Investors may be focusing too much on currency-related earnings upgrades and not enough on UK domestic stocks with stronger fundamentals, according to Schroder UK Mid Cap (SCP) investment trust managers Andy Brough and Jean Roche.
In the fund's annual report published today, managers Brough and Roche revealed that despite weak share price performances among UK domestic stocks, many are growing earnings rapidly.
Companies held in the Schroder UK Mid Cap portfolio delivered weighted average earnings growth of 26% in the last 12 months, almost double the rate of the index average of around 15%.
Dividend growth was also impressive, the managers add.
'The market has been inclined to reward overseas earners with higher ratings after the referendum, whilst ignoring in some cases stronger fundamentals from domestic-facing companies,' say the fund managers in a commentary.
'We will seek to exploit opportunities presented by this mismatch.'
Portfolio activity following the EU referendum includes new positions in kitchen manufacturer and supplier Howden Joinery (HWDN), sports retailer JD Sports (JD.) and specialist asset manager Intermediate Capital (ICP).
Brough and Roche sold the fund's stake in tech outfit Micro Focus (MCRO) after it was promoted into the FTSE 100 index, which is outside of the fund's mid cap mandate.
Renewed merger and acquisition activity could be another market catalyst in 2017. Despite a flurry of deals in November and December, 2016 is still expected to have been a weaker year for buy-outs than 2015.
MID CAPS V LARGE CAPS
'The FTSE 250 Index continues to deliver dividend growth which is significantly better than that of the FTSE 100 Index,' add the fund managers.
'The latter is distributing circa 70% of its earnings compared with circa 48% for the former. This suggests that the outperformance of the FTSE 250 Index can continue, given the higher level of dividend cover for the FTSE 250 constituents.'
Schroder UK Mid Cap's ownership of domestically-focused stocks was the main drag on its performance over the past year, which saw the fund trail its benchmark by 2.1% in the year to 30 September.
The trust delivered a net asset value return of 6.5% versus an 8.6% return on the FTSE 250 index, excluding investment companies.
Despite positive investment performance, the fund's share price has declined over the last year because of a widening discount to net asset value. Schroder UK Mid Cap's book value is estimated by Morningstar at around 533p a share while the trust's value on the stock market is 437p, a discount of 18%, versus around 9% a year earlier.