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Five contrarian calls: the uncomfortable stocks M&G's Felton is comfortable backing
on Aug 21, 2013 at 11:45
In April the M&G fund manager Mike Felton made a contrarian call and bought a stake in RBS. Here he highlights five other stocks which while not for the faint-hearted he is perfectly happy holding.
Mike Felton is known for making contrarian plays in his £660 million M&G UK Growth fund. This was demonstrated in April when he bought a significiant stake in troubled bank RBS. His faith in the bank was not swayed by the shock departure of chief executive Stephen Hester shortly after he bought the stake.
Here Felton tells us about five stocks he's comfortable holding even though many might not be so. While he admits investing in these stocks can be challenging at times, he is confident he will be rewarded further down the line.
Felton's £81 million M&G Select fund merged into the UK Growth fund in March. In the three months till the end of July the fund returned 6.14% outperforming the FTSE All-Share which returned 4.41% over the same period.
‘The E&P sector was very much in favour in the spring of last year as investors scrabbled around for the next Cove Energy. Cove was a small E&P that had made a major gas discovery offshore Mozambique and then received a bid from Shell and a counterbid almost immediately from Thai Oil Company PTT. As a result, the shares rose 3 to 4-fold in the space of just a few months. Since then however, there has been a paucity of news flow in the sector with no significant M&A or farm-outs and a few disappointing well results.
From being very much in-favour, the sector has become very much out of favour and now offers some attractive investment opportunities. Our preferred stock is Cairn Energy, still offside with many investors because of its disappointing exploration record in Greenland.
The current exploration programme though includes Morocco and Senegal, the former of which looks particularly interesting according to our analysts, together with the UK North Sea. The persuasive valuation point though is that this exploration potential is effectively in the share price for nothing given that with the market cap of the business sums to no more than the value of their holding in Cairn India and cash on the balance sheet.’
‘The Oil and Gas Service sector has similarly become unfashionable. From a position a couple of years ago when the capex budgets of the major oils were trending inexorably upwards, the market now worries about these budgets coming under intense pressure as oil and gas companies try to cut costs.
This though is not obvious in the announced budgets and the fact is that oil and gas project spend globally (including the NOCs) is forecast to top $700bn this year, up from $300bn in 2005. There is plenty to go around therefore. Our preferred way to play this was Kentz Corporation which combined an enviable reputation operationally with a compelling valuation of below 7x post cash.’
‘The packaging industry is not one that has seen a great deal of investor excitement over the years. At the start of last year however, DS Smith announced that it was to acquire Swedish rival SCA Packaging in a mammoth €1.6bn deal. The market’s initial reaction was positive as it reflected on the cost and synergy benefits of such a large in-market deal.
However, these optimistic tones soon gave over to more bearish sentiment as the market fretted about the company taking on so much debt and investing in a mainland European business just as the economy appeared to be nose-diving.
My colleague Garfield Kiff though did lots of in-depth valuation work, hosted the company in our offices and then went to see them at theirs. The cost and synergy benefits looked underplayed and the resultant valuation compelling, leading to us taking a significant position. The shares are up more than 75% since we starting buying in May last year.’
‘How times have changed. With the benefit of the domestic UK economy experiencing something of resurgence, albeit muted and from a low base, the General Retail sector is now hot property.
Two years ago though, when the economy seemed to be going from bad to worse, this same sector was perhaps the least liked in the market, along with the Banks maybe. And the least liked stock in the least liked sector was Dixons, selling electrical goods from a cost-disadvantaged retail estate in an internet world to customers who did not have the money to buy.
However, management had already set about improving the stores, refining the price proposition and restoring the balance sheet, all of which suggested that the company had a good chance of being the last man standing. We bought the shares and felt some schadenfreude as rival retailers collapsed or withdrew from the electrical market. Having clearly benefitted from the misfortunes of Comet, HMV, Jessops and Game amongst others, we now think that the playing field gets a little less easy and as the shares have risen fourfold from their lows, we have now moved on.’
‘The popular culprits of the financial crisis with unfathomable financial metrics making them uninvestable and universally unloved. That was the situation our banks found themselves 2 years ago. Of the three domestic banks though, Lloyds was perhaps the least complicated with its core business being a major share of the UK mortgage market, thanks in part to the magnificently ill-judged HBOS acquisition.
Bear in mind that not so many years previously, the UK mortgage industry had been regarded as providing a relatively high quality annuity income stream, attracting back then the attention of lots of overseas banks. So, incredibly out of favour, an interesting core business and a valuation that whilst difficult to get fully to grips with, seemed likely to offer some longer term upside, we nervously started a position in Lloyds in late 2011.
As fundamentals slowly but steadily started to improve for the company, we increased our position. It now stands firmly, along with RBS, in our top ten active positions on the fund.’