Focusing on leveraged companies with durable growth potential
With U.S. inflation persistently high, stock valuations up, interest rates on the rise since March 2022, and more stress on consumers, Fidelity Portfolio Manager Mark Notkin has been focusing on companies that he believes can consistently grow throughout a full business cycle.
"Since we are concerned the economy may soften later this year or in 2024, we are favoring the stocks of companies and even industries that are less sensitive to the economic cycle because they are supported by other factors that we think will carry them beyond any change in gross domestic product," says Notkin, co-portfolio manager of Fidelity Advisor® Leveraged Company Stock Fund, along with Brian Chang.
The fund is a domestic equity strategy focused on companies with high outstanding debt. While the co-managers have recently sharpened their focus on companies with secular growth drivers—meaning those that are unaffected by short-term, seasonal, or cyclical trends—they continue to follow a long-term investment approach that relies on bottom-up research to choose firms with strong competitive positioning and a management team that can prudently use free cash flow to grow shareholder value and reduce leverage.
Notkin cites the emergence of artificial intelligence as a secular growth driver that has led he and Chang to some new or increased investments in the information technology sector, with chipmaker Nvidia standing out for its dominance of the market for advanced graphics processing units that are the lifeblood of new generative AI systems.
"With demand for data capacity exploding due to AI, Nvidia is well-positioned amid strong demand for new data centers," Notkin explains. "On top of that, the firm has gained market share within data centers because GPUs are taking share from central processing units."
To further capitalize on AI as a secular growth driver, in March Notkin and Chang established a position in Arista Networks, which makes network switches for large data centers and, in their view, is poised to grow along with demand for data capacity.
As Notkin's co-manager since 2019, Chang has had a keen eye on secular growth within the industrials sector, including the electrification of autos, factories, and industrial automation; the strengthening of the nation's energy and communications infrastructure; and what he and Notkin call the reshoring of America—bringing overseas manufacturing back to this country.
Within the capital goods industry, Eaton, Parker Hannifin, Wesco International, and WillScot Mobile Mini Holdings are all recently established fund holdings Chang believes will achieve growth that exceeds GDP, boosted by secular drivers, a high profit margin, a healthy return on capital, and an attractive free-cash-conversion ratio.
"We consider these attributes even more important now, given our cautious near-term outlook and expectation that the investment backdrop will remain dynamic and volatile," says Notkin.
Securities mentioned were fund holdings as of July 31.
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