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Fidelity’s Wright: Buy a tracker and you’ll miss UK value rally

Fidelity fund manager Alex Wright has warned investors they will miss out on the current post-pandemic rally in UK ‘value’ stocks if they buy an index tracker.
After being pummelled during the crash last year, the manager’s £2.7bn Special Situatio…

Fidelity fund manager Alex Wright has warned investors they will miss out on the current post-pandemic rally in UK 'value' stocks if they buy an index tracker. After being pummelled during the crash last year, the manager's GBP2.7bn Special Situations fund and GBP810m Fidelity Special Values (FSV) investment trust have now made back that lost ground.  From the start of 2020 to 30 March this year, FSV's shareholders are now sitting on a flat return.

Owners of the fund are still down 3.6%, although slightly better than the FTSE All Share index's 4.4% decline. Over the past six months, but particularly since November's vaccine breakthroughs, performance has improved markedly. The trust has returned 58.2% - helped by the discount on the shares dissipating - while the fund is up 31.9%, well ahead of the benchmark's 19% rise.  

Wright said he still believes there is a massive opportunity in UK stocks, which are trading at around a 20% discount to European markets, when valuations have historically been in tandem. That is a legacy of a host of headline factors, from the UK's mismanagement of the Covid-19 pandemic to the shadow of Brexit, both of which are now being dispelled. While the entire UK market is widely considered cheap, the Fidelity manager argued the opportunity is acutely concentrated in out-of-favour and higher-yielding 'value' shares.

'Being a value manager has always been a reasonably contrarian position but it's become a very contrarian position. So, if you want to take advantage of value trends in the UK market do not buy a tracker and do not buy the average UK manager,' said Wright. 'Because actually you're going to get a blend or a growth manager and therefore you're not going to take advantage of the huge opportunity you've got in value in the UK market today.'

Wright pointed to research carried out by Fidelity to back that up. According to the group's analysis, only 12% of the assets in the Investment Association UK All Companies sector are in funds categorised as value by the style boxes of data provider Morningstar. As the wider UK market has lagged, value names have underperformed their growth counterparts significantly, by about 22% since mid-2018, according to a comparison of MSCI indices.

It's what you avoid, as well as what you own

Even accounting for the recent bounce in parts of traditional cyclical markets, like banks and energy, that equates to a big catch-up opportunity, which is far from played out in the manager's view.

He called attention to how holdings like Dixons Carphone (DC) and Inchcape (INCH) have hardly rerated in comparison to their peers in the US. Investors should bear in mind that Wright is a prominent and vociferous exponent of the value style. But the recent drivers of performance for his fund lend some support to the view that it's not enough just to buy a UK tracker to enjoy the fruits of the value rally. 

Unusually, the top contributors to the fund's performance in the six months relative to the FTSE All Share have been stocks that he does not own. It has been more important to avoid certain companies' shares that have sold off, such as pharmaceuticals and consumer staples giants AstraZeneca (AZN), GlaxoSmithKline (GSK), Unilever (ULVR) and Reckitt Benckiser (RB).

The fund's top contributors - last six months

Company Relative weight (%) Total contribution (basis points)
AstraZeneca* -5.1 159
Unilever* -3.8 144
GlaxoSmithKline* -3.3 109
Reckitt Benckiser* -2.1 82
Aviva 3.8 76
ArcelorMittal 1.1 74
Mitie 1.3 66
Just Group 0.8 64
AIB Group 1 62
Pearson 2.6 56

Source: Fidelity International (*not owned) 'You haven't wanted to be in the larger parts of the UK market where you see defensive characteristics and high valuations,' said Wright.

Meanwhile, Wright's bet on life insurance has continued to come through. Aviva (AV) and Just Group (JUST) have entered patches of strong performance, following earlier gains for Phoenix Group (PHNX) and Legal & General (LGEN). Latterly, he has also been adding to UK banks, but still prefers higher-yielding insurers.

The fund's biggest detractors - last six months

Company Relative weight (%) Total contribution (basis points)
DCC 2.7 -93
Ultra Electronics 2.2 -88
Royal Dutch Shell* -4.4 -87
Sanofi 2.7 -76
Roche 3.1 -75
Serco 2.9 -71
HSBC* -3.6 -62
Glencore* -1.1 -58
Rio Tinto* -2.7 -57
Anglo American* -1.3 -48

Source: Fidelity International (*not owned) The biggest detractor to the fund's performance relative to the index has been its lack of exposure to mining stocks.

These have performed strongly on expectations of surging demand as economies' recovery and infrastructure spending increases. 'I think while clearly those companies benefit from an economic upturn that you're seeing post the Covid recession, actually they're very much geared into the Chinese economy and I think that recovery has largely played out,' said Wright.   He added that it is more difficult to find value in the sector.

Conversely, Wright thinks the UK's oil giants still look cheap, despite significant rallies as crude prices have recovered to pre-pandemic levels. He held sizeable positions in Shell (RDSB) and BP (BP) at the beginning of last year, but he does not own them today as he struggles to find a 'positive change' story. Wright has raised cyclicality, or exposure to the economic recovery, in the funds over the last nine months. But he said he prefers the prospects for sectors like housebuilders - Vistry (VTY) and Redrow (RDW) were buys last summer - where stronger fundamentals are already coming through.

He favours these over what he describes as more obvious 'reopening plays' like restaurants and airlines, where investors have bet hard on a recovery to pre-pandemic levels. That said, he does hold a 1.5% position in Ryanair (RYA) and roughly 0.5% positions in Wetherspoons (JDW), and Restaurant Group (RTN), which owns Wagamama. The fund is allowed to use some 'gearing', or borrowing, to buy more shares, which enhances returns when stocks rise, but also losses when share prices fall.

That ticked up through last year to 6.4% at the end of February, according to its latest factsheet.

In the trust, a bullish Wright raised gearing to 20% in the autumn - an all-time high during his tenure - but after a strong run that has been reined back in to about 13%.

Over five years, the trust's shareholders are sitting on a 61% total return while the fund's 35% gain is just below a 36% rise in the index.