‘Special situations’ is a term that typically describes beaten-down stocks, companies beset by problems but boasting compelling turnaround potential, although this style of investing actually encompasses so much more than recovery bets.

One portfolio badged as such is the popular Fidelity Global Special Situations (B8HT715), a highly-diversified open-ended fund managed by experienced Jeremy Podger and associate portfolio manager Jamie Harvey, which had 104 long positions and 16 short positions at last count.

The fund has notched up impressive five and ten year annualised returns of 14.57% and 11.6% respectively by using a valuation-focused approach to identify companies with significant potential for share price appreciation. This can be because the valuation is too low or because the market fails to recognise the company’s future growth prospects, or both.

The portfolio is divided into three categories of ‘special situations’: corporate change, exceptional value and unique businesses. Corporate change candidates offer the potential for a fundamental shift in value, with catalysts linked to near-term restructuring, merger and acquisitions or spin-off activity.

Exceptional value companies can deliver earnings growth in excess of market expectations, potentially driving a dramatic re-rating, whereas unique businesses are typically firms with a dominant industry position, strong growth, cash flow and pricing power.

GOLD BLEND

As Podger told Shares in a recent Zoom exchange, this stylistic balance aims to ensure that the fund delivers returns for investors even in a low growth environment.

Built from the bottom up, Podger’s portfolio is primarily driven by stock selection. ‘We don’t want style, or sector, or region to dominate the performance. We want the fund to be primarily driven by stock selection, and we achieve that through blending these things.’

‘Since 2012,’ recounts Podger, ‘all three categories have added value compared to the broad benchmark and they’ve done well against value and growth indices as well.

‘In the last two years, value has definitely lagged the benchmark and it is incredibly difficult because of the polarisation of the market to get positive relative performance out of value names.’ Podger has been trying to do just that by being ‘creative about where we look for value’.

Yes, the fund’s stated objective is to invest in undervalued companies with recovery potential that isn’t fully recognised by the market, but it is so much more than a book of turnaround tales, offering investors exposure to everything from mega cap growth to 5G cycle beneficiaries such as semiconductor stocks and post-Covid-19 winners such as cloud businesses and payment service providers.

Top ‘net long’ positions as of 30 September included FAANG names Amazon, Microsoft, Apple and Alphabet, as well as T-Mobile, Japanese electronic components supplier TDK, prized for its profitable battery business and the turnaround potential of its sensors division, not to mention payments play (and Worldpay owner) Fidelity National Information Services.

Over the past year, Podger concedes short positions have detracted a bit of value, ‘but over the last eight years they have been fairly consistent in adding a bit of value’.

DON’T GIVE UP

Given its balanced portfolio, Fidelity Global Special Situations is ‘pretty well-equipped’ for a change in the style leadership
of the markets, if and when that comes.

Podger honestly thinks that ‘many value stocks are so attractively valued that just by staying where they are – buying back stocks, paying dividends, improving margins a bit post–Covid – some of these stocks are going to give you great returns.

‘Now is not the time to give up on value at all, even if you can’t see the normal catalysts which are higher interest rates, higher bond yields, faster underlying economic growth. So many of these stocks are just so cheap that you need to have representation.’

TAKING PROFITS

Fidelity Global Special Situations has taken some profits on more highly-rated stocks such as Apple and Tesla, names that have done well this year.

During lockdown, Podger took advantage of a fall in the share price to buy Amazon ‘at a cheaper price than we could have got it in 2018. On a free cash basis the valuation made a lot of sense. I think it is more challenging now – we have taken a few profits but that stock has done very well for us’.

He worries some of the ‘second-line growth stocks’ are ‘starting to get too expensive’, such as Zoom, a name he doesn’t own. ‘There’s been a lot of money thrown at the market and a lot of it has gone into concept stocks helped by retail participation. In some ways this is a replay of what happened in the tech bubble.’

Podger has to be very careful at this point ‘that we are picking the winners because a lot of these companies have very little earnings. Some of the new software companies are spending a lot on the sales part of their organisation and that keeps them from going into profit’.

He notices ‘a kind of fascination with the new’ in the current market and thinks ‘the option value in a lot of these shares is over-inflated and there will be a lot of disappointment further down the road’.

Fidelity Global Special Situations is active in the IPO market. Coffee maker JDE Peet is among its 2020 purchases, though the valuation-focused fund passed on Snowflake as it was ‘too much for us to back in terms of the price’.

The Fidelity money manager doesn’t like being part of ‘hugely hot IPOs’ because they ‘are going to get to valuations that are completely unjustifiable.

‹ Previous2020-11-05Next ›