When developed market equity and bond industries seem to be pretty much priced to perfection, it’s getting harder and harder to find pockets of opportunity.
The biggest risk to investors at this point in the cycle is often the temptation to jump in blindly, when the most important consideration should arguably be not overpaying.
One manager I have great respect for, who has quite aptly described his process as “looking in other people’s dustbins for ideas”, is Alastair Mundy – the ultimate contrarian.
Mr Mundy has run the Investec Cautious Managed fund for almost 15 years. It’s a multi-asset vehicle, but allocation decisions start from an equity-centric position. He screens for stocks that have fallen 50 per cent over the previous two years, but the peak from which they have fallen from must not be in that period. From this pool he seeks companies with strong balance sheets and little debt. The thesis is that these stocks are suffering due to excessive negative sentiment.
If attractively valued equities can be found, the allocation will be taken towards the top of the permitted range. However, he is likely to find fewer attractive opportunities when equity valuations are high, and this sentiment is reflected in the portfolio. Mr Mundy believes developed equity markets are expensive, particularly in the US, which he is shorting within the fund.
Long equity opportunities are harder to find, but he has a handful in banks and UK consumer stocks. Banks remain unloved, but the manager thinks that most of the bad news is known to investors and discounted. Balance sheets of UK and US banks are generally repaired, the banks are looking to lend money, regulation appears to have peaked, and he thinks excess profits will be distributed as dividends. Investors are not currently being asked to pay that high a price for these prospects.
When it comes to UK consumer stocks, which have been struggling for some time due to various cost increases – a weaker pound and a rise in the minimum wage – Mr Mundy believes that a fairly downbeat outcome is already priced in.
By his own admission, he spends as much time worrying about what could go wrong as what could go right. To control downside risk the manager uses a combination of cash and short-dated bonds, conventional and index-linked bonds of medium to long duration, as well as gold bullion.
He views bonds as expensive, and to counteract this the fixed income element of the fund is focused towards short-dated and index-linked government bonds (22 per cent) and around 7.5 per cent in Norwegian government debt.
He is more positive on the outlook for gold, silver and precious metal shares as he has been concerned for some time about the global debt mountain and its likely erosion through inflation. He also believes central banks are hamstrung in their actions, along with politicians as governments’ debts are so high.
Mr Mundy’s contrarian style and philosophy makes his process distinct, and often positions him on the minority side of investors. It can be an uncomfortable way of investing at times, but his process is built on a careful appreciation of what he knows and can control, and it has stood the test of time.
Darius McDermott is managing director at FundCalibre
