Skip to the content

Alex Wright: The cheap UK sectors that really are value pockets

20 April 2016

The FE Alpha Manager, who runs a number of Fidelity portfolios including the flagship Special Situations fund, explains which areas of the UK market are attractive and which areas should be avoided despite cheap valuations.

By Lauren Mason,

Reporter, FE Trustnet

The highly unloved financial and oil & gas sectors are harbouring the best genuine opportunities for investors while other unpopular areas such as mining and supermarkets are cheap but unattractive, according to Fidelity’s Alex Wright (pictured).

The FE Alpha Manager, who heads up the five crown-rated Fidelity Special Situations fund, says a huge divergence between individual stocks in the value space has meant investors have had to tread particularly carefully over recent years.

There have been numerous warnings recently about falling into value traps, with Rathbone’s Julian Chillingworth telling FE Trustnet this morning that piling into low-quality cyclicals is one of the biggest mistakes investors can currently make.

This sentiment was echoed by his colleague FE Alpha Manager David Coombs earlier on in the week, who said that the outperformance of growth versus value stocks still has further to run despite continually strong returns from growth over the last three years.

Performance of indices over 3yrs

 

Source: FE Analytics

Wright agrees that it has been a difficult market for value investors as defensives have powered market performance since he took the helm of Fidelity Special Sits in 2014. However, he says there is very little value in the defensive space given that the stocks are well-owned, well-run and well-liked.

While he says that not owning stocks like British American Tobacco, Imperial Brands and Reckitt Benckiser has been a big headwind for the portfolio, the manager points out that this has been overshadowed by extremely high-performing stocks he holds such as Electronic Arts and Regus.

“The good news is that when you look at the big underperformers against the strong performers at the top, you can see that this value style can produce some very big winners,” he said.

As a result, the fund resides in the top quartile over the manager’s tenure, having almost doubled its sector average’s total return over this time frame.

Performance of fund vs sector and benchmark under Wright

 

Source: FE Analytics


As we head further through 2016, Wright believes there are still numerous value traps in the market but adds that there are still attractive opportunities out there for value investors, so long as they invest in holdings with good downside protection and the potential for positive change.

One area of the market that he believes looks particularly promising at the moment is the banking sector, which has remained largely unloved since the financial crisis of 2008.

“Clearly post-crisis there has been a significant amount of consolidation in the banking space in the UK, a number of aggressive players have been consolidated away and left the market, and balance sheets of banks have shrunk dramatically over the last eight years so there is an awful lot less capital-chasing now,” the manager said.

“Additionally, balance sheets have been significantly repaired and that’s very important to me – I think the downside protection is a lot better than it has been historically, particularly with the likes of Lloyds or Citigroup which are my biggest positions at 5.5 per cent each.”

“Those banks are earning decent returns today, trading on seven to nine times P/E, paying back substantial amounts to shareholders either through buyback as with Citigroup or large dividends in Lloyd’s case.  In fact internally, we think Lloyds can yield in excess of 8 per cent this year which I think is a very attractive prospect. “

Performance of stocks vs index since 2014

 

Source: FE Analytics

Another out-of-favour area of the market that Wright likes is oil, which has of course been hit by oversupply and historically low prices over the last 18 months or so.

The sector accounts for approximately 10 per cent of the Fidelity Special Sits portfolio today, with its largest position in Shell at 6 per cent. 

“What I like about oil is that, despite the price falling dramatically and the profits of the companies really being negatively affected, this is already having an impact on supply levels in the oil space,” he explained.

“If you look at historic supply growth, what’s happening year-on-year is that global supply is falling and that’s because of you’ve seen a massive cut in capex which is already affecting the production level in oil fields.”


“The current surplus situation is already being reduced and we’re starting to see some inventory data suggesting falls now, so I think we’re heading to an era where oil prices are likely to recover.”

At the opposite end of the spectrum though, the manager has actively avoided other areas of the value market such as mining and supermarkets.

While he says that these two sectors have done reasonably well year-to-date after weak performances in 2015, Wright can’t see any catalysts for positive changes in fundamentals over the medium term.

“If you look at the mining sector, you can see we’re in a global surplus for most metals. But actually because of the long lead times within mining, you’re continuing to see more iron ore supply come [onto the market] despite the current demand glut and therefore I think it’s difficult to see even current spot prices being maintained,” he pointed out.

“The oversupply story is getting worse so it’s an area I’m steering clear of – my funds have less than 1 per cent exposure here and that’s mainly in gold mining.”

Performance of index over 1yr

 

Source: FE Analytics

The manager believes there is a similar supply issues occurring across supermarkets, given that more and more convenience shops and discount stores are being built while consumer demand remains steady.

“While there may be relative winners and while you might be able to take short-term market share, I think that’s actually a very difficult trade to play in an industry where the backdrop is poor, margins are low and balance sheets have quite a lot of leverage. That’s a sector I’m continuing to steer clear of,” Wright added.

Fidelity Special Situations has a clean ongoing charges figure of 1.16 per cent.

ALT_TAG

Editor's Picks

Loading...

Videos from BNY Mellon Investment Management

Loading...

Data provided by FE fundinfo. Care has been taken to ensure that the information is correct, but FE fundinfo neither warrants, represents nor guarantees the contents of information, nor does it accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance does not predict future performance, it should not be the main or sole reason for making an investment decision. The value of investments and any income from them can fall as well as rise.