Fidelity’s Alex Wright is surprised the valuation gap between the UK and other global markets has not started to narrow despite good returns since the 2020 Covid pandemic.

The manager of Fidelity Special Values (FSV ) investment trust said continued outflows from open-ended funds were ‘puzzling’ given the UK’s recent political stability, spike in takeover bids combined with attractive dividends and a record number of companies buying back their cheap shares.

Wright said many domestic investors had been drawn to the strong performance of US technology stocks, but he cautioned their lofty valuations made them vulnerable to disappointments. Any sustained underperformance could cause investors to reassess their allocation, he suggested.

‘Conditions surrounding the UK equity market are beginning to improve and this should hopefully help turn the tide. However, as the past year has shown, inflows into UK equities are not necessary to be able to generate attractive returns, although they would clearly have helped,’ said Wright (pictured below at a Citywire event).

His comments came in annual results that showed the £1.1bn trust delivered an underlying total return of 24.1% in the year to 31 August, while the shares jumped 24.3%, beating the FTSE All-Share’s 17%.

This was driven by an ‘unusually strong earnings delivery’ across the all-cap portfolio and improving trading outlooks. The stronger economic backdrop has helped the share prices of the more economically sensitive small and mid-cap holdings begin to recover after a tough period a year ago.

Keller Group (KLR) was the top performer, with the ground engineer’s shares jumping after reporting positive trading and predicting its results would be materially ahead of the previous year.

The portfolio’s financial stocks also performed well with annuities specialist Just Group (JUST) benefiting from a surge in demand from corporate pension schemes, while composite insurer Aviva (AV) reported good results.

Among small and mid-cap stocks, Wright and co-manager Jonathan Winton picked up former ‘growth darlings’ such as online personalised greetings card company Moonpig (MOON), web services firm Team Internet (TIG) and specialist media platform Future (FUTR) after they were sold by funds suffering investor withdrawals.

They bought some defensive companies, such as Tesco (TSCO), and added to consumer health and hygiene brand owner Reckitt Benckiser (RKT), tobacco firm British American Tobacco (BATS) and National Grid (NG) after its shares fell following a £7bn rights issue in May.

‘Overall, we believe the portfolio is well positioned to benefit from the improving economic backdrop and we remain excited about the opportunity set on offer. Our holdings continue to trade at a meaningful 20% discount to the broader UK market, despite resilient earnings, superior returns on capital and relatively low levels of debt,’ Wright said.

Revenue return per share rose to 11.58p from 10.67p, leading the board to declare a final dividend of 6.3p that lifted total dividends for the year by 8.4% to 9.54p, covered 1.2 times and offering a 3.1% yield.

The shares, up 1.5p to 311p today and 10% below net asset value, have slipped 3.7% since August compared to a 2.3% decline in the FTSE All-Share.

Deutsche Numis analyst Ash Nandi said the discount represented an attractive entry point, given Wright’s 10-year track record at growing the portfolio by 9.1% a year versus 6.3% from the benchmark. Over a decade net asset value  including dividends has risen by 134.9%, according to Numis, beating the All-Share total 82.7% return.