Investing in turnaround plays can be a great way to generate market beating returns, as long as you can successfully identify which companies will be able to get themselves out of trouble. If you prefer a more hands off approach you could take advantage of the skills of the turnaround specialist, Alex Wright, by buying his £651m Fidelity Special Values (LON:FSV) investment trust.
Wright invests in unloved companies with the potential for change that offer some degree of downside protection. The market is often slow to recognise the recovery potential of these sorts of stocks, which creates an excellent investment opportunity, although it is essential to avoid the duds.
One area where he is finding opportunities is the banks. He says that some of these stocks remain at trough valuations despite eight years of building capital buffers and reducing risk. His largest holdings in this area include Lloyds Bank (LON:LLOY) and Citigroup (NYSE:C). The latter has been one of the fund’s strongest recent performers as it has benefited from expectations of higher US interest rates and the possibility of a friendlier regulatory environment under President Trump.
Another significant holding is Royal Dutch Shell (LON:RDSA), which he bought following the slump in the share price in 2015. The shares have recovered strongly since then, although he says they still trade on around a 6% yield, which suggests that the market does not believe that the company will be able to maintain its dividend. Wright thinks that the improved capital discipline and rising cash flows following the merger with BG Group’s assets will mean that a cut will not be necessary and that there remains considerable upside potential in the shares.
The rally in cyclical stocks last year created some pockets of value in more defensive stocks that have less exposure to the performance of the economy.
The rally in cyclical stocks last year created some pockets of value in more defensive stocks that have less exposure to the performance of the economy. This enabled Wright to increase his positions in the pharmaceuticals group Shire (LON:SHP) and the telecoms company BT (LON:BT.A) with both now making it into his ten largest holdings. He also bought an overseas company, Scandinavian Tobacco (CPH:STG), as its leading competitive position gives it good pricing power in the structurally declining cigar market, which he thinks should enable it to hold sales flat while growing cash profits over the medium term.
His top ten holdings include the Ladbrokes Coral Group (LON:LCL), which he thinks is cheap because of the potential regulation of online gambling. Wright says if this is less draconian than his worst-case scenario he would expect to see 50% to 70% potential upside.
Another major investment is the defence company Ultra Electronics (LON:ULE). The business suffered a significant setback in 2014 when it lost its largest contract, but Wright says that its free cash flow is now beginning to recover. ULE specialises in sophisticated areas such as underwater warfare, surveillance, and security, which should benefit from future defence budgets.
Wright has built up an excellent track record. Over the last 10 years, Fidelity Special Values has generated a total share price return of 159%, which is well ahead of the 79% generated by the FTSE All-Share index. The investment trust is currently trading on a 3% discount to NAV and yielding 1.8%.