Managers of these funds typically target out-of-favour companies that they believe will see a reversal in fortune, based on their appreciation of the macro environment or more specific factors that influence individual companies. For example, if there is a change in management for the better, or competition suddenly diminishes.
The likes of Fidelity Special Situations, M&G Recovery and Jupiter UK Special Situations are all popular funds in this area, with combined assets under management of more than £11bn.
However, there is a rising star in the UK special situations category, which until recently has been largely ignored by the private investor and adviser market.
FE Alpha Manager Alex Savvides’ (pictured) JOHCM UK Dynamic fund is very different from the run-of-the-mill special situations or recovery funds in that it only targets companies that pay a yield, or that are predicted to pay a yield in the next financial year.
This, the manager explains, gives his portfolio a quality overlay to lower the risk of being drawn into value traps.
"I built the process from scratch," said Savvides. "I used my experience as a stockbroker, and drew on the ideals of the great investors out there like Anthony Bolton, Bill Miller and Warren Buffett."
"I’m of the belief that companies are dynamic. They change and evolve over time, which the market is often very slow to react to. Many analysts are very backward-looking and wait for too much evidence before changing their mind on a company."
"For this reason, we focus on stocks that have underperformed for different reasons, but which we believe are about to change."
"The portfolio is a mixture of recovery and special situations stocks, but I won’t hold anything that doesn’t pay a yield, unless it is forecast to pay one the year after."
"Dividends are essentially a proxy for cash-flow. By looking at companies that can generate enough cash to either reinvest or pay out a dividend, we avoid those that are structurally challenged."
"The biggest mistakes I’ve made are usually when looking at smallish companies that aren’t particularly established and which have weaker balance sheets."
Savvides also limits himself a certain degree of exposure to any one sector, which he says gives the portfolio another layer of protection.
FE data shows that this process has worked very well so far. The fund is up 75.2 per cent since its launch in June 2008, more than doubling the returns of both its IMA UK All Companies sector average and FTSE All Share benchmark.
Performance of fund vs sector and index since launch
Source: FE Analytics
JOHCM UK Dynamic is also a top-quartile performer in its sector over one and three years.
Savvides’ performance holds up very well against his biggest rivals, with only the Schroder Recovery fund beating it since June 2008. However the JOHCM fund has been significantly less volatile over the period.
Performance of funds since June 2008
| Name | Return (%) |
|---|---|
| Schroder Recovery | 85.12 |
| JOHCM UK Dynamic | 75.2 |
| Investec UK Special Situations | 71.45 |
| BlackRock UK Special Situations | 51.5 |
| Fidelity Special Situations | 47.21 |
| Artemis UK Special Situations | 44.1 |
| M&G Recovery | 31.49 |
| BlackRock UK Dynamic | -0.31 |
Source: FE Analytics
The JOHCM fund has the best record over three years, and comes in third over one.
It stands out from the rest from an income perspective as well. According to FE Analytics, JOHCM UK Dynamic is currently yielding 2.9 per cent – significantly more than all the other funds on the list.
Savvides says the fund is not a pure recovery play, because it also looks to tap into "hidden growth", which he gets from small and mid caps. These companies make up around 35 per cent of the portfolio.
He says the best opportunities in "recovery" and "restructuring" often occur when there is a change in management. He points to 3i Group as a good example, which welcomed new chief executive Simon Borrows in 2011.
"It doesn’t have to be a change in management though – sometimes the recognition to change can come internally," the manager added.
When asked why the fund is not called JOHCM UK Special Situations or JOHCM Recovery, Savvides replied: "It’s not a recovery fund because we don’t only look at things that are underperforming."
"We did toy with the idea of ‘special situations’, but there were a lot of products out there with that name already. To be honest, I would have backed myself against these names, but we went along the road of ‘dynamic’ instead," he added.
The fund’s assets under management (AUM) currently stand at just £40m, but Savvides says he expects flows to increase in momentum once it gets a five-year track record under its belt.
"Because it was my first fund as lead manager, JOHCM didn’t market the fund right away," he explained. "In 2011, we lost some seed capital from one major buyer, which sent the fund from £20m to £7m overnight This effectively put us back a year."
"We then had to go out and market the fund to fee-paying clients and we’ve benefited from the results. These are clients that will grow with the fund."
"A year ago the AUM stood at £12m, and it’s now shot up to £40m, after being at only £20m at the beginning of the year."
"We’ve got four UK equity funds, two of which are near capacity. The five-year numbers for this fund should be very strong, and the feedback we’re getting suggests people like its good blend of sectors, as well as its risk discipline."
JOHCM UK Dynamic requires a minimum investment of £1,000 and has an ongoing charges fee (OCF) of 1.5 per cent.
It also carries an annual performance fee of 15 per cent on anything returned in excess of its FTSE All Share benchmark. All underperformance is carried forward.