(New throughout, adds more details about Contrafund's stance on bank stocks)
By Tim McLaughlin
BOSTON, Aug 12 (Reuters) - Fidelity Contrafund manager Will Danoff, who oversees $113 billion in assets, said Wells Fargo & Co's profits "could benefit materially" from a rise in interest U.S. rates, and that he believed the stock market was underestimating the Federal Reserve's changing stance on rates.
Contrafund is one of Wells Fargo's largest investors, holding nearly $4 billion worth of the stock at the end of June, or 3.6 percent of the fund's assets. Danoff has been increasing his position in bank stocks over the past year.
"I believe the group offers an excellent risk-reward trade-off, particularly given the Fed's change in interest-rate policy," Danoff said in an interview Boston-based Fidelity Investments made available on Wednesday.
"I believe the market is underestimating the importance of the Fed's change in its interest-rate stance," Danoff said. "If interest rates strengthen, I believe Wells Fargo's earnings could benefit materially and the stock could perform very well."
Danoff also expressed more optimism for Internet stocks and caution about the commodities sector. His remarks are closely followed on Wall Street, where he is considered one of the mutual fund industry's best stock pickers. Contrafund has produced an annualized total return of 7.51 percent over the past 15 years, or 3.16 percentage points better than the S&P 500 Index, according to Morningstar Inc.
Danoff noted how falling interest rates have squeezed profit margins of U.S. banks have been squeezed over the past decade.
The margin at Wells Fargo, a longtime holding for Contrafund, fell to 3.10 percent from 4.85 percent between 2004 and 2014, Danoff said.
"With the most recent data putting the unemployment rate at 5.3 percent, the U.S. economy does not need the stimulus of abnormally low rates," Danoff continued. "If rates rise, price-to-earnings ratios may contract and the overall market may suffer modestly. But I believe certain sectors of the market could benefit from rising rates, most notably banks. Conversely, I think REITs and utilities likely will suffer."
Meanwhile, Danoff said he has grown more cautious about the commodities sector while becoming more optimistic about Internet stocks. He said he expects Google Inc, Facebook , Amazon.com Inc and Apple Inc to generate earnings per share faster than the average company in the next several years. His philosophy is that stock gains follow earnings growth.
Contrafund's total return is 7.82 percent this year, easily beating the 2.48 percent total return on the S&P 500 Index. (Reporting By Tim McLaughlin; Editing by David Gregorio)