The policy response of western governments to the financial crisis favours the rich, according to Fidelity's Aruna Karunathilake, who says investors should look for companies selling to the global "one per cent". 

Karunathilake, manager of the Fidelity UK Aggressive fund, claims the periodic bouts of quantitative easing indulged in by the US and UK governments produce spikes in equity markets and, as the richer segments of society have far more invested in equities, it is they who are benefitting the most. 

"QE is the most unprogressive policy and it is increasing global inequality. It is no surprise we are seeing protest movements like Occupy," he said. 

Karunathilake points to figures that show the richest one per cent in the US have around 80 per cent of their wealth in equities, while the next 19 per cent have around 40 per cent; for lower segments the proportion drops even further.

"One of the ways I can reflect that in my portfolio is to hold companies selling to that one per cent, such as Burberry, which has posted like-for-like sales growth of 10 per cent for the past three years," he explained. 

Arjen Los, manager of the Dominion Chic fund – which invests in luxury goods companies such as Estee Lauder, Swatch and Remy Cointreau – told FE Trustnet last month that the companies he holds were benefitting from the demand among the growing middle class in emerging markets.

Dominion Chic has made 71.48 per cent over the past three years. 

Performance of fund vs benchmark over 3-yrs

 

Source: FE Analytics 

Karunathilake says that there is also a helpful dynamic in the UK and that his figures for Burberry are for UK and US sales, although there is some double-counting of sales to tourists. 

The manager explains that the uncertainty surrounding political decisions and the macro-economic trends they imply makes investing much more difficult in the current environment.

"The natural order of de-leveraging is towards deflation, but every so often there is a stumble when things get too bad and the authorities respond and we get an inflationary period," he explained. 

"The problem for investors is that the portfolios you need are completely different depending on whether you expect deflation or inflation."

Although a deflationary environment makes bonds attractive and IMA figures show investors are keen to get into fixed interest, Karunathilake warns that the inflation spikes make an equity hedge essential. 

Furthermore, he ultimately thinks inflation will win out over deflation.

"I don’t know what the end-game is, but if I had to guess I would say inflation," he said.

"A central banker told me once that fighting inflation was easy, they knew how to do it, they did it in the 70s and they have textbooks on it, but deflation was the unknown."

"So I think central banks will ultimately settle for inflation." 

An added difficulty for a stock picker such as Karunathilake in a period of extreme uncertainty is determining whether companies are cheap or expensive. 

As price-to-earnings (P/E) ratios are calculated with projections of future sales, an uncertain future makes them a tougher call. 

He commented: "We analyse a number of different scenarios, including worst-case scenarios, and try to make sure that our risk on the down-side isn’t too high. It’s very important to stress-test your P/E numbers."

"If your E goes to zero because the eurozone breaks up then obviously your analysis won’t work."

Fidelity UK Aggressive has beaten both its sector and benchmark since Karunathilake took over in December 2007.

The FTSE All Share has made just 2.96 per cent in this time, while Fidelity UK Aggressive has more than tripled that, returning 9.46 per cent. The IMA UK All Companies sector returned 0.21 per cent.

Performance of fund vs sector and benchmark



Source: FE Analytics 

A fund in the IMA UK All Companies sector can hold 20 per cent outside the UK, and Karunathilake says he is planning a trip to America to look at opportunities there.

"The US I am more positive on because of the shale gas they have found – it’s like digging a hole in the garden and finding a lot of money." 

"My longer term view is that this is a big positive for the US, although on the shorter term they face the same issues as the other OECD economies – how to manage an environment of high debt in both the government and the economy," he finished.