Smaller companies are usually a problematic area to invest in during significant downturns or recessions; and the sharp fall in 2020 hasn’t been an exception. In this article we assess the performance of smaller companies trusts throughout the pandemic, while identifying the factors that have differentiated the winners from the losers. This includes the impact that cash, market cap exposure, sector allocation, revenue exposure and growth or value biases have had, with some surprising results. We also ask whether now is an attractive time to invest in smaller companies, highlighting the trusts which stand out to us…
Companies: THRG GHE MINI RMMC ASIT ASL MTE TRG BRSC DSM
Miton UK MicroCap (MINI) is a £69m investment trust offers investors a domestically-focused and differentiated portfolio invested in the smallest companies in the UK. MINI was launched in 2015 in anticipation that globalisation would cause political upheaval, and on the assumption that microcaps were set for a revival. The managers pride themselves on the portfolio being unlike any of the major indices, or the other smaller company trusts in the sector for that matter, with an active share of almost 100% to the FTSE All Share. Stock-specific risk is spread via a wide range of relatively small holdings, and currently the portfolio has 120 holdings, of which the top ten make up close to 30% of NAV. This diversification is an important part of the approach at MINI, with moderated risk and managing downside volatility being key characteristics of the trust. To that end, the investment process focuses on meticulous fundamental analysis and on entering companies at attractive valuations. Since inception of the trust performance has been varied, as discussed in the performance tab. With this said, it has been an exceptionally difficult period for UK smaller companies managers, and even more so in the micro-cap space. However, with this brings the current discount of 6.4%.
Companies: Miton UK Microcap Trust
The most terrifying words in the English language are, or were at least according to the late president of the United States Ronald Regan: "I'm from the government and I'm here to help." and for investors in global smaller companies, this could be prescient. Most investors into smaller caps are attracted by the prospect of exponential business growth. Young companies with innovative products are supposed to offer a disruptive threat to established companies, with huge potential markets to grow into. However, developments in society and politics could be calling into question the ability of smaller companies to generate the same excess returns in the coming decades. The chief issue is regulation: while regulation is often mooted as in the interest of society at large, there is evidence that in recent years the chief beneficiaries of regulation have been the large players in existing industries, who are better able to adapt to the increasing costs. In this study we consider how the regulatory burden is affecting markets around the world and what it means for investors in the various regions.
Companies: JUS USA JEO MINI AJOT
Miton UK MicroCap (MINI) is a £87m investment trust which seeks to offer investors a domestically-focused and largely differentiated portfolio, by investing in the smallest companies in the UK. MINI was launched in 2015 in anticipation that globalisation would cause political upheaval, and that outperformance of microcaps was set for a revival. Since then, the company has performed strongly and, in what has been a difficult UK environment, the trust has an annualised return of 5.6%. The portfolio is broadly diversified relative to its peers and its benchmark, and has a high active share, meaning that Miton UK MicroCap adds diversification benefits to investors’ portfolios. Stock-specific risk is spread via a wide range of relatively small holdings, and currently the portfolio has 118 holdings of which the top ten holdings make up close to 25% of the portfolio. The trust’s discount has remained largely the same over 2018 and on average has traded at a discount of 4.5%. This has ranged between a discount of close to 1% and 10%.
Miton UK Micro Cap is a £102m investment trust which seeks to offer investors a domestically focused and largely differentiated trust, through investing in the smallest companies in the UK. The managers believe that, a result of the financial crisis, poor productivity and stagnant wage growth has created an environment which is ripe for political upheaval. Managers Gervais Williams and Martin Turner think a backlash against globalisation has been a key factor behind the political and economic changes that we have only just started to see happening. Added to this, the bull market we have enjoyed over the past decade caused by the response to the financial crisis, has caused a massive misallocation of capital due to the prolonged period of low interest rates and easily available credit. In their view, the clear beneficiaries of the anticipated changes to political and economic environments, will be better conditions for their small, domestically focused companies. The portfolio is well diversified, with stock specific risk also spread via a wide range of relatively small holdings, currently 119. Of this, the top 10 holdings equate to 28% of the portfolio. Since inception the company has performed well, returning close to 45% for investors. Although c.4% ahead of the Numis SC 1000 (Inc. Investment Companies) sector, the trust has trailed the benchmark FTSE AIM All Share by c.8%. It is worth bearing in mind that much of the outperformance of the benchmark has been dominated by a few names. Over the same time, the share price rating has varied greatly. For the first year after launch, the company traded on a significant premium. However, the referendum in 2016 saw the trust go from a c.10% premium to a c.8% discount in a matter of months. The trust’s discount has remained largely the same over the past 6 months and has traded on an average discount of -4.33% over the past year. The managers often refer to the trust as an early stage income fund, as many of the holdings are early stage companies who they hope will increase their levels of cashflow, and in turn dividends, as they improve their productivity. However, at this moment in time the current yield is just 0.5%, relative to the sector AIC Smaller Companies average of 2.0%.
Popular wisdom has it that, while over the long term small caps have outperformed large caps, this has tended to be at the cost of greater levels of volatility. However, our research suggests that the extent of this volatility is overstated. In fact, the last five years have seen lower volatility from small-cap stocks relative to large caps across the world. This could be due to the fact we have enjoyed an extended bull run, or that the UK government has been utilising quantitative easing to maintain artificially low interest rates. Whatever the cause, crunch the numbers and you will find that over this period the FTSE SmallCap sector has seen a lower maximum drawdown than the FTSE 100, but a maximum gain 21.6% greater than large caps. This phenomenon is not limited to the UK either. When comparing the MSCI Europe Small Cap Index to the MSCI Europe Index, the former has delivered double the annualised returns, again at a lower standard deviation. This combination of superior returns and comparable volatility is an attractive blend. Furthermore, with research on small caps likely to become even more thinly available as a result of Mifid II, the ability of small-cap managers to add alpha – a trait they’ve already shown themselves very capable of – is likely to be magnified. Against this backdrop, we consider the outlook for smaller companies.
Companies: SLS MINI IPU ASL JUSC BGS
Many smaller companies managers have been shifting into micro caps in the first half of 2018, including Aberforth Smaller Companies, BlackRock Smaller Companies and JPMorgan Smaller Companies - all of which increased their weightings significantly in late 2014 too, before a strong run for this area of the market. Against this backdrop, we examine the case for micro-caps and highlight a number of trusts focused on the area, and a number which have high allocations to this segment. Micro cap stocks have shown high growth potential in the past, offer diversification benefits to a balanced portfolio and since the Great Financial Crisis (GFC) have been cheaper than the larger small caps. However, there are significant risks involved, and greater flexibility allows the manager a degree of leeway to manage them.
Companies: ASL SLS MINI IPU
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Ramsdens has reported a strong set of trading results in the last twelve months to March 2020. COVID lockdown has led to store closures, which will lead to weaker trading over the following months. However, Ramsdens has a very solid balance sheet, is diversified and is well positioned to re-open stores and continue its growth. We use an 8x multiple on last 12 months to March 2020 earnings as a reflection of a normalised earnings base which reduces our target price to 162p from 180p. At this target price Ramsdens would trade on a CY20 P/B of 1.5x. This target price offers 15% upside and we re-iterate BUY.
ULR’s finals were in line with on EPRA NAV and earnings a little better than expected. Valuations remain stable and full rent collection has been achieved for the current quarter. We see fundamental quality and resilience in the (now expanded) portfolio – ULR has already invested nearly £100m in the first two months of the new year following the £136m equity raise. We make no material changes to forecasts. Current valuation points to an 7%+ annualised return, with upside remaining from deployment of funding headroom, active management and potential for valuations to improve.
Companies: Urban Logistics REIT
Aside from its FY 19 earnings presentation, British Land has adopted a more cautious anticipation about Offices in the City of London. We share this pessimism and have been surprised by the recent share’s bump. The latter is the opportunity to turn negative, again, and update our divestment case.
Companies: British Land Company
The Merchants Trust (MRCH) is managed by Simon Gergel at Allianz Global Investors (AllianzGI). Aiming to continue to provide a high and growing level of income, he is adjusting the trust's portfolio in the wake of dividend cuts sparked by the negative economic effects of COVID-19. If there is an income shortfall in this financial year, MRCH is well positioned to maintain its dividend, with revenue reserves of more than 1x the last annual payment. It has not been an easy period for value managers over the last decade as growth stocks have led the charge; however, Gergel has outperformed the UK market over this period in both NAV and share price terms. The board reduced MRCH's gearing in late January 2020, which was opportune timing ahead of the recent significant stock market weakness.
Companies: Merchants Trust
A number of REITs have the ability to thrive in current market conditions and thereafter. Not only do they hold assets that will remain in strong demand, but they have focus and transparency. The leases and underlying rents are structured in a manner to provide long visibility, growth and security. Hardman & Co defined an investment universe of REITs that we considered provided security and “safer harbours”. We introduced this universe with our report published in March 2019: “Secure income” REITs – Safe Harbour Available. Here, we take forward the investment case and story. We point to six REITs, in particular, where we believe the risk/reward is the most attractive.
Companies: AGR CSH ESP DIGS IHR LXI PHP RESI SIR SUPR THRL SOHO BBOX SHED WHR
The covid-19 pandemic has had a devastating effect on the share price of property companies, with 31% wiped off the value of their total market capitalisation during the first quarter of 2020.
Companies: AEWU CREI CSH BOOT INL HLCL THRL SUPR RESI RGL DIGS GR1T SOHO PHP BOXE ASLI UTG AGR UAI BLND UANC CAL SHED CWD WHR EPIC WKP GRI YEW HMSO PCA INTU NRR
In the past month the group has made significant progress in pivoting its business away from its traditional face-to-face model. Although lending levels remain appropriately subdued, it has achieved an impressive collections performance, with its largest business running at about 90% of pre-lockdown levels. This, combined with the group’s high risk-adjusted margins has enabled it to generate £3m of FCF in the first three weeks of April, taking its net cash position to £38.7m as of 21 April. This strong financial position, combined with the group’s innovative approach to product development puts it in an extremely strong position to serve its clients and win share when the current government restrictions are eventually lifted. Reflecting this positive outlook we reiterate our BUY rating.
Companies: Non-Standard Finance
In this note, we analyze the indebtedness of 35 international E&Ps publicly listed in the UK, Canada, Norway, Sweden and the USA. For each company, we look at (1) cash position, (2) level and nature of debt (including covenants), (3) debt service and principal repayment framework and (4) Brent price required from April to YE20 to meet all the obligations and keep cash positions intact. We also estimate YE20 cash if Brent were to average US$20/bbl from April to YE20. While the oil demand and oil price collapse are of unprecedented historical proportions and the opportunities to cut costs much more limited than in 2014, most companies (with a few exceptions) entered the crisis in much better position than six years ago, with stronger balance sheets and often already extended debt maturities. In addition, this time around, many E&Ps have already been deleveraging for 1-2 years and are not caught in the middle of large developments that cannot be halted. The previous crisis also showed that debt providers could relax debt covenants for a certain period as long as interest and principal repayment obligations were met. This implies that as long as operations are not interrupted and counterparties keep paying their bills (Kurdistan), the storm can be weathered by most for a few quarters.
With (1) Brent price of about US$50/bbl in 1Q20, (2) reduced capex programmes, (3) material hedging programmes covering a large proportion of FY20 production at higher prices and (4) limited principal repayments in 2020, we find that most companies can meet all their costs and obligations in 2020 at Brent prices below US$40/bbl and often below US$35/bbl) from April until YE20 and keep their cash intact, allowing them to remain solvent at much lower prices for some time. In particular, Maha Energy and SDX Energy are cash neutral at about US$20/bbl. When factoring the divestment of Uganda, Tullow needs only US$9/bbl to maintain its YE20 cash equal to YE19. Canacol Energy, Diversified Gas and Oil, Independent Oil & Gas, Orca Exploration, Serica Energy and Wentworth Resources are gas stories not really exposed to oil prices and Africa Oil has hedged 95% of its FY20 production at over US$65/bbl.
Companies: AKERBP AOI CNE CNE DGOC EGY ENOG ENQ GENL GKP GPRK GTE HUR IOG JSE KOS LUPE MAHAA OKEA ORC.B PEN PHAR PMO PTAL PXT RRE SDX SEPL TETY TGL TLW TXP WRL
Today's news & views, plus announcements from VOD, POLY, SMDS, BLND, BYG, WEIR, DC, SNR, SHI, INTU, IHR, CNC, ARE, INCE
Companies: INTU SHI INCE
Companies: AVO AGY ARBB ARIX BUR CMH CLIG DNL GDR HAYD PCA PIN PHP RE/ RECI RMDL STX SHED VTA
U+I’s post-close trading update confirms c. £16m of development and trading gains for FY20, which includes Harwell. This is broadly in line with our revised expectations. Proactive steps are being taken to preserve liquidity in the short-term, including suspending the final dividend and stopping all non-essential spend. Positively, benefits of the cost saving programme will now be realised 12 months early. The balance sheet is strong, with ample liquidity; covenant levels are a long way off. Management’s time is being spent repositioning teams to be ready when restrictions are lifted, when there will be a renewed focus on the short-to-medium term value gain opportunities, of which there are plenty. The shares currently trade at 59% spot discount to our updated NAV forecasts, vs the UK sector at a 9% discount. We leave our recently lowered 180p target price unchanged and continue to see upside from here.
Companies: U&I Group
Recent news: On 21 April CLIG’s 3Q trading update to 31 March 2020, revealed:
27% fall in Funds Under Management (“FUM”) from US$6.0bn to US$4.4bn
- with weaker Sterling, FUM in £ fell 20% from £4.5bn to £3.6bn.
In 3Q, while Diversification CEF strategies (Opportunistic Value and Developed funds) had net inflows of US$25m, the Group’s Emerging Market Funds had net outflows US$68m
The Group has an active pipeline across all its major CEF offerings with increased interest in the Diversification CEF strategies
Post COVID-19, income to FuM remains unchanged at c. 75 bps of FuM
Companies: City Of London Investment Group
We wrote on 7 May, about the shape of the music global industry following the publication of the IFPI 2019 report. Taking a deeper dive into this report we examine the prospects of further growth in streaming numbers as the nonwestern markets come online.
Companies: Hipgnosis Songs Fund
Seneca Global Income & Growth Trust (SIGT) is managed by a four-strong team at Seneca Investment Managers, seeking undervalued securities across multiple asset classes in order to diversify the trust’s risk and return drivers. Its UK equity portfolio was particularly negatively affected by the coronavirus-led market sell-off in March, given its focus on domestic, mid-cap value stocks, which performed relatively poorly. However, these holdings could stand SIGT in good stead during an economic recovery. The trust’s board has committed to continue paying quarterly dividends, using reserves where necessary if income falls short, which seems likely given the number of dividend cuts announced by corporates in response to the global pandemic.
Companies: Seneca Global Income & Growth Trust
Randall & Quilter has undergone a transformation over the last two years; simplifying its operating model, releasing cash, and developing an exciting Live (Program Management) business which promises to provide a key balance for its core Legacy business in terms of earnings visibility, capital use, and cash generation. The company's interim results reported several key milestones in both areas, notably the largest ever Legacy acquisition and significant future Gross Written Premiums for Program Management. An announcement which exuded optimism highlighted the potential for current year profitability to be strong and, possibly, ahead of expectations. Longer term growth is likely to come from a more balanced combination of Legacy and Program Management earnings with the potential for greater cash generation. Accordingly, consensus forecasts for adjusted 2018 EPS have increased by over 30.0% while both distribution and Net Tangible Assets per share moved higher.
Companies: Randall & Quilter Investment