Gavin Baker: Investing in the future

The manager of Fidelity’s tech-heavy OTC fund looks for the companies shaping tomorrow.

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Gavin Baker once traveled across the country to visit a cement plant in the Mojave Desert and learn the gritty details behind one of the most basic of all basic industries. More than a decade later, Baker returned to California for another research trip, this time visiting a company 400 miles to the north. He got behind the wheel of a Tesla Model S, punched the electric car to 100 miles an hour on a closed track, and felt sure he had just driven into the future.

Gavin Baker “It felt to me that this was like the iPhone,” says Baker, recalling his first test drive in 2012. “The first time most people held an iPhone they understood, wow, this is something different and transformative. Sitting in a Tesla Model S was an iPhone moment for me.”

A lot happened between those two trips: The first was taken when Baker was a new Fidelity associate fresh out of college; the second was made in his current role as manager of the $11.6 billion Fidelity OTC Portfolio mutual fund, where he looks to capitalize on big trends shaping the future—including cloud computing, solar power, artificial intelligence, electric cars, and gene editing.

Early days: from rock climbing to stock picking

Baker’s focus on the future is a far cry from where he expected to end up. During his college days at Dartmouth, his dream was to live “a sort of itinerant wilderness lifestyle.” His plans were simple—get by with odd jobs while he skied in the winter, rock climbed in the summer, and tried to write a big novel along the way.

Baker’s parents had a different idea. They asked their son to take at least one professional internship during his college years, and he landed in Boston working for the long-gone brokerage Donaldson, Lufkin & Jenrette. The job exposed Baker to the stock market for the first time, and the English major was hooked on a different path.

A career investing in the stock market spoke to Baker’s avid interest in current events, his affinity for chess and other games of skill, and his taste for high-risk sports where risk management and conviction mattered. It was “a combination of being paid to learn about the world, read the newspaper, draw your own independent conclusions, and solve an intellectual challenge where the outcome really matters for clients,” he says.

Baker joined Fidelity after he graduated from college in 1999, and soon was assigned to help cover the red-hot technology stock market of the time. Then the Nasdaq stock index quickly bounced from 4,000 to 5,000, plunged to 3,000 before recovering a bit, then sunk to nearly 1,100. More than anything, it was an early education in market risk and an important exercise in humility.

A key lesson? “Things you think are impossible really can happen—the tails are very fat in the stock market,” says Baker. “There aren’t many times in stock market history when you see an index decline 80 percent in two years—and viscerally experiencing that was very formative for me in terms of understanding risk.”

Later, Baker took on a string of different industry research and investment assignments, including pharmaceuticals, household goods, tobacco, retail, and telecommunications. He looks back on them as key learning experiences—educational building blocks for a manager of a diversified growth stock fund.

Eye on the future

Baker took over the Fidelity OTC Portfolio in the summer of 2009, four months after the market hit rock bottom and had begun a steep recovery. Over the next two years, he came to embrace the idea that big technology advances were in our future, and it was important to invest heavily in the leaders most likely to make them happen.

Baker likes to compare the steam engine, invented in 1781, with the microchip, which arrived in 1959. The peak economic and social impact of the steam engine took about a century to achieve, he says, and the microchip is likewise going to spur innovation over a lengthy time span. “I think we’re just entering that period of peak change,” says Baker. “It is something I really believe.”

Baker decides which companies he thinks will lead these long-term trends, and makes significant investments in them. The largest holdings in Fidelity OTC Portfolio include Apple Inc. (AAPL), Google parent Alphabet (GOOG), Amazon.com (AMZN), Facebook (FB), and Tesla Motors (TSLA). The 10 largest holdings in Fidelity OTC Portfolio account for about 38% of the fund’s assets.

Fidelity OTC Portfolio has returned 11.03% annually over the past five years, placing it among the top 10 percent of funds in its Lipper peer group during that period. The fund earned an average 15.87% annual return over the last three years, though the fund has struggled more recently this year, dropping 8.8% through April 30, as last year’s tech stars have pulled back.

Paying for innovators

Anyone trying to anticipate the technology of the future is going to collect a lot of gadgets, and Baker is no exception. His current favorite: Amazon’s Echo, the wireless speaker and voice command device that answers to the name Alexa. Baker talks stocks all day at the office, but at home he speaks to Alexa to order Ubers and buy household products on Amazon.

“It’s the best-use case I’ve seen so far for voice recognition,” says Baker. “Its very clear speech is a powerful way of interacting with computers and electronics.”

This bold innovation is one reason that Baker has invested in Amazon. It’s a stock that some consider high-priced, and indeed, shares of the companies Baker identifies as leaders in those fields often command relatively high prices by standard measures. That doesn’t necessarily faze him.

In some cases, Baker considers how much money a company is investing to build scale and a dominant technology lead that could cement its competitive advantage long into the future. Of course, heavy spending like that can wreak havoc on a company’s immediate financial performance. But Baker looks past the large amounts of spending and analyzes the underlying business performance of the company; this helps to create a “normalized” picture of the company’s finances, which helps him make buy and sell decisions on the company’s stock.

Baker is also prepared to take a longer-term view of companies he believes will deliver outsized performance over five years or longer. Earnings forecasts for this year and the next don’t mean as much when he is looking that far down the road for really big things.

“In the ’70s, investors tended to hold stocks for years, and the opportunity was to take a shorter-term perspective,” says Baker. “Now, the market is focused on the next quarter, and that creates opportunity for investors who are willing to look out three, five, seven years or more into the future.”

Amazon is an example of a company that has invested for scale, and one that could have long-term potential. Baker says the company has been committed to spending its money on growth, and could ramp up profit margins anytime it chooses, with little short-term impact to the business. He looks at Amazon’s underlying earnings power to reach a conclusion about the company’s value. “I think it’s one of the cheapest stocks in the market,” he says. “It’s just a fundamentally different way of looking at valuation.”

Tesla is another stock that looks expensive on traditional metrics, but not if you believe it will sell lots of its newer models in the coming years. “I don’t buy stocks I think are expensive,” says Baker. “I only buy stocks I think are cheap. Now, I often look out five to seven years, or apply this normalized earnings power methodology, to conclude that the stocks are cheap.”

That means Baker spends a lot of time trying to anticipate changes in the world. But with a career that has gone from cement plants to the most innovative companies in the world, he keeps a grounded perspective, even with a view focused on the future.

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Before investing, consider the funds’ investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully.
Past performance is no guarantee of future results.
Stock markets, especially foreign markets, are volatile and can decline significantly in response to adverse issuer, political, regulatory, market, or economic developments.
The technology industries can be significantly affected by obsolescence of existing technology, short product cycles, falling prices and profits, and competition from new markets, and general economic conditions.
Foreign securities are subject to interest rate, currency exchange rate, economic, and political risks.
The securities of smaller, less well-known companies can be more volatile than those of larger companies.
The fund may have additional volatility because it can invest a significant portion of assets in securities of a small number of individual issuers.
The information presented reflects the opinions of the speakers as of May 2, 2016. These opinions do not necessarily represent the views of Fidelity or any person in the Fidelity organization and are subject to change at any time based on market or other conditions. Fidelity disclaims any responsibility to update such views. These views may not be relied on as investment advice and, because investment decisions for a Fidelity fund are based on numerous factors, may not be relied on as an indication of trading intent on behalf of any Fidelity fund.
As with all your investments through Fidelity, you must make your own determination whether an investment in any particular security or fund is consistent with your investment objectives, risk tolerance, financial situation, and evaluation of the investment option. Fidelity is not recommending or endorsing any particular investment option by mentioning it in this article or by making it available to its customers. This information is provided for educational purposes only, and you should bear in mind that laws of a particular state and your particular situation may affect this information.
Lipper Inc. is a nationally recognized organization that provides performance information for mutual funds. Each fund is classified within a universe of funds similar in investment objective. Peer group averages are based on total returns for the period ending March 31, 2016; include reinvestment of dividends and capital gains, if any; and exclude sales charges.
Lipper ranked 51 out of 770 mid-cap funds.
Gavin Baker manages the Fidelity® OTC Portfolio, which invests in some of the securities mentioned in this article.
Any holdings, asset allocation, diversification breakdowns or other composition data shown are as of the date indicated and are subject to change at any time. They may not be representative of the fund’s current or future investments. The Top 10 holdings do not include money market instruments or futures contracts, if any. Depository receipts are normally combined with the underlying security. Some breakdowns may be intentionally limited to a particular asset class or other subset of the fund’s entire portfolio, particularly in multi-asset class funds where the attributes of the equity and fixed income portions are different.
Top 10 Holdings As of 12/31/2015 APPLE Inc.

ALPHABET INC CL A
ACTIVISION BLIZZARD INC
AMAZON.COM INC
ALPHABET INC CL C
MICROSOFT CORP
FACEBOOK INC A
NVIDIA CORP
TESLA MOTORS INC
ATHENAHEALTH INC

% of Total Portfolio 37.93%
Total # of holdings: 249 as of 12/31/2015
Total # of issuers: 239 as of 12/31/2015
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