How to approach periods of stock market weakness

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In this episode, the focus is on the UK stock market. We examine the sharp sell-off that occurred in early April in response to US tariff uncertainty, and then consider the outlook ahead. Joining Kyle this week is value investor Alex Savvides, manager of the Jupiter UK Dynamic Equity fund. Alex joined Jupiter last October, having previously managed a value fund at JO Hambro for just over two decades.

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Kyle Caldwell, funds and investment education editor at interactive investor: Hello, and welcome to the latest episode of On the Money, a weekly bite-sized show that aims to help you get the most out of your savings and investments.

In this episode, the focus is on the UK stock market and we examine the sharp sell-off that occurred in early April in response to US tariff uncertainty. We're also looking at the outlook ahead given that there's now been a trade deal struck between the US and the UK.

Joining me to share his views is Alex Savvides, a UK value-focused investor who manages the Jupiter UK Dynamic Equity fund. Alex joined Jupiter last October having previously managed a value fund at JO Hambro for just over two decades.

So, Alex, over the past couple of months, the stock markets have been more volatile due to uncertainty over US President Donald Trump's tariff policies. We'd had the US/UK trade deal, and the US and China announced a reduction in the tariffs they imposed on each other. Do those trade deals reduce the risk of a furhter sharp short-term sell-off like we saw in early April for the UK stock market?

Alex Savvides: Thanks, Kyle. Nice to be here. Hi to all the listeners. Yes, it's definitely been volatile. Over the last few months, there's been a lot to deal with. You wouldn't want to be a macro trader at the moment. Taking a step back and looking at last year, particularly for a UK investor as we are, you've had a lot to deal with. You've had the new government in the UK and the Budget as a result. You've had the new Trump administration and, of course, then the introduction of the Department of Government Efficiency (DOGE) in the US with quite heavy-handed tactics.

You had Deep Seek. Remember the Deep Seek situation, which caused people to think about what was going on in the tech market as well, and then, of course, the quite strange approach to peace talks with Ukraine as well to deal with, and then the tariff crisis now. So, bond yields have been very volatile, and the backdrop for equity investors has been very volatile as well. Specifically to the tariffs, it's just another issue that the market has to deal with. It looks like it might settle down now.

We've had a deal in the UK. We've had a change in terms with China as well, and there are further talks to come. And, of course, from equity markets' perspective, we've had a full recovery, actually. The markets are broadly back to where they were before Trump's self-styled Liberation Day, and so in one way, you could look at it and say there's nothing to see here. We're sort of back to where we were, but the journey from a to b has been extremely volatile.

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Kyle Caldwell: And how do you approach these periods in which stock markets become more volatile? In early April it was a sharp sell-off for the UK market, and before that, the US market being in descent from around mid February. Do you use these sell-offs as an opportunity?

Alex Savvides: Again, taking a step back, I launched my fund in 2008. Actually, I've been in the stock market for longer than that, and we've grown used to uncertainty. We've grown used to volatility. You don't have to look back very far to see some pretty seismic events that have gone on in the world. You know, just thinking back over the last 20 years, you've had the global financial crisis, and you've had the near breakdown of the European Monetary Union.

For the UK, you've had the Scottish [independence] referendum followed by Brexit. Then, of course, you had Trump and the first iteration of the trade war. And then, of course, you had a pandemic. Then we've had the Ukraine war and the inflation, a changing interest rate environment. So, volatility and uncertainty around macro is something that we've all, as equity investors, grown used to.

I launched my product back in 2008 in the middle of the financial crisis. I remember at the time, the net asset value (NAV) of the fund in the first three weeks was down 30%, and that was ahead of the market's move. So, as an investor, I've got a narrative that we'll talk about, I've got a way of dealing with these things. I'll talk about it.

But we've become quite cushioned in some ways to these volatile periods. So, you have to take a step back. You have to recognise them for what they are. They are transient, typically. You know, these periods of macro volatility come and go.

And, of course, we try and stay focused on what we do best as a fund, stay grounded around that process, focus on the fundamentals of our stocks. We are fundamental long-only investors, and deal with it that way.

Kyle Caldwell: And how do you stay focused and patient and focused on the long term when you see share prices fall on sentiment rather than fundamentals?

Alex Savvides: It goes back to the process, I think, actually, Kyle. You know, you have to have something that you can fall back on. You have to recognise why you are owning the stocks that you own, for example, as an equity investor. We are not trying to make money from the latest macro trend. It's not what we do, it's not what we specialise in. There are people who try and do that, we don't.

We try to make money over the long term from a subset of what we call value investments, but it's value with a difference. We focus on companies going through business transformation.

So, not only a value recovery, they start with value credentials, cheap stocks, high dividend yields, high free cash flow yields, low price/earnings ratios, but there's something broader going on.

There's a board that's committed to business improvement. There's a new management team, new strategy that's trying to out those improvements, create those improvements financially, but across every metric in that company. And if you're investing with that purpose and you're an engaged investor as we are, talking to management teams, talking to boards about the changes, you can remain focused on the things that matter, which are the long-term changes in the financial direction of that company as the management team lay down capital for the future, as the management team deal with issues that might be affecting revenue growth or margins or cash flow.

So, staying grounded in a process, being engaged with your corporates that you invest in, acting like an owner of those companies, we buy one share, we buy a million shares. We think like an owner. We park ourselves mentally on the board of the company. We want to take an active part in the debate over capital allocation and what happens next. With that focus, you can, to some degree, ignore - it sounds simple, but it's not easy - the shorter-term movements in the stock market and stay focused on the longer-term price.

We talk a lot about time arbitrage. We've put our quarterly note out recently in the last few days called 'the engine room'. You know, during periods like this that we've just had in April, where you get a macro factor that causes a bout of what we liken to mass anxiety, a big anxiety attack among investors out there. What's going on? What do we do?

You see avoidance tactics just like you do with normal anxiety bouts. You want to avoid it, and so you focus on the short-term noise. You avoid any risk in any form, and that creates an opportunity for you to practice time arbitrage. Because if I'm focused on the future, three to five years hence, maybe 10 years hence, I can use this particular period as an opportunity to buy the shares that we like in the companies and management teams that we back at cheaper prices.

And so there's a fantastic, what we call time arbitrage opportunities, you arbitrage different investment time horizons. I'm not saying one is better than the other, but if I have a short-term horizon and I'm minimising risk and I have a longer-term time horizon and I'm maximising return, we can lay down capital with that mindset. And I think staying grounded in all of that allows you to take opportunity from these periods.

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Kyle Caldwell: As well as targeting undervalued companies and wanting to back certain management teams that you think will change around the fortunes of certain businesses, you like to see companies have a lot of cash. Could you talk us through that?

Alex Savvides: Yeah. Look, the process is very simple. We do business transformation, we don't do balance sheet restructuring.

So, while we're baked in our value credentials, looking at companies at low points in their life cycle where they're going through a period of uncertainty, typically, we're looking for companies where the uncertainty has been driven by prior mismanagement of capital, prior capital allocation decisions, so spend decisions that haven't necessarily generated the value that was expected at the time.

In fact, going back and looking at the last decade and drawing it back to some of the macro constructs that we've had for corporates and for equity investors, we had an era of extremely easy money. Monetary and fiscal policy was extraordinarily loose for a long period of time to deal with the financial crisis first, and then a succession of other issues.

In that environment, I think there's strong evidence of lots of companies that laid down capital with maybe some flawed maths at the time over anything, the expected revenue growth, the expected global economic conditions, then maybe cost of capital, where interest rates rates might go next, flawed maths over the amount of growth they might generate, etcetera.

And I think lots of companies thought that we'd come off this low interest rate period smoothly, but we didn't, we came off it with a crash, with a pandemic, and what academics are calling a 'poly crisis', you know, pandemic, climate change, Ukraine war. Now the tariff issue, you can add in a succession of crises that have come together to make a very difficult environment.

And, of course, interest rates went from 0% to 5% broadly, and that made it very difficult for companies to generate the value that they expected from that investment. And we see so many opportunities among established companies where they have made prior errors of capital allocation and the opportunities that come to us today, not just from short-term things like the tariff tantrum, but from longer-term capital allocation decisions that haven't worked.

We see that in all the companies that we see today. They're established businesses. They've been around a long time. They have broadly generated strong returns or good returns throughout history. They have established market positions. They have a service that has been around a long time or a product that's been around a long time, has generated a market share and a market position, but it's not generating the returns today that it should be.

And so just by changing the management team and the strategy and the narrative, by focusing on your existing asset base rather than spending more money, and sometimes under pressure from stakeholders and shareholders like us to do better, generating more cash from the same set of assets, ie, a higher return on that capital, can do wonderful things to share prices.

So, the opportunity set that we look for is, yes, cash-generative companies, yes, established businesses, yes, businesses with value credentials. But we talk about five pillars, the right business, not just any cheap company, the right company at the right valuation with the right management team, also the right time and the right board that's supporting the strategy for improvement. So, that's what we look for, and I think it's quite a ripe environment to do what we do.

Kyle Caldwell:As a value investor, when you're examining companies and seeing how much cash they have, do you prefer that cash to not be paid as a dividend? Occasionally, there are examples where companies overprioritise paying a dividend rather than putting it back into the business to grow organically or using that cash in the future to potentially fund an acquisition.

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Alex Savvides: It's a really interesting debate. It's actually a debate we had with a company yesterday - I won't mention the name - that I might argue is slightly overdistributing relative to some of the opportunities that they have in front of them.

I think as a fund and as a team, we talk about balance quite a lot. I don't necessarily believe that it has to be one over the other. I think you, as a board, need to be disciplined. First things first, generate the cash, make sure you are the best you can be on revenue and profit reinvestment on working capital, on capex. And if you have excess capital, then we'll think about what needs to be done with it, and it might be a blend of dividends or share buybacks or you spool the cash up on the balance sheet for a reason, for a period of time. Or you reinvest it at a higher rate because you have the ability to generate a higher marginal return from that investment because you've come up with something that's different.

I wouldn't say we're agnostic, but we are very much focused on balance, and when we talk to boards about this very subject, we do talk about that balance. You shouldn't overdistribute to shareholders. It can become very alluring, and lots of shareholders can ask you for that cash. Income-hungry funds can need the cash. They don't think that they're doing something negative by asking for the cash from a company through dividends or share buybacks, but it might be putting the longer-term health of that company at risk. So, we're very alert to those situations.

I would have a preference if a company can invest in itself at a higher marginal rate of return in something that's differentiated, we would always suggest that they do that, but we have a process that also likes the discipline of a dividend payment. It instills discipline in management teams. Being able to pay a progressive dividend, I think, is a good focus for companies, but balance, I think, is the key.

Kyle Caldwell: And you run money in a concentrated manner in the funds typically between 25 to 40 stocks. Could you talk through why you run money in that way, as some of your peers will have a lot more than 40 stocks? I mean, a lot of them will have 60 to 80 in a portfolio, for example.

Alex Savvides: Yep, and there's no one way of doing it in the stock market. There's many ways of skinning a cat, I say.

The way that we run money, the way that we look for higher-quality business transformations over multi-year periods because we take an ownership approach and think and engage with boards about the right changes for the company, it promotes patience. It promotes less stocks. These opportunities don't come around all the time.

So, subtly different, you start with that value mindset, but you try and unearth companies that can go through multi-year periods of first recovery and then reinvesting for growth, and it's not always the answer, it's not always the case. But occasionally, you get these ones that come through, and if you sell them too early, your reinvestment risk is very high.

A good example is 3i Group Ord (LSE:III). We had it in our fund from almost the beginning of the fund. We launched in 2008, and in 2009, we bought a stake in 3i. Fifteen years later, when I left my last firm to come to this firm, it was still in the fund and was still the largest position 15 years later. An investment at the time when we bought it at £3 had become almost £30 over that period of time with material dividends back each year from exactly the type of strategy that we talked about, disciplined capital allocation, focus.

They shrunk the number of stocks in the portfolio. They focused their internal capital around a smaller subset of what they considered winning private equity investments. One of them took off and was super-powerful as an investment for that company, and it generated compound returns, and it's still generating compound returns for that company.

The reinvestment risk, if I had sold that after year three of the investment when the discount to book value, so you trade a company like that around its book value, the value of its investments, you're either at a premium or a discount. If you had sold it when it had gone quite simply from the starting point, 40% discount to book to book value, you would have given up on the next 10 years, multi-year returns, multi-year compound returns.

We don't do it all the time, but a business transformation process has the ability to select for the ones that have a very high chance of making it through to become growth compounders. We don't own that company anymore. We own a company called ConvaTec Group (LSE:CTEC), which is the largest stock in the portfolio. Five years of business transformation. Bought on a p/e of 12 for a medical devices company with very defensive revenue streams. Five years of transformation have seen that company go from 2% revenue growth to consistently now around 7% to 8% revenue growth, dropping that cash through at a higher marginal rate of return.

The outlook looks quite secure because of the breadth of products they've invested in, the diversity of products driving that revenue growth looks quite secure [and] that could continue for a long period of time with high marginal cash generation and drop through. That's very powerful. That could generate compound economics for that company as well.

Kyle Caldwell: In the recent pullback for the UK equity market in early February, did you use that as an opportunity to introduce any new holdings or top up positions where you felt the sell-off was overdone?

Alex Savvides: It was a great opportunity to practise time arbitrage, to be honest, Kyle. All the things that we've talked about today, it was such a rapid anxiety-driven sell-off that there were opportunities across the portfolio to put money to work. I wouldn't single any out particularly, but virtually everything in the portfolio had an amount of capital put into it at that particular point in time because, in our view, [we were] getting the companies and management teams that we liked just at simply cheaper prices with very little material change to their longer-term cash-generating capabilities dependent on the tariff outcome.

Now to some degree, you have to hope and expect that some rationality would come to the fore with the tariff situation, and it's proven that a lot of what we saw was short term. It was noise rather than news. There was lots of sort of showmanship for effect going on. Undoubtedly, there is a serious point underneath the surface with tariffs and the US' competitive position and its trade balances. But our perspective was we just got the opportunity to buy our companies at cheaper prices at that particular point in time.

Kyle Caldwell: As I've mentioned in the introduction, last October, you took over the Jupiter UK Dynamic Equity fund. You previously worked at JO Hambro for just over two decades. How did you approach taking on a new fund? I was going to compare it to a blank sheet of paper, but it's not obviously quite like that because I'm assuming there's certain stocks in the fund that you've inherited that you didn't want to have in the fund.

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Alex Savvides: It isn't a blank sheet of paper, actually, and I'm not sure I'd do it again, to be honest. I deliberately took over from someone who is and was a very good fund manager and their team had a very good track record. I was proud to take over from the individuals that we took over from. I'm proud of what we do and why we do it.

I was out of the market for eight months, and so the way I saw it, the team that we were taking over from, who are themselves value investors, were doing our work for us, actually, they were our eyes and ears. Lots was going on in the UK market while I was in the garden, as they say, and a couple of ideas were put into the portfolio during that period that I would have done myself.

Because we weren't taking over from a fund that was broken necessarily, you didn't have to take a clean piece of paper approach. Putting some numbers around it, around 60% of the fund that we took over were stocks that were either in our old portfolio or were ones that we would have put in the portfolio during that period that we were away, the ones that I mentioned. So, the work has been on that 40% of the portfolio where we thought we could introduce more business transformation style ideas.

Yes, they had the value characteristics that the previous management team of this fund were looking for, but actually the control characteristics of better management and strategic change that was not represented in the 40% as well as it should have been, it was represented in the 60%.

And so over the last seven months, we've transitioned all that across, and today we have a fund that is transitioned across to what we would hope and expect from the type of investments that we make. Our job at the moment is just getting the right position sizes, and we're getting through that work, but it's a tough process.

There's lots of things that you don't think about when you're switching firm. It's not easy, not simple. You have an old client base that you need to bring back across. They want to see you doing the same things that you did previously, but you have a new client base from the new fund that is a new stakeholder in you. You need to educate that new stakeholder into what you do and why you do it. The subtle differences between what they had before and what they have today. There are differences, but you need to celebrate them, and we need to do that education. So, it's a tough piece of work, but it keeps you alive and it keeps you focused, and we've enjoyed doing it. But I'm not sure I'd do it again.

Kyle Caldwell: Thank you, Alex, for coming on the podcast, and thank you for listening to this episode of On the Money. If you enjoyed it, please follow the show in your podcast app and tell a friend about it. And if you get a chance, do leave us a review or a rating in your podcast app too. You can join the conversation, ask questions, and tell us what you'd like to talk about via email on OTM@ii.co.uk. And in the meantime, you can find more information and practical pointers on how to get the most out of your investments on the interactive investor website at ii.co.uk, and I'll see you next week.