Fidelity China Special Situations 23 May 2024

Fidelity China Special Situations (FCSS) offers investors direct exposure to the Chinese growth story from a diverse range of sources. Manager Dale Nicholls has a bias to small- and mid-cap companies as he views them as the best way to capture the growth opportunities from the increasing wealth of the Chinese consumer and to generate excess returns. The trust also has structural Gearing in place to support the upside potential. Furthermore, the manager can invest in private companies, with a current weighting in the mid-teens, to create further differentiation from the benchmark and broaden the growth opportunities.

Whilst the manager is focussed primarily on capital growth, FCSS has increased its Dividend in every year since inception with the most recent annual dividend offering a historic yield of 3%. The trust was awarded Kepler’s Income & Growth rating for 2024.

Dale has delivered significant outperformance of the benchmark over the long term. Relative performance in the short term has also been strong, albeit against the backdrop of challenging conditions for broader Chinese markets. This has contributed to the shares trading at a wide Discount to NAV of c. 9%, wider than the five-year average. The board has been active with share buybacks as part of their discount control approach.

The trust has recently combined with abrdn China, having completed in March 2024. This has led to a growth in the asset base and is expected to contribute towards lower Charges going forward.

We believe FCSS is a good example of a manager maximising the capabilities of the investment trust structure (see Portfolio). By investing in a well-diversified portfolio with a bias to small and mid-sized businesses, unlisted companies and by running structural Gearing, manager Dale Nicholls offers investors something totally different to what they could get from an index tracker, and can capitalise on the plethora of opportunities that the Chinese growth story still offers due to his strong active management approach. As such, we believe FCSS could make for an attractive holding as part of a core global equity portfolio that can deliver very strong alpha over the long term, albeit with some periods of volatility.

We believe the opportunity right now is particularly compelling. China has been through a very challenging period, though the headwinds are arguably easing, and valuations remain very attractive. Recently published GDP figures came in above expectations which could indicate the economy is beginning to turn around. Furthermore, the trust is trading at a wide Discount which could make for an attractive entry point, especially when the board has an effective discount control mechanism to keep the level within single figures.

FCSS also has an impressive Dividend track record which we believe can complement total returns. Despite not being a focus for Dale, the dividend has been raised every year since the trust’s inception, is fully covered by revenues and there are enough revenue reserves to cover the dividend for nearly two years. As such, we believe the dividend is likely to continue to be a feature going forward, with the current share price weakness making the current c. 3% historic yield an attractive entry point.