James Morrow says he favours dividend-paying stocks because they can better withstand the market's ups and downs.
"Over five, 10 or 15 years, they tend to perform quite well relative to other investment styles. But in any given year, they tend to be a lower risk and less exciting place to invest," says Morrow, a portfolio manager with Boston-based Fidelity Investments who oversees the $461-million Fidelity U.S. Dividend.
"People liked that in 2009 and 2010, when the world felt like a scary place," says Morrow. "But in 2013, when the market was very robust, the dividend strategy lagged the broader market."
The market bias to growth-oriented names is reflected in the Fidelity fund's recent relative underperformance. The Series B units returned 25.3% for the 12 months ended March 31, versus 30.4% for the median fund in the U.S. Equity category.
Morrow, who has run the fund since its inception in November 2012, uses the Russell 3000 Value Index as a benchmark. He notes that the top 100 so-called "mega-cap" names are trading at more attractive valuations than the small- and mid-caps that comprise the bulk of the index.
Focusing on dividend-paying stocks effectively narrows the investment universe, but Morrow argues that it prevents him from owning many companies that do not belong in the fund. "What you're left with are companies that are mature, cash-generative and tend to benefit from barriers to entry. You get a less volatile part of the market," says Morrow.
A case in point is IBM Corp. IBM, the global information-technology provider whose stock has lately been out of favour due to concerns about the quality of its earnings. "People are nervous about the new technology implications from cloud-computing on its hardware business," says Morrow.
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"My bet is that IBM will work through these issues in the short term. The stock is so inexpensive, relative to the rest of the market, that you're setting it up for some nice capital appreciation. It's also got a 2% dividend yield. To me, the margin of safety on the downside is very strong."
A native of Rochester, NY, Morrow is a 14-year veteran who previously worked in retail and distressed debt. After graduating from State University of New York at Buffalo, with a BSc in finance in 1993, he encountered a tough job market but was hired as a store manager at Pier One Imports. Within a year, he moved on to Chase Manhattan and worked as a mortgage originator.
In 1995, Morrow was transferred to the corporate-finance program and became an analyst in the distressed-debt department, where he spent three years. "It was very formative in terms of learning how to analyze a company, its balance sheet and how to make projections," says Morrow, who describes himself as a bottom-up value investor. "I try to figure out what a company is worth and have the patience to wait for the market to realize its value."
In 1997, Morrow enrolled in the MBA program at the University of Chicago. During a summer internship at Fidelity he had his first experience in equity markets and landed a full-time position in the fall of 1999.
Morrow began as an analyst covering broadcasting, business services and semiconductors, which only reinforced his value orientation. "I had a lot of success in those sectors by doing exactly what I've done with IBM: waiting for sentiment to be negative, using valuation as a backstop and being willing to step in." Between 2001 and 2003, Morrow managed several sector funds such as Fidelity Select IT Services Portfolio.
In November 2006, Morrow began managing Fidelity Advisor Diversified Stock, which now has about US$2.2 billion in assets. In March 2011, he also began managing Fidelity Advisor Equity Income and VIP Equity Income, which in aggregate account for US$9 billion in assets. Later that year, he started managing the US$9-billion Fidelity Equity Income. In total, Morrow oversees US$35 billion in assets.
The equity-income funds offered in the U.S. are the model for the Canadian fund, which holds about 150 names. Single positions are limited to about 5% of fund assets. Recently, about 23% of the portfolio was in financials, 14% in energy and 12.5% in information technology, with smaller holdings in sectors such as consumer discretionary. Portfolio turnover has been moderate at about 35%.
One favourite name in the consumer sector is Comcast Corp. CMCSA, which has interests in cable, data, telephone, commercial services, theme parks and broadcasting.
Although Comcast took on a lot of debt to buy NBC, "their cash flow has improved and the balance sheet is in really good shape. It's under-levered as a company," adds Morrow, noting that the stock pays a 2% dividend. "You can make a sum-of-the-parts argument that gets you into the low-mid $60s, from the low $50s in the next 12 to 18 months. It's an exciting story."
