Company Announcements

HENDERSON INVESTMENT FUNDS LIMITED

HENDERSON DIVERSIFIED INCOME TRUST PLC

LEGAL ENTITY IDENTIFIER: 213800RV2228EO1JEN02

10 December 2019

HENDERSON DIVERSIFIED INCOME TRUST PLC

Unaudited Results for the Half-Year Ended 31 October 2019  

This announcement contains regulated information

INVESTMENT OBJECTIVE AND POLICY           

The Company's investment objective is to seek income and capital growth such that the total return on the net asset value of the Company exceeds the average return on a rolling annual basis of three month sterling Libor + 2%.

The Company aims to deliver this outcome by investing in a diversified portfolio of global fixed and floating rate income asset classes including secured loans, government bonds, high yield (sub-investment grade) corporate bonds, unrated corporate bonds, investment grade corporate bonds and asset backed securities. The Company may also invest in high yielding equities and derivatives.

The Company uses a dynamic approach to portfolio allocation across asset classes and is permitted to invest in a single asset class if required. The Company seeks a sensible spread of risk at all times. It can invest in assets of any size, sector, currency or issued from any country.

PERFORMANCE HIGHLIGHTS FOR THE SIX MONTHS ENDED 31 OCTOBER 2019

¹ Share price total return using mid-market closing price

² Based on dividends paid in respect of the previous 12 months

³ Based on the estimated year end ongoing charge

TOTAL RETURN PERFORMANCE OVER THE TEN YEARS TO 31 OCTOBER 2019⁴

Interim Management Report

CHAIRMAN'S STATEMENT

I am pleased to report that the positive returns experienced in the second half of the last financial year have continued into the first half of this financial year.  The long and deeply held conviction of the Managers that interest rates were unlikely to rise significantly meant the portfolio was well positioned to benefit from this market environment.

Performance

The net asset value total return to shareholders during the six months to 31 October 2019 was 6.3%.  The shareholder total return was (3.0%), reflecting a decline in the share price relative to net asset value.   The discount that the Company's shares traded to net asset value at the period end was (3.4%)an unusually wide discount for this trust.

As a consequence of the Manager's views on the macro economic environment, a proportion of the portfolio had been invested in investment grade bonds with longer maturities.  As the market began to converge around a view of lower interest rates, these higher duration bonds delivered particularly good capital gains.

The bulk of the portfolio is invested in American companies, predominantly denominated in US Dollars but hedged back into Sterling.   This reflects the Managers' view that when seeking high quality liquid investments, there are better value opportunities in the US market than in Europe or the UK. The breakdown of performance was capital appreciation of 3.7% and attributable income of 2.6%, after expenses. 

Dividends and dividend policy

A first interim dividend of 1.10p per ordinary share was paid to shareholders on 30 September 2019.  The Board has declared a second interim dividend of 1.10p per ordinary share to be paid on 31 December 2019.   The aggregate of these distributions is slightly in excess of earnings during the first half but is comfortably covered by revenue reserves previously generated.  

While it is generally the policy of the Board to distribute dividends from revenue only, the Board is willing to use revenue reserves to cover temporary shortfalls caused by seasonal factors or where the Managers choose to reduce exposure in particularly volatile markets to preserve capital.

These dividends have been paid as interest distributions for UK tax purposes.   More information about interest distributions can be found on the company's website: www.hendersondiversifiedincome.com

Outlook

In last year's interim report, I advised you that the Board had agreed with the Manager that for the second half of the last financial year dividends could, if necessary, be funded from reserves to allow the repositioning of the portfolio into safer assets to avoid risk to capital in volatile markets.  As it transpired, the full year dividend for the last financial year was covered by revenue so this was unnecessary.

As risk assets appreciate in value, yields fall.  Consequently, maturing assets are being reinvested increasingly in assets with lower income levels.   The Board are conscious that the dividend is important to shareholders and we are resolved, other than in exceptional circumstances, to at least maintain the dividend.   In line with the policy described above, we are generally happy to distribute accumulated revenue reserves to cover revenue shortfalls, provided we see this as a temporary measure.

The maintenance of the dividend is our central assumption. However, we would caution that should yields in the medium term fall further, the manager may be faced with the stark choice of increasing risk or reducing income.  In such circumstances the Board would not rule out a cut to the dividend in order to avoid excessive risk to capital.

Angus Macpherson

Chairman

10 December 2019

FUND MANAGERS' REPORT

Macro backdrop

Over the period under review, the Company produced an encouraging net asset total return of 6.3% which is ahead of the benchmark.  This was achieved by an appreciation of capital value of 3.7% with 2.6% attributable to income. The share price total return was (3.0%) reflecting the move from the shares trading at a significant premium at the start of the period to a very small discount at the end of the period.

The "slowdilocks" economy, meaning slow growth, low inflation, muted volatility, and low default rates, that we have described for years broadly played out.  The significant pivot in rhetoric around interest rates by the Fed (Federal Reserve) in the late Spring set the scene for favourable returns to be achieved from bond investing.  We documented this "point of realisation" on our twitter account in late March - that US rates had peaked at 2.4% this cycle versus 5.25% the prior cycle; that QE (Quantitative Easing) cannot be reversed; and, if the "stellar" US economy even with a late cycle fiscal boost, cannot normalise interest rate policy, then no other Central Bank can! There was some growing acceptance that the Fed may have over tightened interest rates on the false pretence that growth and inflation were going to break out from their malaise.  A somewhat classic case of confusing a cyclical impulse against the long-term secular forces and a misreading of economic signals within a very orthodox economic framework, which is arguably no longer fit for purpose. The Fed has grudgingly conceded that the absence of inflation was more than a transitory phenomenon and was more structural in nature.   Fed acceptance of this gave many Central Banks in both the developed and emerging markets "cloud" cover to follow suit, most notably Europe, Canada and Australia.  Somewhat ironically, the Bank of England was last to fold! 

The debate then shifted to whether the Fed could engineer the elusive soft landing.  These are of course hard to achieve, given the well documented lags in monetary policy, amongst many other factors.  The Fed did manage to cut interest rates 3 times over the period, which is an extraordinary turn of events, as many leading investment banks had pencilled in many hikes for this year.  Many learned commentators rapidly cut their forecasts, conveniently blaming the trade wars.   We would suggest the slowdown was due to the unnecessary last rate hike.   Economic data certainly deteriorated due to the trade war.  The bond market took fright given the lack of global activity and we experienced another deflation scare culminating with the US treasury yield plummeting close to record lows of 1.43% in early September.  The "Japanification" of the western world, a theme we have discussed since 2013 now became the consensus view.  Slowdilocks was heading to stall speed. 

In the Summer European Central Bank (ECB) conference in Sintra (Portugal), President Draghi came to the rescue, hinting that there was more life in monetary policy and "QE had considerable headroom".  He subsequently followed through later in the summer, with a new QE programme and an interest rate cut.  Philip Lane, the new ECB Chief Economist also discussed a very dovish approach going forward.  Towards the end of the period under review, President Draghi retired from his eight-year term of office.  He highlighted the need for fiscal policy to work with monetary policy, along, of course, with structural reforms.  We agree fiscal policy should have a much greater role in economic management but believe it is unlikely to achieve the levels of growth and inflation of prior decades.  The Bank of England also accepted not all was well with the UK economy with Mark Carney's "sea change" speech in early July.

Bond yields rose from the September lows as it appeared the bond community may have become overly bearish. Economic data started to become "less worse", Brexit was postponed, and some progress was made on the trade wars.  There was a partial "reflation" rotation in the equity markets away from expensive growth stocks towards deeply unloved, cheap and cyclical stocks.  Cyclical reflation trades come and go - the duration and strength of this one is open to debate as is the endless debate on whether we are mid or late cycle and whether to expect a hard or soft landing, and where?

Asset allocation

We continue to run a barbell of reasonable quality long duration investment grade bonds with a shorter dated high yield bucket.  We have nothing particularly against high yield bonds apart from the fact that they have quite short maturities.  The problem with just being invested in high yield bonds is that these companies are constantly re-financing existing bonds with lower coupons.  In contrast, we can achieve reasonable yields by investing further along the investment grade maturity spectrum, thereby locking in yields for much longer although these bonds are more volatile to changing interest rates.  Given the significant shift downwards in bond yields, very good capital gains were made from these investment grade bonds, whereas reasonable capital was made in high yield.  The bulk of the assets remain in American companies, predominantly denominated in dollars but hedged back into sterling on purchase.  We find there are more, better quality, liquid opportunities available in the American bond markets, than the UK or Europe.  Their yields are also higher than the European markets.

We increased our allocation to investment grade bonds and to a lesser extent to high yields bonds during the period.  We continue to be wary of secured loans for a number of reasons.  Firstly, given the modest peak in the interest rate cycle loans are less appealing.  Secondly, we feel much of the late cycle, marginal leveraged finance supply has been taken down by the loan community, outcompeting the high yield investors.  Finally, some cracks are appearing in the junior tranches of the CLO (Collateralized Loan Obligation) market, which are structured and levered plays on secured loans.  Dispersion in credit risk is increasingly in loans and high yield in both Europe and America - we remain very choosey about which new credits enter the portfolio.

Gearing

Gearing generally rose during the period as we became more confident in some recovery as the Fed continued to lower rates from an overly restrictive starting point.  Further, we added extra interest rate sensitivity by using interest rate futures - this is fairly unusual but worked very well in unusual times.  We successfully used these instruments in the prior period as well.

Activity

We continue to invest very selectively.  Notable additions include Ardagh Packaging,  Trivium Packaging, Co - Op Group,  Sinclair Broadcast, Sirius Radio, Live Nation and Merlin Entertainment.  Notable sells include Lionsgate Entertainment, on tough renewal re-negotiations and Iron Mountain on fading growth prospects.  On the more positive side, Entertainment One, owner of Peppa Pig rights, was bid for by Hasbro Toys.  Tesco also tendered yet again for some of its bonds at a healthy premium.  We have successfully avoided all the fairly obvious issues in energy, retail, restaurants and most recently travel operators.

Outlook

We often look across capital markets to get corroborative or contradictory data to our bond views.  It appears the optimistic equity market is looking for a mid-cycle, soft landing, whereas the pessimistic bond market is expecting a late cycle, harder landing.  We could easily construct arguments to back either view.  We remain open minded for now.  We shall continue our fairly conservative strategy of sensible income - investing in predominately large cap, non-cyclical quality investment grade and high yield companies to generate a reliable and dependable quarterly income stream without capital destruction throughout the economic cycle.

John Pattullo & Jenna Barnard

Fund Managers

10 December 2019

PRINCIPAL RISKS AND UNCERTAINTIES

The principal risks and uncertainties associated with the Company's business can be divided into the following main areas:

·      General market risks associated with the Company's investments, including interest rate, credit and currency risks

·      Operational risks, including:

o  Continued interest of the Fund Managers and Investment Manager.

o  Effective operation of systems of internal control and management reporting.

o  Credit standing and quality of service of the Depositary.

o  Reliance on service providers. 

Information on these risks and how they are managed is given in the Company's Annual Report for the year-ended 30 April 2019.

In the view of the Board these principal risks and uncertainties were unchanged over the last six months and are as applicable to the remaining six months of the financial year as they were to the six months under review.

STATEMENT OF DIRECTORS' RESPONSIBILITIES

Each of the directors confirm that, to the best of their knowledge:

(a)        the condensed set of financial statements has been prepared in accordance with FRS 104 "Interim Financial Reporting" issued by the Financial Reporting Council;

(b)        this report includes a fair review of the information required by Disclosure Guidance and Transparency Rule 4.2.7R (indication of important events during the first six months and description of principal risks and uncertainties for the remaining six months of the year); and

(c)        this report includes a fair review of the information required by Disclosure Guidance and Transparency Rule 4.2.8R (disclosure of related party transactions and changes therein).

For and on behalf of the Board

Angus Macpherson

Chairman

10 December 2019

SUMMARY OF PORTFOLIO AS AT 31 OCTOBER 2019¹ 

CURRENCY DENOMINATION OF PORTFOLIO AS AT 31 OCTOBER 2019^{1, 2}

¹ Excluding credit default swaps

² The Company hedges its foreign currency exposure back to sterling.  There was therefore no material currency exposure at 31 October 2019 (2018: same)

TWENTY LARGEST INVESTMENTS AS AT 31 OCTOBER 2019

These investments total £84,015,000 or 42.13% of the portfolio.

CONDENSED STATEMENT OF COMPREHENSIVE INCOME

¹ Please see note 1 'Accounting policies - basis of accounting'

The total columns of this statement represent the Statement of Comprehensive Income of the Company, prepared in accordance with IFRS as adopted by the European Union. The revenue return and capital columns are supplementary to this and are published under guidance from the Association of Investment Companies. The Company had no other comprehensive income. The profit/(loss) for the period is also the total comprehensive income for the year.

All items in the above statement derive from continuing operations. No operations were acquired or discontinued during the period.

The accompanying notes are an integral part of the condensed financial statements.

CONDENSED STATEMENT OF CHANGES IN EQUITY

The accompanying notes are an integral part of the condensed financial statements.

CONDENSED STATEMENT OF FINANCIAL POSITION

  The accompanying notes are an integral part of the condensed financial statements.

CONDENSED CASH FLOW STATEMENT

¹ Please see note 1 'Accounting policies - basis of accounting'

The accompanying notes are an integral part of the condensed financial statements.