“Are we there yet?” How many times have parents heard their children say that in the back of the car on a long journey? In October, the UK population could be heard shouting this out, as Boris Johnson drove the UK car around the EU motorway, looking for the “Brexit”, whilst Jeremy Corbyn sat in the passenger seat holding the handbrake. Against some expectations, the Prime Minister came back with a revised Brexit deal and it became the first EU Withdrawal deal to be voted for by Parliament. However it was immediately suspended as the opposition parties wanted to add amendments that the Conservatives would not accept. At the end of the month, Parliament agreed to hold a general election on December 12th to try to break the Brexit impasse.

Generally, economic conditions in the UK and globally have slowed down in recent weeks due to trade issues and, in the UK, due to Brexit uncertainty. This prompted further central bank policy easing with the US Federal Reserve cutting interest rates at the end of October for the third time this year.

Financial markets reacted first to the reducing probability of a “no-deal” Brexit, as Parliament forced the Prime Minister to seek a Brexit extension, then to the actual passing of a Brexit deal in the House of Commons, making “no-deal” even less likely. The value of the pound rallied and UK gilt yields rose as investors sought out UK assets and perceived a lower risk of a hard landing to the economy. The stock market weakened initially in October, then rallied on improving sentiment. However, the Mid Cap FTSE 250 index, which is more domestically focused, outperformed the broad market ending the month slightly up in total return terms, whilst the FTSE All-share index ended modestly down.

The best performing sectors were mainly domestically focused, including fixed line telecommunications, software, real estate and life insurance, whilst the worst performers were more globally diversified, including healthcare equipment, tobacco, oil & gas producers and beverages.

The Trust’s NAV rose 2.3% against a fall in the benchmark of 1.4% as the portfolio outperformed the market, benefitting from a high exposure to domestic and financial stocks and a low exposure to multinational defensive businesses. There was a large spread between individual share price performances in the market and in Merchants’ portfolio. Several companies produced double digit positive total returns on improving investor sentiment, including GVC, Landsec and Barclays, which made the biggest contributions to the outperformance. There were also a few companies where share prices fell by double digits, with Tyman, Man Group and Stock Spirits all impacting returns.

There was no major change to the structure of the portfolio, but we took money out of shares that had performed well recently and therefore offered less compelling value, and reinvested into companies with more depressed valuations or newer ideas, where we are building up the position size. In particular we took some money out of the real estate companies Landsec and Hammerson, which had rallied by 30-40% since we added to the holdings only back in August. We also sold down more of the Greene King holding after the takeover bid and reduced SSE and GVC. We continued to build up the new holdings in Stock Spirits and DFS and added to Balfour Beatty, Antofagasta and Barclays amongst others. Also, Prudential split into two companies, so the portfolio now holds M&G, representing predominantly the UK businesses, whilst Prudential is now primarily an Asian and North American business.

Whilst geopolitical risks remain elevated with US–Sino trade talks ongoing and the UK facing an imminent general election and potential Brexit, the UK stock market remains attractively valued compared to global peers. Furthermore, listed UK companies earn a very high proportion of earnings overseas, where election and Brexit issues are much less relevant. But investment opportunities in the UK stock market are not evenly spread. As we have discussed before, there is a polarisation between highly rated “quality” and “growth” stocks and lowly rated “value” stocks. The latter tend to be in more cyclical, financial and domestically focused sectors. Whilst the disparity between these two groups has narrowed somewhat from extreme levels reached over the summer, the gap remains very wide. We continue to find many opportunities to buy fundamentally sound businesses trading on attractive valuations and offering above-average dividend yields. By owning a diversified portfolio of these companies, we believe that The Merchants Trust remains well placed to deliver a high and rising income and good total returns over the medium-term horizon.