mid-caps, according to Standard and Poor's Fund Services in its latest update on the sector.

"There has been an intentional shift away from the market's concentrated income stream among multi national mega-caps. As a result, the average UK equity income portfolio exhibits a clear bias further down the capitalization scale," said Peter Brunt, S&P Fund Services analyst.

Based on Style Research data, the S&P Fund Services' update identified that the top 15 names within the UK equity income sector, ranked by average fund holdings and the percentage of fund ownership, account for 45% of the average equity income fund. However, further down the rankings the level of variation increases dramatically with the remaining 55% of the average equity income fund spread across 600 names. "This variation allows managers to clearly differentiate themselves," said Brunt.

Threadneedle's Leigh Harrison, one of the many managers finding more opportunities among small-and mid-caps, has continued to reduce exposure to FTSE 100 companies, as the team has found more attractive yield and dividend growth prospects lower down the cap scale. He has also reduced financials exposure, largely on yield grounds.

Uncertainty remains among managers on the outlook for the UK economy, with disagreement on what lies ahead for UK companies in 2010 and how this will affect stock valuations. JOHCM's Clive Beagles is one of the more optimistic managers, emphasising the distinction between the immediate prospects for the UK economy and UK plc, given that two thirds of UK listed companies' revenues are generated outside the UK. He believes there are a number of good opportunities in overseas earners, such as Melrose and D S Smith.

In contrast, Tony Nutt of Jupiter's High Income and Income Trust funds and Invesco Perpetual's Neil Woodford remain cautious on prospects for UK plc in 2010. Both predict anaemic growth and have not ruled out the possibility of a double-dip recession, a view reflected in their defensively positioned portfolios.

Among the managers interviewed, none had explicitly positioned their portfolios with the May General Election in mind. "Summing up the general consensus, Beagles felt that current stock market valuations already discounted the electoral uncertainty," said Brunt. "Beagles highlighted that consumer-related stocks were especially depressed and contrary to the negative market sentiment towards the sector, he was finding a number of attractive opportunities there, such as Majestic Wine."