Positive signs show market ‘fire’

Forget the doom and gloom of the bear market: there’s money to be made again and the market’s on fire. That’s the unfashionably upbeat outlook from Stuart Fowler of Axa, who has every reason to be gleeful. After a rough start three years ago, his focus fund, UK Opportunities, enjoyed a roaring 2003 and he has every confidence that the run will continue through 2004.

The fund is up 35% over the past year, even though it is the most risk-controlled vehicle in the nascent focus fund sector. It’s also a small fund – just £30m in size. To date, it has been ignored largely by the brokers, who have preferred the more City-ish houses, such as Gartmore, Schroders and JP Morgan Fleming, when picking focus funds, but that may be about to change.

Not that Fowler is a life-company man who happens to have hit on a sweet spot. He joined Axa from Dresdner RCM as head of UK equities in 2000, specifically to launch a focus fund and make the Axa brand rather more punchy in the investment marketplace.

The strategy has mostly worked, although Fowler admits that Axa launched two other focus funds, investing in European and international equities, but quietly closed them when the going got rough. Axa persevered with UK Opportunities, despite the unfortunate timing of the launch. It made its debut on January 15, 2001, at a time when many investment managers were confident that the worst of the bear market was already over.

It says something about how bad things later became that a level of 6000 on the FTSE 100 was seen then as a floor through which the market was unlikely to drop much further. “There was no way I or others saw the depth of the bear market coming. We didn’t do particularly well in our first year, and like others we were a little naive in wishing for a bounce in tech. And then September 11 came along,” he says.

Fowler can be this candid because he has the confidence borne of taking much better decisions after September 11. The principal investment lesson from that time, which he used to good effect during the Iraq war, was how much money could be made during a market bounce – and how you needed to have prepared your portfolio for the recovery.

The way he prepared his portfolio was to focus on sustainable yields, which sounds a little odd coming from a focus manager who, you might guess, would target growth, not income. In the nine months running up to the darkest days of the bear market in March last year, what Fowler could see (and it helped working in a life office) was the extraordinary impact of forced selling by distressed life companies: “You could avoid losing money if you focused on yield. So we did well when the market turned because the yield bias helped.”

He has also followed what he calls his toolkit for a stockpicker during the recovery phase of an equity market. First, you have to go down the quality spectrum; for example, switching out of Barclays and into Lloyds TSB. Second, you have to go down the market cap spectrum. Here his example is switching out of Amvescap and into Liontrust, which turned out to be one of his better performing stocks during 2003, although he’s now rotated back into Amvescap.

Unlike other focus fund managers, who are adamant bottom-up stockpickers, Fowler speaks in ways that suggests he takes a more macro approach. But he insists: “I’m as genuinely bottom-up in my approach as I can be. For example, I’ve banned the word ‘play’ because if a stock or a sector or a theme is in ‘play’, to me that means it’s an excuse to forget the fundamentals. What I’m looking for is fundamental value and momentum.”

And momentum at the moment is fantastic – just ignore the FTSE 100’s somewhat flattish performance of late. The dollar slide is hurting earnings at huge stocks, such as Glaxo-SmithKline and HSBC, which is dragging the index down. But elsewhere, the market is “on fire”.

“People can smell there is money to be made again. They can see hugely positive signs, such as the BA premium business traffic figures, City recruitment figures and so on. The outlook for the commercial sector couldn’t be much better. Sectors such as media and companies engaged in exhibitions, conferences and travel cut their costs to the bone while things were bad. People haven’t caught on as to their level of operational gearing and how well placed they now are to convert an upturn into huge profits growth.”

The speciality finance sector is another of the themes in the fund, and he holds Paragon Mortgages, Countrywide, Amvescap and Rathbones. He’s also been in and out of Investec. But Paragon? Surely the housing market has peaked and buy-to-lets are in danger?

Not so, thinks Fowler. Most buy-to-lets are on mortgages of around £100,000. Even if the market goes sour and the investor can’t find a tenant for a whole year, that’s equal to a loss of £7,000 interest – hardly a disaster for someone who has been able to find the initial cash to invest.

Risk controls mean Fowler won’t go more than 5% above or below on a sector or a stock, so unlike other focus funds you are always going to see Vodafone in the top five list. Not that Vodafone has hurt performance in recent months.

But apart from a few stocks, the risk controls are hardly onerous, and Axa UK Opportunities can behave more like its excitable brethren when it wants to. For example, last year Fowler sold in and out of Cable & Wireless in the space of just one day and made a 10% profit. But he says that sort of activity is unusual and describes the fund as high turnover rather than a trading fund.

Looking forward, Fowler expects the good times to continue – until overenthusiastic corporates with strong balance sheets and a good newsflow behind them make the mistake that bedevils so many British companies. That’s when they go shopping in the US and acquire too many dud subsidiaries. “It’s very tempting when the dollar is at this level. But the market won’t like it,” warns Fowler.