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Large Caps Ready to Cast a Line

Greg Carlson

Greg Carlson: Hi. I'm Greg Carlson. I'm a mutual fund analyst with Morningstar. I'm joined today by John Roth, the manager of Fidelity New Millennium and Fidelity Mid-Cap Stock. Thanks for joining us today, John.

John Roth: Pleasure to be here.

Carlson: Now, John, just to spell it out for the folks watching, you've run Fidelity New Millennium since 2006?

Roth: Yes.

Carlson: And you took over Fidelity Mid-Cap Stock about a year ago?

Roth: Yes.

Carlson: Now, New Millennium is a fund that's traditionally been fairly all-cap. It has kind of bounced between mid-cap growth and large-cap growth categories, whereas Mid-Cap Stock is more focused and has a very clear mid-cap mandate. Can you talk about how you view the differences between the two funds and how you balance those two mandates?

Roth: Yeah. New Millennium is an all-cap fund; it's considered to be go-anywhere. So, I look at the entire market, but at the same time, I am trying to beat the S&P 500. My mandate is to beat the S&P 500, and I can look at the whole market to find opportunities to do that. I invest in large-, mid-, and small-cap firms.

Mid-Cap is a very dedicated mid-cap fund. So, when I think about suitable investment for the Mid-Cap fund, I'm really focused on those in the $1 billion to $10 billion market-cap range. I find that there's a lot of synergies in managing both products because I think it's really important when evaluating the mid-cap space to understand what large-cap companies are doing. Acquisitions are an option for large-cap companies to grow, and when they look for acquisitions, they'll look into mid-cap space because those tend to be big enough to really drive the growth needle for a larger company.

I think it's particularly interesting today because I think we're in more of a growth-challenged market, but at the same time, a lot of large-cap companies have very strong balance sheets with a lot of cash. I think there will be opportunities for mergers and acquisitions to drive growth in the large-cap space, and these companies will be fishing in the mid-cap sector.

And conversely, I think it's important to look at small-cap companies because they're going to be the next hopefully companies that grow up to come into the mid-cap space. I feel like covering the whole market with New Millennium really helps me with Mid-Cap, and focusing on the mid-cap sector for the Mid-Cap Stock fund helps me get the best quality mid-cap names into New Millennium. So, I really enjoy managing both products.

Carlson: Now New Millennium is in the large-cap growth space now, but it still owns a fair amount of mid-caps. So, you end up with a decent amount of overlap between the two funds, correct?

Roth: Yes. Between the two funds, each fund has roughly 200 names in it, and there's about a 100-name overlap between the two.

Carlson: If something is, say, a small-cap which you do buy at times, is it more likely to end up in one fund or the other?

Roth: It depends. So, in New Millennium, I can own companies that have market caps as low as $100 million or $150 million. In that case, I would probably just own that in New Millennium. Now, ideally, if the stock continues to grow, once it becomes a $500 million, $600 million, or $700 million-cap firm, then it becomes suitable to putting it in the Mid-Cap fund. So, the home run scenarios are the stocks that start small, wind up in New Millennium, become larger, and then can wind up in both funds. Then hopefully, they can graduate out of the mid-cap space. Those are few and far between, but that would be the idea.

Carlson: Just expanding a little bit more on the positioning of New Millennium, that is a fund that was run for a long time by Neal Miller. You took over from him in 2006, when he retired. Under his watch, that fund really bounced around a good bit. Over the last three years, the fund has been pretty much in the large-cap growth space. Do you expect that to continue over long-term?

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Roth: Yes. I think one of the good things about the mandate of the fund is that it is flexible. Could there be a scenario where large-caps do not look particularly attractive, and I would want to bring the cap down because there's more opportunity in mid-caps? Possible. But in general, I'm trying to beat the S&P 500. I'm spending a lot of time looking at larger-cap companies. So, that's kind of put me in that box for a while.

I guess really only extreme examples I think would knock me out of the box. If we went back to a situation like in 1999, when large-caps traded at very high premiums relative to past valuations, then maybe I wouldn't want to be as much weighted on large-caps in that scenario. Maybe I would want to try to get out of that and move it down cap a little bit. But for the most part, I think there's a lot of opportunity in large-caps today, and I don't foresee really changing from that box.

Historically, I've managed between mid-cap growth and large-cap growth. I tend to be more of a growth versus a value manager. I find more opportunities there. So, I would expect to stay more on the growth side, as well.

Carlson: Talking a little bit more about 2011, obviously that seemed, to me at least, to be an impressive year for New Millennium because your overall market-cap profile is a good bit smaller than the S&P 500. 2011 was a great year for mega-cap stocks, yet you did edge out the S&P. The fund did quite a bit better than its category peers?

Roth: Yes. One of the lessons that I learned from 2008 was, when things look like they are deteriorating, you have to use that lever in your fund and adjust it to become more defensive. If I had to critique myself for '08, I would have done things differently. I lost that year, and I would have preferred to have not lost that year.

Coming into 2011, a lot of the same kind of issues that plagued the system in '08 started to resurface. There were also warning signs in Europe and also in Asia. So I did purposely try to pull back the sort of offensive positioning in the fund and make it a little bit more defensive, and for the most part I think that helped. That allowed me to outperform, however modestly, but not lose on a year where it was difficult to actively outperform. That was sort of the takeaway. I think the mind-set that I have, and I continue to use to manage the fund, is that you do have the flexibility to make the fund more offensive or defensive, and based on your perspective, you need to use those levers.

Carlson: Can you talk a little bit more about the positioning of both funds going forward? We've talked about how some of the same issues plaguing the system are still there in your view.

Roth: In general, I have pulled back. Both funds have the opportunity to go up to 25% of their assets outside of the United States. I pulled that back to about 10% and 8% for both funds. One of the reasons is that this is an extra source of alpha for me, and as I look around the world, I see challenges. I think Europe is showing signs of improvement, but I think it's a difficult situations to fix. I think it's going to take time, and I think it will take a toll on economic growth in the region. I don't have a ton of direct exposure there. China has been a source and Asia has been a source of alpha for the fund in the past. It's been a very volatile time, and we're seeing the economy slow. There is a question mark as to whether or not things will slow softly, slow in a more dramatic fashion, or what will happen there. So, strategically I think it's an interesting long-term opportunity. There is a lot of questions marks today, and opportunistically I have kind of pulled back.

Other areas of the market where I've pulled back are global industrials, where these companies have gone on for 10 years or so with very robust demand growth, and lot of that has been driven by infrastructure build in emerging markets. Well that appears to be slowing, and a lot of these companies are still at peak margins. We've also seen a supplier response. In areas where there is a lot of economic sensitivity especially to global growth, I pull back. So I am underweight industrials; I am underweight materials. I have taken bets of the table there and redeployed it into areas where I think it could be promising.

One of the areas that I think has been beaten up and is becoming more interesting at the margin is homebuilding in the U.S. We're on year five now of relatively dramatically slower building growth, and supply and demand has had time to catch up. If I have to take a two- to three-year view, well that sector is kind of interesting to me. So, I have slowly redeployed capital out of those industrials global-growth companies and into more U.S.-centric names when we're thinking about economically sensitive stocks. So there are opportunities there. Then there are always opportunities in individual companies where there is a new product or there is something that happening that is unique, so I am trying to obviously find those opportunities, as well.

Carlson: Sounds interesting. Well thanks very much for your time, John.

Roth: Thank you very much for having me.