The upside of debt
Big debts? No problem.
What sounds like a dubious consumer credit pitch could describe the premise behind Fidelity Leveraged Company Stock fund, which buys shares of companies carrying substantial debt loads.
The fund was a clever bet on the stock market and interest rates when it was launched in December 2000. Shares of heavily indebted companies were getting clobbered, but plunging interest rates would permit them to refinance and save a bundle. Leveraged Company Stock started slowly, but the strategy paid off handsomely over four years.
Fast forward to 2005, when conditions are much different. Interest rates are climbing, people are talking about inflation, and stock prices are considerably higher. But the fund and its current manager, Thomas Soviero, are still running circles around the competition.
Leveraged Company Stock doesn't fit conveniently into any of the standard mutual-fund categories. But Lipper Inc. ranked it second among 313 core value funds for the first three months of this year, when the fund earned 5.4 percent and the Standard & Poor's 500 index lost 2.2 percent. Soviero's gain of 24 percent over the past 12 months is tops among 298 competitors, according to Lipper.
This is one of the most intriguing mutual fund questions of 2005: How can a strategy that worked so well in one situation continue to outshine the competition when market circumstances are beginning to turn upside down?
Soviero has a quick answer. ''You have to think about why rates are rising," he says.
But it helps to take a step backward first. Leveraged Company Stock invested heavily in consumer companies, telecommunications businesses, and financial firms right out of the gate early in 2001. The fund's original manager, David Glancy, picked the stocks he liked and bought them by the bushel.
A year after the fund was launched, Glancy owned lots of stocks but more than 57 percent of the money was invested in his top 10. About 20 cents of every fund dollar was held in shares of a single company, satellite broadcaster EchoStar Communications Corp.
The portfolio roughly broke even in its first two years, while the broader stock market took a beating, then produced a booming 96.3 percent return in 2003 that made the fund a standout and persuaded Glancy to leave Fidelity for the hedge-fund business. Enter, Soviero.
The new manager continued to hold many of the same stocks in the Leveraged Company Stock portfolio, but the investments he began to emphasize changed the focus of the fund. Consumer stocks and financials became much smaller slices of the pie. Energy and materials became favorite sectors and Soviero bet big, just like Glancy before him.
''I started with oil tankers, and that led me to other things," Soviero says. ''I believe in having the most money in your best ideas."
Now, about 55 percent of the fund's $2.8 billion is concentrated in 20 stocks. Energy investments alone account for 37 percent. The biggest positions: power company AES Corp., Teekay Shipping Corp., General Maritime Corp., and Forest Oil Corp., four stocks up an average of nearly 22 percent so far this year.
Most of those companies and the others in the portfolio carry substantial debt. Ask Soviero whether rising rates pose a problem for his stocks and you'll return to the question about why they are increasing.
Higher oil prices and demand for materials from parts of the world that are booming don't pose a problem for indebted companies if they can pass the higher cost on to customers. If the higher expenses are triggered by hot demand for services those companies provide, all the better. ''A little bit of inflation is not a bad thing for leveraged companies," Soviero says.
Of course, inflation can climb higher and cause real problems for everyone. Increasing oil prices will crimp economies at some level.
But not yet. Tom Soviero is deep into debt and still better off for it.
Steven Syre is a Globe columnist. He can be reached at syre@globe.com.
