Performance, Commentary & Portfolio

Fund Manager’s Review

The war in Iran progressed through its second month, with a fragile ceasefire enacted in the region. However, hopes were dashed for a reopening of the Strait of Hormuz, where 20% of the world’s oil and other key commodities flow through. Both Iran and the USA were restricting traffic through the narrow waterway. The longer this continues, the greater the strain will be, not just on global energy markets, but also on food production, due to disrupted fertiliser shipments, as well as industries dependent on plastics, helium and other products.

This disruption to the energy markets sustained oil & gas at high prices, with reports of substantial premiums being paid for physical delivery. The inflationary impact of higher energy prices kept bond yields elevated globally. In the UK, 10-year gilt yields rose to over 5%, partly due to increased political risk, as prime minister Sir Keir Starmer came under mounting pressure over the Peter Mandelson situation. At the end of the month, the Bank of England Monetary Policy Committee voted 8-1 to leave interest rates on hold, balancing higher inflationary pressures against signs of a weakening economy and softer employment market.

Despite the high energy prices, equity markets took some comfort from the fragile ceasefire in Iran, and also from strong earnings reports from US technology companies in particular. The broad US stock market rallied by 10%, with the S&P Index hitting a new all-time high, whilst the technology rich Nasdaq Composite was up 15%. European shares also posted solid gains, though not to the same level.

The UK stock market was a relative laggard, but still produced a total return of nearly 3%, with medium sized and smaller companies outperforming, in contrast to recent months. Sector returns were once again polarised, with banks and financial services up 11% and 9% respectively, as the benefits of higher bond yields were seen as outweighing the risks from potential increases in bad debts, due to weaker growth. The software sector also rallied, recovering some of its earlier weakness over fears of AI disruption. At the other end, the oil & gas and pharmaceutical sectors both fell 5-6%.

Portfolio performance was ahead of the market, though volatile on a day to day basis. Merchants’ Net Asset Value (NAV) total return was 4.03% compared to 2.77% from the benchmark, FTSE All-Share index. The positioning in medium sized companies was helpful, but there were also a few stock specific factors. DCC one of largest holdings, rose nearly 20% from a low level, with the board receiving and rejecting a takeover approach from a private equity backed bidder. Shares in XP Power, the manufacturer of power supplies, rose by over 40%, as it reported strong order intake, especially in the semiconductor manufacturing equipment market. Lloyds Bank also rallied in a strong sector. Elsewhere, not owning AstraZeneca and having an underweight position in Shell helped relative performance as those stocks underperformed. On the flipside, pharma company GSK and health & hygiene company Reckitt underperformed, whilst not owning HSBC and Standard Chartered held back relative returns as both those banks rose.

We made a new investment in Chesnara plc. This business has acquired legacy books of life insurance and pensions policies from companies like HSBC, Countrywide and Canada Life, in the UK, Netherlands and Sweden. Chesnara drives efficiency gains from consolidating these activities and greater management focus, to enhance cash generation. The business has an excellent 21-year record of dividend growth, and a dividend yield of over 7%. We see scope for the company to continue acquiring additional books of policies, as banks and insurers offload non-core activities.

We also added to the positions in Reckitt, Pets-at-Home and Whitbread, amongst others, as share price weakness has lowered their valuations. Purchases were funded by reducing Unilever, after it announced the sale of its food business. Although the sale price looks high, the deal is complex and will take a long time to complete. We also reduced Legal & General, BP and Conduit.

The economic outlook is unclear, with events in the Middle East influencing energy prices, inflation, bond yields and ultimately economic growth. There is also political pressure on the Labour government, with local and regional elections in May. Whilst these events are somewhat unpredictable, we have seen many periods of uncertainty in the recent years, including the Great Financial Crisis, the Covid-19 pandemic and the Brexit referendum.

Through these periods, we have remained focused on identifying strong businesses to buy, when they are trading at modest valuations, and where there is potential for significant capital appreciation in the medium term, as well as paying an above average dividend yield. At present there is particular value in medium sized UK companies which, unusually, are trading at a discount to large cap stocks, as well as their own history. The portfolio has a large exposure to this part of the market, but is also broadly diversified across different industries and geographic end markets, to provide some resilience to changing circumstances. The recent bid approach for DCC, is a reminder that despite short-term macroeconomic risks, there are trade and other buyers looking to acquire strong businesses when they are trading below their intrinsic value. We remain excited about the future potential of the portfolio.

Simon Gergel
11 May 2026

This is no recommendation or solicitation to buy or sell any particular security. Any security mentioned above will not necessarily be comprised in the portfolio by the time this document is disclosed or at any other subsequent date.

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