Fidelity’s Wright dumps Lloyds in defensive switch

Value investor Alex Wright gives up on a share price recovery in Lloyds and pulls back exposure to banks out of concern with the deteriorating economic outlook.

Contrarian value investor Alex Wright has given up on hopes of a share price recovery in Lloyds (LLOY) dropping the bank from the £3 billion Fidelity Special Situations fund and the £728 million Fidelity Special Values (FSV ) investment trust.

Wright, who held 2.2% of Special Values in Lloyds in February and 4% in early 2018, has also sold out of Bank of Ireland (BRIG.I) and trimmed a long-standing, big position in US banking giant Citigroup (C.N) which had 4% of the trust's assets at the end of August.

However, the fund manager has held on to Royal Bank of Scotland (RBS), which accounted for 3.3% of Special Situations at the end of July, according to its latest fact sheet, believing it to be at an earlier stage in its recovery.

Wright has cut back banks in response to falling US interest rates and a slide in global bond yields this year which he said would further squeeze their profit margins. ‘For most banks there are few avenues left to offset the margin pressure. Most have little room left to cut costs and provisions are already at record lows.

‘Unlike in 2009, all banks are well capitalised, encouraging competition. It’s therefore not an option to simply raise borrowing rates to compensate,’ he said.

Lloyds has disappointed Wright. Although the bank succeeded in cutting costs, becoming more efficient and had started paying good dividends, the shares had fallen 26% in the past five years and the manager saw little upside.

‘The bank has now become a bellweather for the UK economy with its future performance tightly linked to the performance of the UK mortgage market and interest rates,’ said Wright.

‘I look to own companies in control of their own fate,’ he added in a statement.

By contrast he continues to back RBS ‘which is at an earlier stage of its recovery and still has room to go in its evolution towards becoming a high return bank with excess capital’.

Wright's pulling back on bank exposure comes as part of an overall reduction in both portfolios to economically exposed cyclical stocks.

In their place Wright has raised defensive stocks to their largest overweight in both the fund and trust, for excample, adding to tobacco giant Imperial Brands (IMB), whose shares have fallen to trade on just seven times earnings while offering a well-supported 9% dividend yield.

‘I hold it in preference to British American Tobacco (BATS) due to its stronger balance sheet and its promising new vapour innovations which are underappreciated by the market,' Wright explained.   

Brexit uncertainty, the US-China trade tensions and a weakening global economy have made Wright more cautious, despite seeing a ‘broad spread of value’ in an unloved UK stock market, from which fund investors pulled £1.2 billion in July.

Nevertheless, he could not resist adding real estate investment trust Hammerson (HMSO) whose shares have plunged 42% in the past year over investor concern about its portfolio of retail parks and shopping centres. Wright said a 70% discount to its net asset value ‘more than compensates’ for the potential risks.

‘This extremely low starting point offers limited downside and we expect management to pursue further asset sales and bring down leverage,’ he said.

In the year to 31 August Fidelity Special Situations dropped 6.4% to rank 174 out of 254 funds in the UK All Companies sector. Over five years its 37.3% return placed it 55th out of 2017 funds.

Fidelity Special Values has also struggled falling 2% in the past 12 months, even with dividends included, although its share price has not fallen too far behind net asset value with a small discount of 0.5%.

Unlike its sister fund, FSV uses gearing, or borrowing, to boost its performance. Over five years it has delivered a 62.9% total return to shareholders, placing it third out of 13 trusts in the AIC UK All Comapanies sector. 

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