What follows are two extracts from Investing against the Tide, Anthony Bolton's account of his decades spent managing one of the UK's most successful funds. You can buy the book at a discount in the IC Bookshop.
My favourite type of share
"At the heart of my approach, particularly in the [Fidelity] Special Situations Fund, has been buying recovery or turnround stocks on attractive valuations. These are normally businesses that have been doing poorly, perhaps for some time. Many investors, in my experience, don't like to be associated with businesses that are not doing well and can miss when a change for the better occurs. This often involves changes in the management team, a restructuring or even a refinancing (or a combination of these).
In a similar vein I like unpopular shares. Peter Lynch liked shares with one or more of the following characteristics: Does it sound dull, or even better, ridiculous? Does it do something dull? Does it do something disagreeable? Is it a spin-off? Is it disregarded and not owned by institutions or not followed by analysts? Do rumours abound involving something like waste or mafia ownership? Is there something depressing about it? Is it a no-growth industry? These are all characteristics that tend to put off the majority of institutional and private investors and can lead to attractive investment opportunities.
A great sign often comes when analysts give up on a company and there are few people making forecasts on the business. Another opportunity can arise in companies coming out of bankruptcy or Chapter 11. I've done well with these types of company, such as the cable TV companies, Marconi and Eurotunnel. They tend to be completely off most equity institutional investor's radar screens. In a similar vein are companies with complex or unusual capital structures, which put off many investors.
In my experience, the best recovery stocks are those where new management comes in who can demonstrate that the company in question lags behind its peers on a number of fronts and they have a clear plan, which normally involves doing lots of little things better, to return it to performing in line with, or better than, its competitors. If these factors are measurable so much the better, because you can keep track of how the new team is doing and how far along the recovery path they are. Retailing, where it's often said 'retail is detail', is a good source of these types of recovery situations. You must not confuse a recovery situation in an underperforming but otherwise satisfactory business with a company with a poor business franchise; these may never recover."
How to buy a recovery stock
"Often you need to buy a recovery stock before you have all the information and making the purchase doesn't feel comfortable - don't be put off by this. By the time all the information is there and the recovery is established, an investor will have missed some of the most rewarding times to own the shares. Sometimes investors must force themselves into this 'discomfort' zone. However, on the downside it's very easy to be too early in recovery stocks and this is the mistake many investors make. I will sometimes take a very small holding at this stage (say 10 basis points) which helps me focus on the stock and then add as my conviction grows that the worst is over.
It is an important observation that the first bad news (such as the first profit warning) is rarely the last. A warning sign of more bad news to come can be what are called 'brave face' trading statements from managements. They tend to be general and bland and not very specific about the future. So a recovery buyer must be patient, especially in timing his main entry point. Where you have conviction, averaging down is a good strategy, as Bill Miller points out. Since I've run large funds I have had to be early anyway and buy when there are shares available.
Often our own analysts can finesse their ratings on shares and go positive just as the share price starts to recover. I've needed to be at least one move ahead of this, so I can have accumulated a decently sized position before it's clear that things are improving and when there are still sellers in the market.
A particular situation that occasionally occurs is one where the shares of a particular company decline for some time in anticipation of an event for the company that is well known and perceived to be bad for the company (such as a big lawsuit or an entrant into their market). Often, by the time the event arrives it is well in the price and buying just beforehand makes sense."
Extracted from Investing Against the Tide by Anthony Bolton. Published by FTPH, an imprint of Pearson Education on 26 March 2009 at a price of £14.00. ISBN: 9780273723769, 240 pages.
• You can buy Investing against the tide at a discount in the IC bookstore
• Read Moira O'Neill's interview with Anthony Bolton
• Add your comments below
