Thoughts from our portfolio managers on the current market environment
17 March 2020
News of coronavirus (COVID-19) in recent weeks has contributed to increased market volatility. In this piece, our five investment trust portfolio managers explain how they’ve been navigating markets and share their outlook for the coming months.
Nitin Bajaj, Fidelity Asian Values PLC
"This is an unprecedented event for almost all of us and even scientists and epidemiologists are not certain of how things will unfold over the next few months. Over the long-term, I think coronavirus (COVID-19) will be contained - whether through natural causes or a vaccine. Taking the long view, it’s unlikely that there will be a significant impact on how the world functions.
Performance of the portfolio over the last nine months has been subdued and has not kept pace with the market. It is challenging to explain the moves in many of the stocks - both within the Company and in the market in general. There has been a dominance of growth companies, momentum strategies and stocks that fit a particular theme - technology or biotech, for example. At times, the narrative of the stock market has been quite different from the reality of business. Value strategies have struggled in this environment.
What must be emphasized though, is that I continue to have utmost faith in my process. The most time-tested way of investing is to own good businesses, run by competent and honest management teams and to buy them at attractive prices. Avoiding bubbles and unsustainable valuations is key to long-term compounding no matter how painful it is in the short-term. Over time, the quality of businesses and their valuations will matter.
I am happy with the portfolio of businesses we own - both the quality and price at which we own them. On average, we own superior businesses to the market at much more attractive prices."
Dale Nicholls, Fidelity China Special Situations PLC
"New cases of coronavirus (COVID-19) have fallen significantly in China and it’s clear that the Chinese government’s efforts to curtail the outbreak has been succeeding. I would note that there has been a significant short-term impact, in particular, on travel & tourism-related sectors, which will see revenues negatively impacted.
While it is extremely challenging to estimate the specific impact of the outbreak immediately, it is also important to draw attention to the substantial steps Chinese government and policymakers have taken to contain the outbreak as well as provide support to economic activity. As soon as the Chinese markets opened on 3rd February, policymakers infused liquidity and lowered the short-term repo rates.
Since, they have also implemented various other measures such as cutting tax rates and fees to support smaller businesses and asking banks to support troubled companies by lowering interest rates and rolling over loans. I expect further stimulus - both monetary and fiscal - and with lower global interest rates being put in place to support economic growth, China has the capacity to ease further (also worth seeing whether President Xi will keep China’s 2020 growth target in place).
Whilst the short-term impact from the virus is notable, it does not derail the structural shifts underway in the region. I remain cautious, as it is difficult to predict the extent and time this will last for, however if we see signs of the virus being contained then this impact could be short lived as sentiment and demand would improve quickly. This should result in interesting opportunities to purchase structural long-term winners at attractive valuations in sectors like technology, where there are a number of global leaders.
I have been reviewing beneficiaries of potential stimulus and paying attention to companies that I expect to be able to navigate and emerge stronger through this period. I have also been raising exposure to names where more attractive liquidity opportunities have appeared as a result of the markets’ moves. Notably in select consumer staples, discretionary and insurance names. I have also been reducing financials, given that credit cycle dynamics are deteriorating and some industrials exposure, especially where it is more global. The protection strategies (via index puts) are coming into play, which in turn has seen the portfolio’s net exposure fall to below 116.
All up, I invest in companies with good long-term growth prospects that are cash generative and have strong management teams. These include companies that have carved a niche for themselves in the segments they operate in, and often offer an intersection of technological leadership and strong consumption outlook. I also maintain a belief that premiumization in consumption within individual categories will continue."
Sam Morse, Fidelity European Values PLC
"Much remains to be seen regarding the impact of coronavirus (COVID-19); notwithstanding the human cost, there will likely be winners and losers. As always, there are a lot of little devils hiding in the details. The bottom line for me is that I do not try to time markets – I will stay fully invested. I will also stay focused on companies with strong balance sheets. Companies with strong balance sheets can take advantage in difficult times, like this, while companies with weak balance sheets may be in peril.
The cost of trading can also rise dramatically in times of high volatility so my default setting will be to sit on my hands (unless I have a very good reason for doing otherwise). I am investing in businesses that I think are tough long-term franchises and, as the saying goes, when the going gets tough, the tough get going.
As always, investors should pay attention to the companies in which they are invested. As Peter Lynch, the respected American investor, famously said: ‘Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what’s actually happening to the companies in which you’ve invested.’ The Company will, as always, stay fully invested and focus its attention on the prospects for its constituent companies’ dividend growth and will consider to what extent that dividend growth is already discounted in the share price.
Why does the Company stay fully invested? Fidelity has published a lot of research which has shown that trying to call the market is a mug’s game: you may be able to call the top but if you don’t get back in near the bottom you will miss some of the strongest days of return and leave a lot of money on the table. It is also important to note that due to the Company’s investment trust structure and the low gearing, I will not need to liquidate any assets to meet any redemptions or any other liquidity requirements."
Nicholas Price, Fidelity Japan Trust PLC
"I've been reducing at least some of the so-called "consistent growers", where the relative valuations remain elevated and there will be at least two quarters of tough earnings. When total demand goes close to zero, even the market share gainers cannot gain share of zero.
I’m watching balance sheet leverage and covenants for the few leveraged companies in my portfolios. If they can make it through, some high leverage names will likely be rewarded.
At the same time, I'm actively looking for domestic and/or China related companies that are getting closer to Lehman style valuations. It currently seems that Japan and China will get out of this crisis earlier, and with a fiscal boost.
Overall, I am maintaining the technology bias in the Company, focusing on names with strong balance sheets and reasonable valuations. I think that there is a good chance that they will lead us out of this, as their demand is likely delayed rather than foregone.
Turning ultra-defensive when the market has already fallen by c.30% and many stocks have halved, is probably not going to be rewarded on a 12-month view.
Bear markets often create new turning points and market leadership. The likely coming fiscal stimulus may throw up new leadership and new winners from discarded losers, so I am recommending that our analysts revisit the dogs as well as the old long-term winners in their coverage. What if the US and/or China implement another auto scrappage subsidy? After the 2011 Japan earthquake, tolls were cut to zero on the motorways to encourage domestic tourism. Things will change quickly when there is some stimulus at the micro level, as then the market will look through the current negativity in those areas.
Finally - it is out of the ruins of this last bull market from which the seeds of the new one will grow. It’s our job to really get out there and find the new winners when everyone else is standing shell shocked. If we keep on visiting/calling a lot of companies and casting the net wider while the market is busy focusing on the daily infection charts, we will throw up the new winners."
Alex Wright, Fidelity Special Values PLC
"Markets have never been as cheap in my 12-year fund management career as they are now. The current environment is producing the sort of investment opportunities not seen since the financial crisis. While investor sentiment towards UK equities had been improving prior to the sell-off, the asset class remains significantly underweight in investors’ portfolios, and is meaningfully undervalued in a global context.
Looking ahead, we can expect corporate earnings downgrades, reflecting the negative impact of the coronavirus (COVID-19) on company activity and the fall in oil prices on the energy sector. Beyond 2020 though, activity will likely resume, and earnings will recover to normalised levels. What is critical at this time though, is a selective approach, as not all companies are equally good value.
Against this backdrop I have increased gearing from 3% to 12% in the Company, taking advantage of very cheap borrowing costs and a host of attractively valued companies.
One area, however, in which I have decided to close positions is airlines, as I believe the impact on those businesses will be prolonged and extend beyond the current period of constrained aircraft supply caused by the grounding of the Boeing 737 Max passenger airliners.
I am also finding opportunities across a broad range of industries, including defensive businesses such as Roche, Sanofi and Mylan in healthcare, ContourGlobal in utilities and DCC and Serco in non-cyclical support services.
Cyclical stocks I have added to, include life insurers, now a 12% aggregate position in the portfolio, with the likes of Legal & General, Aviva and Phoenix offering high dividend yields and featuring prominently among key positions.
Another anomalous victim of the recent sell-off I should highlight is buildings material business CRH, a very significant position for the Company. The stock is not only a clear beneficiary of the political desire across the political spectrum in the US - its largest market - for more infrastructure spending, but will also benefit from lower oil prices among its largest cost components.
Closer to home, I am finding a lot of opportunities among UK domestic businesses, such as housebuilder McCarthy & Stone, which has a 70% market share in the retirement living sector where demand is growing strongly and remains significantly below countries such as Australia and the US. The underperformance of smaller companies has been especially marked, reflecting a general shying away from lower liquidity stocks recently, and this part of the market has proved especially rich in opportunities."