Fidelity's Bolton Plumps for Large Caps and Banks
But warns investors to be selective in picking up the rights issues.
Former Fidelity fund manager Anthony Bolton's key message to investors at the Morningstar Investment Conference last week was "quality" and large-caps". Richard Plackett, a smaller companies' specialist at BlackRock, agreed with Bolton's emphasis on quality but he, unsurprisingly, argued small- and mid-caps offered an attractive buying opportunity "now". On the face of it may seem the duo was contradicting each other but in reality we think not.
Whilst Bolton acknowledged that small- and mid-caps outperform large-caps over the long term, he said he was "less sure on a short term basis." The veteran investor stated: "We are in a more risk-averse environment and therefore we are going to see more than one year of outperformance of the big cap stocks". Small- and mid-cap UK equities lost their leadership of the market last year for the first time since 2003, as investors scrambled for the safety of large-caps in the aftermath of the US-led credit crisis. The extent of the two asset classes' outperformance is reflected in the annualized returns they have clocked over January 2003 to December 2006, 23.5% and 30.4% respectively compared with a modest 16% for the large-caps. Last year, large-caps outpaced their small- and mid-cap counterparts by a comfortable margin, and Bolton believes the trend will continue for more than one year.
Financials - a large-cap opportunity
Bolton believes that the credit crisis is in its final stages and if he were still running money he would be investing in banks, making use of any rights issues selectively. Ever since the US sub-prime mortgage crisis turned credit crunch surfaced last year, financials have been on the receiving end. Stocks have been de-rated indiscriminately - FTSE All Share Financials index down 20.4% over June 2007 to April 2008 - and, as a result, some are now attractively valued relative to their long-term historical trend. Furthermore, Bolton pointed out that institutions have been net sellers of the "exposed" materials and energy-related stocks for sometime now and net buyers of financial services companies, including insurance. He also said that the directors' dealings show purchases have been stronger than sales, which indicates sentiment at the top management level is positive.
Buying opportunity in small- and mid-caps?
Plackett, who has 16 years' experience of investing in small- and mid-caps, agreed with Bolton in terms of the emphasis needed on quality and resilience. But, he pointed out there were plenty of small- and mid-cap companies which can grow their profits and topline irrespective of the economic environment. He said investors should target companies run by experienced top management, ones with a strong market position and high barrier to entry, and those that have consistently grown cash flows. While such stocks' earnings forecast remain positive, their share price has taken a hit recently due to a lack of investors' interest. In his view, getting into an asset class which has outperformed strongly in the long term but has underperformed severely in the short run is a "sensible" investment strategy which has paid rich dividends in the past.
Agreement in disagreement
We believe both the experts' views need perspective. Although it may seem they are contradicting each other, in reality they are not, as the issue here is timing of return. Bolton's view is that small- and mid-caps outperform large-caps in the long run but over the short term in the current cycle the latter is likely to deliver higher returns. Plackett acknowledges that small- and mid-caps have underperformed sharply in the short-term and may continue to do so over the next "6-12 months" but, as a result, they offer an attractive buying opportunity. He reckons investing in small- and mid-caps now would reap rich rewards over the long-term, a viewpoint Bolton agrees with fully. In our view, what investors need most in turbulent investment climes is not a dash for the apparent safety of cash. Real shelter is embodied in a balanced portfolio, one which is tactically positioned for the short-term and strategically invested for the long.
It's a good time to invest
Although the Bear Stern fiasco was a "pretty good low" in Bolton's view, he believes the lowest point may come about later this year or early next. Having said that, a couple of sentiment indicators he monitors carefully suggest now could be a good time to invest. He pointed to the current net outflows from mutual funds and believes that that over time has proven to be a good indicator of an entry point following a slowdown. In addition, money market funds have also been experiencing strong inflows recently and that is another signal to start preparing to get back into the market and pick up bargains. This is borne out from IMA sales figures back in early 2003 when equity fund inflows - net retail sales - touched their lowest point. Money market funds sales reached record levels in 2000 and 2001 but petered out by the first quarter of 2003 - which as we know now was the turning point for that bear market.
