3 Unloved Investment Opportunities

Andrew Bell: Hello.

Wall: So, what is your first investment tip then?

Bell: I think we're always looking for undiscovered or underestimated growth. And I think one of those areas that I think is now coming back into favour is the banking sector.

Wall: It's very controversial, the banking sector, of course.

Bell: Yes.

Wall: If you played it right like hedge fund manager Crispin Odey, you would have made quite a lot, but then before that and after that, you would have lost money as well. So, why is now the right time?

Bell: Well you can either be the sort of wrestling with a lion person, who buys the thing at the very bottom of the cycle when it's extremely cheap, but it might go bust and we didn't do that or our managers tend not to do that. Or you can buy a sector where there is a bit of a hangover of poor sentiment because of obviously how bad things have been. But where the outlook for the economy is improving, therefore the bad debt charges are going to do down, lending growth is probably going to pick up, capital is being rebuilt, and I think that's broadly speaking where we've reached for at least the U.K. and U.S. banking sector.

And I think there's been a strong recovery in some of the domestic banks in the U.K. One or two of our managers have been sniffing around at HSBC (HSBA), for example. It's got exposures of the Far East, which people have become quite negative about over the last year, but the stock market pendulum tends to overact. And as it's one of the few banks that came through the last cycle without needing state aide or any form of rescue, it's an interesting symbol if you like of the idea that something that was yesterday's toxic waste can be tomorrow's opportunity.

Wall: What's your second investment tip?

Bell: Well private equity is another area that we started looking at a few years ago.

Wall: Within that, I mean people hear private equity and a lot of people simply think risk, risk, is that not the case?

Bell: There is a degree of risk and you have to be confident about who your manger is, because that makes a big difference. What point of the cycle you are buying; because the risk is greater at certain points. Private equity tends to use borrowings in financing the companies that it backs. Obviously, if you have borrowings going into recession, that can be a disaster. Over the last two or three years, most of these companies have been paying down borrowing, so they are becoming more secure.

Some of the private equity trusts were very cheap a few years ago, because of this sort of toxic waste, they-might-go-bust type of fear. And I'm talking about the quoted private equity vehicles, not buying unquoted stocks which Witan tends not to do. But the likes of Electra (ELTA), 3i (III) and so forth are ways that the individual investor or the institutional investor can buy portfolios of private equity companies. And if they change their mind or if they want out, they can sell. They don't have to wait till the end of the investment period.

Wall: It's liquid.

Bell: Yes, exactly.

Wall: What's your third investment tip?

Bell: I think the market is too gloomy about emerging markets. I might be a bit early in saying that. But I can remember three or four years ago, everybody was kind of talking about the yellow brick road to China if you like. And I think after 10 years when emerging markets have grown more rapidly than the rest of the world, we have seen this fueling the commodities boom and everything, people were very optimistic.

And now people – and despite the fact that emerging markets, they said you are getting faster growth, you're paying up for it a little bit, but even so. And now they're saying, you are getting slower growth or political problems and they're trying that – the people are talking about reducing their exposure to emerging markets even though they're now on a discount to Western markets. And I think the sentiment cycle might have a little bit further to go, but I think over the next year or two, I think the contrarian will be rewarded by buying into the cheaper asset class.

Wall: Is there not now an argument that as you said they did so incredibly well, exponential growth over that sort of 10, 15 year period in the run-up to the credit crisis. Is there not an argument now that says that nothing can grow like that forever? Is there not a plateau?

Bell: Trees don't grow to the sky. Yes. Well but they're all starting from a much lower plateau than we are plateauing out at. And if you look at living standards, whether it's housing standards, car ownership rates and so forth, they are way below those in the Western world. And I'm sure that they're not going to be satisfied with the idea that there's some natural law that says they can't get to our standard of living.

I think what did come out though was that, a number of emerging markets did well because they were big producers of commodities, and clearly the – some of the juice has gone out of that. Commodities will benefit from improvements in global growth. But I think the prices have got to be more modest than we've seen.

So clearly, the commodity theme has kind of diluted, and that affects one or two economies the likes of Russia and Brazil particularly. And there are other economies which managed to disguise poor economic management under the general sort of abundant global liquidity or because they had commodities that were sort of highly priced. So I think you've got to be more stock-specific. But I think if you just took the average, the whole of that bundle of emerging market equities was quite highly priced compared to developed markets as a sort of growth premium four years ago, is now on a discount. And I think if you are selective, I think there's value there.

Wall: Andrew, thank you very much.

Bell: Thank you.

Wall: This is Emma Wall for Morningstar. Thank you for watching.