The sharp drop in equity valuations last month, alongside increasingly negative sentiment towards property and financials, is leading some fund managers to focus on recovery.
As reported in Fund Strategy two weeks ago (January 28, page 7) and at the beginning of the year (AFI, January 8), some fund managers with a value bias have started to re-enter financials.
Likewise, some say that British property shares are looking attractive because of the huge discounts at which they are trading. British Land, for example, is trading at a 30% discount to its net asset value.
Darius McDermott, managing director of Chelsea Financial Services, says there should be more opportunities now, in light of stockmarket falls, for fund managers to find recovery stocks.
“There should be more opportunities after a difficult period in markets,” he says. “I see recovery as special situations. But you need a catalyst. It could be a market phenomenon or something specific to a company.”
McDermott rates the M&G Recovery fund, managed by Tom Dobey, highly. Over three years to February 4 it ranks 11th out of 259 funds, according to Morningstar. It returned 50.4% compared with an IMA UK All Companies sector average of 29.9%.
“It has a phenomenal track record,” says McDermott, “Tom is a brilliant fund manager. He keeps a mixture of stocks at every stage of recovery.”
Daniel Good, portfolio manager at Barclays Wealth, also associates special situations funds with recovery strategies. He highlights the Axa Framlington UK Select Opportunities fund, managed by Nigel Thomas.
“Any special situations fund has a part of its portfolio that looks at recovery,” says Good. “Financials might look like a good play at the moment, but there is a danger of managers going too far.
“Property is similar, but some of the discounts on property trusts are over-egging the pudding. I’d be less cautious of investing in property than financials at the moment. With banks it’s a case of ‘wait and see’.”
Mervyn Douglas, manager of the Norwich Union UK Focus fund, says he is looking at recovery stocks in the light of stockmarket falls. Sectors that look attractive to him are engineers, leisure and travel, general retailers and support services. But what do fund managers solely focused on recovery make of the market turmoil? Nick Kirrage and Kevin Murphy, managers of the £169m Schroder Recovery fund, say they have never been busier.
“We’ve increased the number of holdings by 10% in the last three months, adding more small positions in new stocks than we have in the previous two years.”
Kirrage and Murphy have taken profits from larger stocks in their portfolio, such as British American Tobacco, Unilever and Vodafone, to buy new stocks in the media and retail sectors in particular. Buys include Daily Mail & General Trust, Dixons and Trinity Mirror.
“As recovery managers, we focus on balance sheets,” Kirrage explains. “But the market is indiscriminate. Companies with strong balance sheets and strong cash flows have been treated like companies that [don’t have that]. We think the market has priced these risks unfairly.
Murphy and Kirrage say they are not considering buying into property and banks at the moment because they think that the balance sheets do not compensate for the risk.
“There are always recovery stocks in the market,” adds Kirrage. “[But] when the economy is struggling as well, that brings up more opportunities for us.”