The unlisted stocks powering Fidelity China Special Situations

Hannah Smith looks under the bonnet of one of interactive investor’s Super 60 fund choices. 

The manager of the £1.2 billion Fidelity China Special Situations (LSE:FCSS) investment trust, one of interactive investor’s Super 60 fund choices, has been taking advantage of China’s “vibrant” unlisted companies sector to find those hidden gems, which could be tomorrow’s winners.

Dale Nicholls says China’s pre-IPO market is a hive of activity, as companies there generally come to market later. The space tends to be under-researched, presenting more opportunities to pick up under-priced, innovative firms.

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The unlisted sector in China has deepened over the years and, while it is not as developed as in Western markets, it presents diverse and interesting ideas for patient investors, the manager adds.

The trust has been investing in private Chinese companies since it launched in 2010, and can have up to 10% of the portfolio in these businesses. When choosing which unquoted names to buy, Nicholls looks for a company’s ability to produce consistent high returns, its future growth potential, and a strong management team. To do this, he makes full use of the research capabilities of Fidelity’s analyst teams on the ground in Shanghai and Hong Kong.

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A record-breaking market debut

Fidelity China Special Situations backed e-commerce giant Alibaba (NYSE:BABA), for example, before its stock-market debut, holding it as an unlisted position for almost three years before its record-breaking $25 billion IPO in 2014. 

Nicholls is now focusing on those businesses most likely to benefit from China’s future growth and changing economy. With the popularity of online communities exploding, internet tech businesses such as TikTok owner ByteDance could perform well with its domestic content platform and video-sharing social network. When it finally lists, Nicholls expects ByteDance to command a $100 billion-plus valuation.

Another holding in the trust is ride hailing app Didi, which has more than 90% market share following its takeover of Uber in China. Although it has seen quite a significant drop in traffic due to the coronavirus pandemic, business is coming back quite strongly as economic activity resumes, says Nicholls.

“Indeed, across China, we continue to observe a slow and steady pick-up in overall activity, which suggests that the world’s second-largest economy is benefiting from being ‘first in and first out’ of the pandemic,” he adds.

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Self-driving cars and drone technology

The trust also holds consumer drone manufacturer DJI, which accounts for more than 70% of the world’s drone market. With commercial use expected to rise significantly, the company could enjoy strong growth in agriculture, construction and even movie production.

Finally, self-driving vehicle start-up Pony.ai also features in the trust’s unquoted portfolios. Based in Silicon Valley and China, Pony.ai has been working with Toyota to test self-driving cars on public roads in Beijing and Shanghai. “To put its business into perspective, there are five leading players globally in this nascent industry, with limited opportunity for newcomers given high capital requirements and advanced technological progress already achieved by the incumbents. Having taken test rides in its cars several times, I can say they compare quite favourably versus human drivers,” says Nicholls.

Outside of the technology space, the manager has identified opportunities in entrepreneurial businesses in the consumer and healthcare sectors, where a lot of research and development is going on that could help create “tomorrow’s winners”.

Fidelity China Special Situations is one of interactive investor’s Super 60 funds. It has returned 194% over the last five years and ranks as a top quartile fund over every time period, according to FE Analytics. Over the last year, the trust has traded on an average discount to net asset value of 9.4%.

Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.