Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.

It’s been a glum six months for UK investors. They’ve struggled to keep the faith in their home market, which has suffered under the weight of pandemic-induced uncertainty, a 20% fall in Britain’s economic output in the second quarter, the spectre of rising unemployment levels, and the gloomy prospect of a no-deal Brexit edging ever closer on the horizon.

But amid all that uncertainty lies opportunity. For Aruna Karunathilake, manager of the Fidelity UK Select Fund, a recent addition to our Select 50 choice of favourite investments, there’s “a lot more recovery potential in the UK market, which has lagged behind markets such as the US”. Karunathilake seeks to own good businesses for the long term - as such, he is hopeful that his fund will be in prime position to reap the rewards as the UK begins to realise that potential.

Quality first

When my colleague Tom Stevenson caught up recently with Karunathilake, they spoke about an investment ‘tug of war’ between negative and positive factors driving markets. In the UK, it’s easy to assume that the negatives are pulling the positives off their feet. Luckily for the manager, he’s not too concerned either way.

As he explains: “Fortunately for me I’m a bottom-up investor. I don’t spend too much time thinking about this, it doesn’t drive my decisions.’ That’s not to say that Karunathilake ignores macroeconomic factors, but that he’s more interested in understanding individual businesses, their fundamentals and growth potential.

For this manager, a bottom-up focus is paramount in times of market distress like these. As he puts it: “At Fidelity, we’re a house built on fundamental analysis. So, what I do when working with our team of analysts is to try and identify those companies that can get through this uncertain time and emerge stronger coming out the other side.”

That means Karunathilake is relatively agnostic towards different investment styles - when asked about whether he favours a value or growth approach, he replies: “neither”. If he did have a preferred style, he’d probably call it ‘quality’ - he looks for “high quality companies that have some sort of competitive advantage or ‘moat’ (i.e. companies that have some key advantage over competitors that protects their market share). That means they’re able to sustainably generate good profits for years to come.”

Karunathilake has a checklist for every company he looks at. He likes companies with a strong brand, that dominate their industry, and that can demonstrate good cash generation, a strong balance sheet and a simple business model.

These criteria naturally draw him to certain industries over others. Consumer goods, industrial and media companies tend to suit his objectives, while banks and life insurers struggle to give him that competitive ‘moat’ he looks for.

That leaves Karunathilake with a relatively concentrated portfolio of around 40 stocks. It’s a figure he feels offers enough diversification while capturing the value of each. As he explains: “I would rather invest in a smaller number of my highest conviction stocks, rather than diversify into lower conviction names.”

The manager feels these principles have helped see the fund through a difficult 2020. When discussing the fund’s largest holding, Unilever, he credits its success this year to the resilience of its business model, with a product range that’s diversified enough to carry underperformers while still seeing the upside of products that have sold well over lockdown. But for Karunathilake, resilience alone is not enough - his companies also require the sort of agility that Unilever demonstrated by ensuring the right products made it to shelves at the right times.

Karunathilake is drawn to companies like Unilever that can generate sustainable returns regardless of market conditions. That’s why he’s not too worried about the current recession - in fact, he sees it as something of an opportunity.

He is “very keen to have exposure to some of the more uncertain areas of the market. It’s when you look at these unloved areas of the market that you have the biggest opportunity to pick up a real bargain.” For him, depressed economies such as the UK’s offer up quality companies at attractive prices.

For UK investors, then, there may be cause for optimism. In Karunathilake eyes, “patient investors should consider building a position while evaluations in the UK remain favourable.” This manager certainly will be.

More on Fidelity UK Select Fund

Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. This fund invests in a relatively small number of companies and so may carry more risk than funds that are more diversified. Select 50 is not a personal recommendation to buy or sell a fund. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.

Topics covered

Active investing; Funds; Investing ideas; UK

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