February was a busy month for corporate reporting. Although some companies reported difficult trading conditions, affected by supply chain disruptions from the coronavirus Covid-19 in Asia, the stock market was steady for the first three weeks. However, markets then fell sharply in the last week, as Italy reported numerous cases of the disease and investors feared that it would become impossible to contain. Over the month the UK stock market fell by nearly 9%, in total return terms. Concern that economic growth would be impacted, led to bond yields falling sharply, with the 10 year gilt yield around 0.44% at the month end.

The worst performing sectors of the market included travel & leisure, as airlines, cruise companies and hotels were impacted by fears over travel. The commodity sectors, oil & gas and mining, were also very weak as commodity prices pulled back. The strongest performing sectors included utilities and healthcare equipment and services, which are more defensive areas.

The portfolio underperformed the market in February after very strong performance in the preceding months. The Trust’s NAV fell by 13.1% in February, ending the month behind the -8.9% return of the market. The biggest detractors from performance included Imperial Brands and WPP which both had disappointing trading statements, whilst Keller underperformed despite little news, and HSBC (not owned) outperformed the falling market. On the positive side, utilities SSE and Pennon performed well, IG Group benefitted from increased market volatility and BAE Systems reported strong results.

There were no significant changes to the investment portfolio structure in February. However, we took advantage of share price movements to add to companies that had underperformed and offered better value, such as Royal Dutch Shell, Landsec, National Express and Imperial Brands. This was funded largely by profit taking in shares that had performed well and were closer to fair value, such as Pennon, GSK and Sirius Real Estate.

With the sharp pull back in the market, many companies’ shares are now offering very good value again. Clearly, there is an increased risk of economic disruption from Covid-19, and trying to ascribe a probability to different scenarios is fraught with difficulty. With that in mind, we continue to hold a diversified portfolio of companies with diverse end markets, geographic exposures and economic sensitivities. Some of these are more vulnerable to economic shocks than others, which are relatively defensive. But we are confident that these businesses offer good value, and on a medium to long term view, they should provide income, dividend growth and total returns commensurate with Merchants’ objectives.