Each week, a professional investor tells MoneyWeek where she’d put her money now. This week: Gill Leates, manager, JM Finn & Co UK Smaller Companies Fund.
True to form, the summer months have proved difficult for investors, with sovereign debt problems in both the US and Europe. Almost every stock, from the biggest international blue chip down to the Aim-market fledglings, has been a victim of this knock in confidence. We are not, however, in unknown territory and while the events of recent weeks should not be underestimated, I believe we are now in a two-speed global economy. Travelling in the fast lane are the developing nations, in particular the emerging superpowers of China and India, where high single-figure GDP growth is expected. Moving at a more sedate pace, the developed economies can expect much more modest growth for some time to come.
My view is that small-cap stocks, many of which are based in London markets, offer some of the best opportunities. This is due to factors such as their unique product offering, intellectual property and/or natural resource assets. Volatility is perceived to be a feature of this segment of the market. However, the long-term record shows that smaller companies have outperformed large caps. Since 1955 UK small caps returned 15.4% per year against the whole London market return of 12.7%. In America small caps returned 12% against 9.6% for large caps. And in the decade from 2000-2009, the Hoare Govett Smaller Companies Index (ex Investment Trusts) rose 66% against the 9% rise by the FTSE 100 index.
In this economic environment, I believe there are areas that will do well even if global growth slows. The principal ones are new oil territories, which will serve demand that is growing by 3% per year in emerging markets; mining, where capacity remains tight; technology that adds to business efficiencies; industrial plants; healthcare; and financial companies. All these areas have innovative smaller firms that should do well. Here are three I like.
First, to illustrate the rapid development of emerging markets, let’s take China’s urbanisation. Beijing has announced that in its next Five Year Plan 100 million people will be moved to new cities requiring 36 million new houses. This process will create huge demand for commodities. With China consuming over ten million barrels of oil per day, new oil territories will be needed. Firms such as Madagascar Oil (LSE: MOIL), with a market cap of just £54m and contingent resources of $1.1bn, will not suffer for lack of demand.
The long-term need of developing economies for commodities to serve their industrialisation and urbanisation offers a similar case for investment. In the case of copper, the majority of easily accessible deposits have been exhausted. After a recent fall, the price per tonne has gone above $9,000 again – mainly as a result of China restocking inventories. Copper Development Corp (LSE: CDC) is an example of a company that is currently proving up £1bn of open pitable resource at its Philippine property. Yet the company’s market cap is just £64m.
Finally, opportunities for businesses serving developed markets shouldn’t be discounted. Craneware (LSE: CRW), which provides accounting software for US hospitals, illustrates my point as a firm that grew throughout the recession and shows no sign of slowing. What did it get right? It offered a service competitors could not meet, and priced its product right.