Fidelity's Fruhan: Steady, big cap growth

by John Bonnanzio, editor Fidelity Monitor & Insight

In a fund complex that features well-known managers, Fidelity's Matt Fruhan has begun to make his own mark. Assigned to his first diversified stock fund just seven years ago, he has had to thrive in an especially turbulent period.

Of Fidelity’s five top-performing large-cap funds, Matt runs three: Large Cap Stock (FLCSX), since 2005; Mega Cap Stock (FGRTX), since 2009); and most recently Growth & Income (FGRIX).

When we caught up with him last month to discuss his funds, he gave us his broad investment philosophy regarding stock selection:

• Stock prices are driven by changes in earnings and yield expectations;
  
  
• The accuracy of earnings estimates deteriorate as time horizons extend;
  
  
• An increasingly short-term focused market causes securities to become mispriced relative to their true long-term value.
  
  
• Given the above, Matt also believes that when Fidelity’s in-depth research is combined with patience, pricing inefficiencies are capturable by his funds.

Back up at the fund level, Matt is assiduous in managing risk, monitoring fundamentals, and maintaining time-specific price targets. This year, the results have been boffo. Here’s how he’s arrived at these stellar returns.

Concerned about the growth rates of the BRICs (Brazil, Russia, India, China and South Africa), his funds are decidedly “U.S.-centric” as he finds better opportunities at home.  

He notes that the “cost gap” between China versus other areas are closing: Chinese “wage inflation and its talent pool,” he told us, “are not as fruitful” as else-where. Reflecting that view, the average foreign stock exposure of his three funds’ has fallen to 8% from 12% a year ago.

In the developed markets, Matt says that “Europe continues to be challenged” even as the ECB attempts to stimulate the economy in much the same fashion as the Fed.

Conversely, “the U.S. still looks pretty good,” and the economy is “only in the first or second innings of fundamental improvement.”

Some of his optimism is driven by housing. While he admits that its recovery is partly driven by monetary policy and not necessarily fundamentals (specifically, low interest rates and the Fed buying mortgage-backed securities), the net result is favorable.

For those with high credit scores, pur-chasing a home has rarely been more affordable. (The cost of buying versus renting has widened out significantly.)

Naturally, some of the biggest beneficiaries have been housing stocks, but unfortunately their share prices are “already in the sixth and seventh innings.”

So how is Matt playing this development in his portfolios? Through financials. While banks face a challenging new regulatory environment, their portfolios of under water mortgages “will start to decline. This, he says excitedly, “is a dollar for dollar earnings driver.”

Given that bullishness, all three of his generally sector-neutral funds are overweighting financials by an average of 2 points.

Apart from our desire to own large-cap stocks (relative to smaller-caps, we see some safety in their stronger balance sheets, cash, dominant market share, and global customer base), Matt’s G&I and Mega Cap Stock funds yield 2.7% and 2.3%, respectively. Meanwhile the 10-year Treasury yields just 1.8% and the S&P 500 yields 2.2%.

Says Matt: “I like the companies with a demonstrated record of paying shareholders, but aren’t yet paying what they could.”

Recognizing that “investors [increasingly] want their capital back,” he avoids the now-too-expensive top-yielding stocks, choosing to give up some income for better valuations. (His funds’ P/Es are lower than the S&P 500, thereby providing a degree of added safety).

Action Recommendation: While we’re constructive on U.S. stocks, we appreciate Matt’s sensitivity to stock valuations , which is an important risk control measure that fully compliments ours on the portfolio level. Needless-to-say, we continue to rate his three funds as 'Buy'.  

Learn more about this financial newsletter at John Bonnanzio's Fidelity Monitor & Insight.

Related articles:

• Matthews Pacific Tiger: On the ground in Asia
• H&Q Life Sciences: How to buy biotech
• Mortgage bond funds: Follow the Fed
• Asia pro launches Seafarer