(07/11/14) Fidelity's Focus on Special Situations

Our latest recommended fund is unique among Fidelity’s vast selection of stock funds, and unique throughout the fund industry, too; this special situations fund seeks to capitalize on specific corporate events, notes John Bonnanzio, editor of Fidelity Monitor & Insight.

Event Driven Opportunities (FARNX) is managed by Arvind Navaratnam. The 31-year-old special situations analyst never had a sector-focus (like most Fidelity managers do). Instead, he’s always worked on special situations, so it was only natural that he’d bring this fund concept to his bosses.

In December 2013, Event Driven made its debut,; this year has been strong, with an impressive 9.5% return through June. But this short-term performance is not the reason we’ve decided to purchase the fund in our Unique Opportunities Model portfolio. Event Driven is a good choice for several reasons:

1. Over the short-term, we expect it to be volatile. But, as investors who follow this model know, with the model’s 10-year investment horizon, the fund’s risk will be manageable;

2. Event Driven is an excellent way to diversify your portfolio away from other stock funds. Whereas macro-economic events typically drive the returns of most equity funds, that will be much less true for this corporate event driven portfolio;

3. Correlation should be low relative to the S&P 500 (SPX) and other indexes;

4. Between 1987 and 2013, an index of event-driven hedge fund strategies returned 1,261% versus 767% for the Russell 3000 Index.

Though there are certainly no guarantees that the next 27 years will show the same kind of outperformance—or any outperformance at all—it’s certainly reassuring to see that the fund’s investment process has had merit.

So how precisely will Arvind invest his shareholders’ money? The stocks he owns are not household names; few of his positions appear in any other Fidelity funds and, his stocks often have baggage. Arvind actually prefers to research companies that have fallen off Wall Street’s radar screen.

Arvind’s list of “investable events” include a stock’s deletion and/or addition to an index, M&A activity, restructurings and management changes, bankruptcies, increases and/or decreases to dividend payments, and share buybacks.

During a phone conversation, Arvind told us that his investment ideas come from many sources. He pores through 13D filings which indicate when an individual or entity has acquired more than 5% of a company. And he examines Form 4, which tells him whether corporate insiders are buying or selling their stock.

Arvind also says that his job is made easier owing to Fidelity’s 200 fund managers and analysts who generate high-quality, independent research reports on thousands of companies. Suffice it to say, there is never a shortage of investment ideas.

To that end, Arvind currently holds about 80 stocks that are “post-event” survivors, and have also passed his scrutiny. This go-anywhere fund is style-agnostic: its sector allocations, market cap, and other metrics like price-to-earnings are not concerns for him.

With no track record, we can only approximate that its addition to our Unique Opportunities Model will modestly decrease that model’s long-term risk—but only time will tell. Then again, given its investment objective, the more important outcome is our expectation that Event Driven will produce plenty of alpha, meaning excess return.