Many investors prefer to build a portfolio of funds run by managers with long, established track records. This is sensible. Focusing on the few managers who consistently add value is the best way to grow wealth over the long term. However, today's star managers will not be around for ever, so identifying up-and-coming talent and backing them for the long term is important and could be very rewarding.
Alex Wright has been working his way up at Fidelity for the past 11 years, and since 2008 he has successfully managed a UK smaller companies fund. Unfortunately, this reached capacity and closed to new investors in April 2013. His success did not go unnoticed, though, and last year he was awarded the mandate for Fidelity Special Values.
Mr Wright uses the same process across both funds, looking for undervalued companies with unrecognised growth prospects. The main difference is that Fidelity Special Values holds larger and medium-sized companies, as well as smaller firms.
At the forefront of his mind is downside protection. Potential holdings are likely to have had a period of poor performance, but this alone is not enough; a strong balance sheet, plenty of cash and barriers to entry will limit the risk of further underperformance.
Once he is comfortable there is adequate protection, Mr Wright looks for potential that is not being recognised by other investors. This could include the ability of a company to increase overseas earnings; a new management team stripping out costs; or the scope to return significant cash to investors.
There are three stages in a company going from unloved to recovery, according to Mr Wright. He aims to buy in stage one when a company is disliked. He generally starts with a small position of around 0.5 per cent, but is willing to add either on further weakness or as conviction grows. Stage two is reached once some of the catalysts for growth have kicked in, and Mr Wright will continue to add to his holdings. By stage three the business change, or investors' change in perception, is complete and he will be looking for the right time to sell and recycle profit into stage one prospects.
The utilities provider SSE is currently cited as a stage one opportunity. Mr Wright sees downside protection in its high 7 per cent yield and the 45 per cent of earnings that come from its regulated business. He believes a focus on renewable energy should spur growth as the UK aims to become less reliant on traditional fossil fuels.
In stage 2 he holds Mothercare, whose share price fell during 2010 and 2011. Mr Wright saw the cash-generative international franchise as providing downside protection. The share price recovered in 2012 and 2013 but the company is still in the portfolio.
Presently, around 35 per cent of the portfolio is invested in stage one companies; 56 per cent in stage 2; and less than 10 per cent in stage 3. He estimates that it usually takes a company around 18 months to go from stage one to three, and annual portfolio turnover is between 60 and 80 per cent.
Since taking over Fidelity Special Values in September, he has increased exposure to higher-risk small and medium-sized companies. The move proved timely as these types of business have outperformed their larger counterparts. Under his tenure, the fund has risen 63 per cent against 23 per cent for the FTSE All Share index. Mr Wright is using the full flexibility of the fund, including investing in overseas companies, taking some short positions to benefit from falling share prices, and deploying gearing, which currently stands at 28 per cent. So far this has proved effective, but it adds extra risk.
It remains early days for Mr Wright, and his approach is contrarian, but on the evidence so far he looks to have a bright future ahead of him.
Richard Troue is an investment analyst at Hargreaves Lansdown, the asset manager, financial advisor and stockbroker. For more details about the funds included in this column, visit hl.co.ukReuse content