Hello and welcome to the latest Moneymakers Investment Trust podcast with me, Jonathan Davis. A reminder that for regulatory reasons, nothing you hear today, however stimulating and insightful, should be regarded as constituting individual investment advice or a specific stock recommendation. Them's the rules we have to work with.
So this week on the podcast, I had a chance to speak to Alex Wright, who is the manager of Fidelity Special Values Investment Trust, as well as the open-ended equivalent, Fidelity Special Situations, the latter of which was Anthony Bolton's first fund way back in the 1980s, or was it even 1979? I can't remember. In any event, Alex is the third manager of this trust, and today it has a market cap of around 1.2 billion, second largest in the UK all companies sector, and has, I think any fair-minded observer will say, put together a very impressive performance record over that period since Alex became the manager, which originally was in 2012.
So, Alex, very good to have you on the podcast, and very unusual to have you on the podcast at a time when the UK equity market is outperforming the US market. That's something we haven't said for a while. Very good news that that is so. So, let me start off by just asking you where you think the UK market is at present. It's still looking attractive, I think, despite performing much better this year. What's your kind of big picture take on the UK equity market at the moment? And we'll go on to talk about your fund and what you're doing with it.
Yeah, you're right, Jonathan. It's a great time to come on. Thanks very much for giving me the chance to chat because it has been a really good period for UK equities and for the trust, actually, Special Values. We're recording this just at the start of July, and just at the end of June, I think we hit a new all-time high for the trust, which is great, and we have delivered, I think, over the last 12 months about a 25% total shareholder return, which is a long way ahead of the US market, which in pounds, given what's happened to the dollar, is up only sort of about 5% over that period. So, it's not just that the trust and UK equities are doing well. They're doing incredibly well compared to the US market over the most recent period.
Well, I think the good news is that the UK market is still a very cheap market compared to other markets out there. So, we've moved up from maybe the real lows that we saw sort of two or three years ago, but overall the UK market's only on about 13 times earnings, which is still slightly below the long-term average. Whereas even after that more lacklustre performance, the US market's still on 22, 23 times earnings, and other developed markets are maybe on sort of 15 or 16 times. So I think versus other available equity options, the UK market still looks very good. And then in particular, because the UK is a very broad market, lots of different choice, there's definitely a lot of cheap stocks within the market, particularly as you go down the market cap spectrum to more sort of mid and small cap companies.
Right. I mean, we could talk about that in terms of what's been going on in the world or what's been going on with the UK economy, but of course a lot of your companies you have international exposure. But at the same time, we've been reading for months now indeed that there have been outflows from UK equity funds in aggregate for nearly 5 years now. So how do you reconcile this apparent contradiction that the market is doing really well and funds are flowing out of UK equity funds?
Yeah. So obviously markets don't do well unless there's more buyers than sellers. So clearly someone is buying the UK market because you're correct, UK investors are not buying the UK market. They're selling the UK market and they're mainly buying the US market, which I think is absolutely the wrong thing to be doing. And I think they're being backfilled by actually US and global investors buying the UK. And you can particularly see that in terms of when you look at particularly over the last quarter. I'd say notably the midcap index has done better in the afternoon than it does in the morning, which is a clear sign that the sort of people who get up somewhat later in the day in the US because of the time difference are the buyers. And I think that's because they're recognizing the value, but also I guess the sort of the geopolitics of the US market and the movement in the dollar. The dollar has sort of been a one-way bet for years if not decades. And actually, if the dollar is not going to appreciate, that makes international equities much more interesting. And you don't need to move very much of your allocation out of the US if the US is 70% of the benchmark and the UK's 3% in the benchmark to really make quite a big difference. And so while it's not UK investors buying, I think it is those US investors buying because they see that huge valuation gap between their market and what are very good companies quoted in the UK. Clearly as a US investor, it's easier to invest in the UK than it is probably any other market globally. So same language, similar levels of disclosure, good management sort of access, and lots of international diversification because only 25% of earnings of the UK market actually come from the UK economy. 75% are a subset of global earnings.
So we've seen the impact of that buying on the discount as well, the marginal buying or the discount of the investment trust. Have you actually been getting inflows into the open-ended fund as well, out of interest?
So we have seen a flicker of interest. So the fund has been in outflow every year since Anthony stepped down on the fund in 2007, but over the last rolling 12 months, we've had about a 50 million pound inflow. Now that is pretty small in the greater scheme of a three and a half billion pound fund, but it is a positive number compared to every other rolling 12-month period basically being a negative number. So I wouldn't say it's a flood, but it is a trickle.
And how much has your trust and the fund itself been helped by M&A activity? Because we know there's been quite a lot of M&A going on. Some corporate buyers and private equity buyers have been recognizing there is some value in the UK market. Has that been a significant factor for your particular style of management?
It has been, but I wouldn't say any more so over the last 6 or 12 months than it has been over the last four or five years. So I'd say ever since we saw the vaccine coming out of COVID, it's not quite 5 years ago, you started to see M&A pick up in 21, and we've had a steady stream of that through 21, 22, 23, 24 and continuing. I suppose what's been heartening is even though there's been a lot of market gyrations, a lot of movements in currencies, policies, etc., year to date, that M&A has very much continued. And we've had a bid for our holding in Warehouse REIT recently, a bid for our holding in H&T, a bid for our holding in Bakkavor also. So that has been a feature and continued to be a feature recently.
Yeah. So I can't resist asking this question. You don't have to answer it directly if you don't want to. But there's been an awful lot of noise about how the UK equity market needs reforming. You know, we've got to change the way we organize things over here. We've got to get rid of stamp duty, many people say, campaigners and so on. But do you actually think that there are structural issues here that could be addressed and are still not being addressed, and if they were done, would they actually contribute to the UK market doing even better?
Yeah. So I think that's the thing. I think the UK market is doing just fine, and actually sort of over my tenure, the last 12 years or so, the performance of the UK market has actually been almost identical to the per annum performance we've seen over the whole 30 years of the trust, sort of UK market doing about 7.5% per annum. So, I don't think there's anything wrong with what the UK market is doing. And then we've been able to add a lot of alpha to that, to about 4% per annum, which again is not so dissimilar to the 30-year view of sort of 4.5%. So, this is a market that can produce good returns where you can add a lot of alpha and continues to be so as it has been for the last 30 years. Now, could there be improvements? There definitely could be improvements. So I think clearly stamp duty is one thing which is a bit of an historic relic. Very few other markets have stamp duty, and so that is a cost of doing business on the UK stock market that doesn't exist elsewhere. So clearly if you got rid of stamp duty or limited it particularly to not just not charging on large companies but other small companies, I think that would be particularly helpful for liquidity and trading for retail investors. And obviously there's things like pension companies used to be much bigger owners of the UK stock market. They are now. Clearly if more of people's defined contribution payments went into the UK stock market, that would be helpful. But to be honest, I don't think actually there's a lot of doom and gloom talked about the market, whereas actually I think things on the ground are pretty decent and this is a good place to invest as it has been for quite a long time. We're very lucky in the UK that we have attracted, because of our sort of place in the center of the world and good capital markets, a deep pool of international companies here. That's why the market is 75% international and only 25% UK.
Well, would you not be happier if some of these companies that remain listed in the UK rather than in the US? We know we've had a number of high-profile examples where companies have moved their listing from here to the other side of the Atlantic and been rewarded with higher multiples and so on. But what do you make of that? In other words, is that just a fact that the US market's become very expensive and it's therefore an easy way to get a better valuation, or is there something more to it than just that?
No, you've hit the nail on the head. Clearly, as a CEO or an owner of a business, you want your business to be valued at the highest possible level. And the US market and private markets are paying way higher multiples than is currently in the UK or indeed elsewhere. To be honest, it's really a US versus the rest of the world phenomenon that there's that huge difference. Now, to me, I want to be in a market that's undervalued. An undervalued market gives you the optionality of there being a rerating, the ability to add value by buying back stock at the wrong price, the potential that you could get taken over. Whereas if you're at a high valuation, that doesn't give you options. There's pretty much only one way that that valuation can go.
So, out of the UK market, taking the open-ended and the investment trust together, that's quite a big pot of money. How many stocks are you invested in across that combined universe, should we say?
So there's about 80 stocks in the open-ended product and about 90 in Special Values. And I'd say that the investable universe, if you look at sort of 100 million pound plus companies in the UK, there's maybe a thousand companies that we can choose from. There's also obviously the ability to do up to 20% overseas. We're using a bit less of that. So we have been as high as 20%, today that would be down to maybe 11 or 12%. And that's mainly represented actually today by sort of Irish companies. So we've got some quite large positions in Allied Irish Bank, Cairn Homes and Glen Homes as well as Ryanair.
Okay. So obviously the point of my question was you're not running out of opportunities despite these companies going off to the States or whatever they might be doing.
No, it's not that long ago the UK had a huge new batch of IPOs back in sort of 2021. So that did refresh the market. Obviously since then there's been a dearth of IPOs, but that's not just a UK phenomenon. That's a global phenomenon as you sort of saw interest rates rise, and again there's starting to be a differential between private market and public market valuations that caused an issue for clearly those private valuations trying to get an uplift onto IPO, which has created that sort of indigestion in both the UK but also globally.
Right. Let me just ask you then. I know you're a stock picker and you deliver your alpha by picking stocks successfully. I have to just ask you a quick question about Trump and then a quick question about the Labour government and the budget and so on, which obviously had a direct impact on a number of domestic companies over here. So just take Trump first of all. Do you think that the markets have got the measure of Mr. Trump now, as far as it's reflected in what you see every day as you go about your business?
Oh, I think that's almost impossible to say. Obviously the difficult thing is what Trump says on a daily basis changes. So I think there's a large degree of skepticism now about Trump doing what Trump says he's going to do because there have been many cases now where he hasn't done that. But I am slightly worried that the market has become very relaxed about tariffs, which obviously are a net negative for the US and the global economy, because there seems to be a sort of consensus that these are going to be negotiated down to quite low levels, which may be the case but may not be the case, and I think it's very difficult to work out exactly which one is going to happen, but I think the consensus is that it's going to be fine.
And it may not be indeed. Yeah. And who actually knows. Yeah. And when we will find out or not find out because deadlines also seem to be quite malleable and slippable as well. So that is an ongoing, unfortunately, something we're going to just have to pay attention to, and he thinks he's a great negotiator. So he says, you know, we've got a deal, then he comes back and says they want a bit more. That seems to be a pattern as well, which creates more uncertainty and so on. If you talk to the companies that are in your portfolio, particularly ones that are exposed or potentially exposed to tariffs, what kind of feedback are you getting from them? What kind of message are you getting from them? How are they coping? Are they adapting or are they still moaning about it?
So again, the interesting thing about the UK market, and we talked about this sort of at the time, and it's interesting people haven't asked me about this for sort of two or three months now again, which maybe shows how sort of relaxed the market seems to have become on this, is that actually the UK market and my portfolio isn't particularly exposed to tariffs because the UK economy and the UK market is overwhelmingly a sort of services market. There aren't many big exporting companies out of the UK and there aren't many quoted on the market. So while there's a lot of international revenue, it tends to be revenue for local businesses. So I had a good look through the portfolio back in sort of March, April when these things were talked about and then obviously initially implemented before they were pulled. There's probably only three or four companies out of the 90 who will actually directly pay a tariff of any sort. So it's not the direct effects that affects the companies. It's the effect on the economies and what's going to happen to the underlying economy, and clearly just the uncertainty itself about what the policy may be stops you being able to sort of do things. So again, there's definitely been a hold up in capex transactions, big business decisions because you're not quite sure exactly what the new terms of business might be or indeed if there is going to be a sort of change in the terms of business. So that's something, a sort of a stasis that's fed into bigger decisions, particularly actually if you're sort of based in the US, like are consumers going to have to pay more? Am I going to have to maybe pay a higher tariff or build a plant here? Also, do I want to build a plant here? Because are these tariffs going to last more than the four years of the Trump term? Unfortunately, the effect has just been to sort of generally dampen activity, particularly when it's capex based.
Yeah. And that has longer-term consequences that maybe the market hasn't quite priced in yet.
Maybe. So that's certainly one possibility I would think for sure.
And what about domestically? I mean, we know there was a budget last year, I mentioned that earlier, that put some significant increases in payroll costs on some companies, and it looks like they're going to stay even if other things are being changed in the UK economic policy kit, shall I put it that way? What do you think the impact of that has been? How are companies coping with those particular changes, or are there others which are more concerning?
So we're obviously through those changes which came in in April, and again there was a lot of, no one likes to pay higher taxes, and clearly there was a lot of noise because I think firms felt more able to push back against higher taxes, whereas compared to previous years payroll costs were also inflating at a very high rate, but that was because the minimum wage was rising at 10% per annum, which it did in 23 and 24, and firms didn't feel that it was sensible to push back against sort of low paid people being paid quite a bit more, but the cost effect is basically almost exactly the same. So April this year there was a 6% increase in minimum wages, and then the effect on a minimum wage employee because of the change in the level and also for part-time workers the threshold was about a 10% rise. So again there's no change in trend in what's happening to payroll. So retailers that we own like Halfords and in the portfolio Frasers, they've had to live with this 10% increase in costs in 23 and 24, and they're living with it again in 25. And so, well, you can't say it's a good thing. It isn't really a change in trend, and businesses have dealt with it, and the main way they've dealt with it is they've pushed up prices. So clearly inflation has stayed at slightly higher rates than maybe people were predicting 12 months ago because effective employment costs have stayed at that elevated rate. And now of course we've also got some employment rights legislation coming through parliament as well, which may have an impact in terms of maybe deterring some kind of employment at the margin.
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Let's talk about the portfolio then a little bit and what you've been doing over the last say 12 months, if that's a right period to talk about. You said that's been a particularly strong period for you, helped by the discount narrowing on the investment trust. So what have you been doing over the last 12 months? Obviously rising interest rates are bad for a lot of equities, a lot of companies at the margin, but they're also good for some types of equity, and banks and insurance companies go among those benefits. So I think you've had quite a big position in the financials, have you not? Have you been modifying that at all or adding to it? What's been your approach there?
Yeah, so financials have been a big position in the portfolio actually pretty much the entire time I've run the trust, and they're still about 27% today. So they would still be the absolute largest position. We would have about 13% in banks and then the same again in insurers and other financials. But we have changed that around a bit in terms of we have reduced actually the banks holdings because as you said interest rates staying higher for longer has been beneficial for banks because it's meant that their net interest margins have stayed higher and they've been able to use that return to buy back more stock than people would have expected. So there have been some spectacularly strong performances from some of the banks. Indeed the best of those, Allied Irish Bank, I think over the last 5 years is up about 500%. So it's truly spectacular returns from that sector, and so at the margin we have been actually taking profit from these positions. So we've sold out of Barclays, we've reduced Allied Irish Bank, and then we've also reduced some of the life insurers which have done well also. So we've trimmed the position in Phoenix which was a very big position. Aviva continues to be a big position though, and so while we did trim some of that, effectively we've actually got that position back with their takeover of Direct Line because that's going to be paid for sort of half in stock. So Aviva is still a big position. So we still like that area but a bit less so because the stocks have done so well, and we have been actually adding to areas that have been hit by higher interest rates since 22. So in the likes of sort of UK consumer plays, housing related plays, particularly ones that are linked to volumes, and that's been a bit of a theme of the last 12 months. So we've initiated a new position in DFS, the sofa retailer, a new position in Howden, the kitchen manufacturer. Genuit, which used to be called Polypipe, which is the supplier to sort of new house building and repair and maintenance, as well as actually some of the UK property companies, which sold off quite heavily when interest rates changed. So we mentioned earlier on sort of Warehouse REIT that we own in the portfolio now.
And so the attraction of commercial property in this kind of environment, is it just a story of them recovering after what's been a pretty tough period for them?
