Mind the gap

Gervais Williams, author of ‘The Retreat of Globalisation’ and manager of Miton UK MicroCap (MINI) – struck a positive note for smaller companies investors in the UK, as the final speaker at our online event last week.

Joining us on Friday, as the Conservatives announced their cunning plan to crash the pound, he pointed to a scenario in which – while the UK economy might continue to struggle – UK stock markets could perform strongly, and small companies in the UK more strongly still.

“Versus other markets around the world in Europe and the US, the UK has underperformed for about 30 years.

“If we look further back though, beyond that, there was a lot of inflation about and the UK stock market outperformed not only Europe but also the US.

“That was related to the fact that UK companies were generating surplus cash and, when there’s a shortage of cash around the world, companies which generate surplus cash don’t go bust as easily. Much more importantly, they are able to take over companies which have gone into receivership.”

This helps to boost the fortunes of the strongest companies with minimal debt on their balance sheets – favoured by his strategy. He continued: “These businesses which are taken into receivership are overindebted, but when they are sold by the receivers they go back into the market free of debt, and move into profit and generate further cash surpluses for the companies that buy them.

“We are looking at an amazing opportunity for smaller companies. For a long time I’ve been telling our clients that [MINI] is an opportunity to generate a premium return relative to mainstream UK equities over the longer term, but that’s not particularly exciting if – as it has been over the last 30 years – the UK is underperforming globally.

“It is much more exciting if the UK is outperforming – we are making a premium return not only to the UK but to stock markets around the world, in the US and Europe, as well.”

Our first speaker, Baillie Gifford’s Stephen Paice, joined us from Baillie Gifford European Growth (BGEU) on Tuesday, and he too struck an optimistic tone despite the challenges faced by investors in the region and around the world.

“Where we can really have insight is investing in the future, and a future which is increasingly cheap, or – as the title of this event suggests – this is growth at an unreasonable price. It’s important to point out that when we talk about Europe’s future we are not talking about the economy: we can be positive on companies even in a difficult economic climate.

“We aim to identify outliers with large structural growth opportunities. The average expected revenue growth in the portfolio is about 19% and that compares to the index average of 8%, so we are looking at companies that are expanding fast.”

Despite this focus on growth, Stephen stressed the resilience of the portfolio – due in part to the nature of the companies identified and preferred by the investment process.

“Typically, our companies have meaningful inside ownership in the form of an exceptional founder or multigenerational families who may be involved in capital allocation decisions. About 85% of the portfolio would be in companies with families, founders or other significant insiders, and I think that contributes greatly to resilience.

“These are companies with more conservative balance sheets and decisions made with the long term in mind.”

Stephen was joined on Tuesday by Stefan Gries, co-manager of BlackRock Greater Europe (BRGE), who said share prices in Europe had been hit by a combination of factors which – while sentiment is clearly weak – has left them today at valuations no longer commensurate with reality.

“You have to go as far back as the global financial crisis to find a market like this, and clearly this has led to pain for portfolios, and a significant de-rating of some of the best businesses listed in our region. We have seen many rotations over our careers, but in our experience they can only be sustained if fundamentals support them.

“Over any meaningful time frame it is the relative fundamentals of businesses and industries that will determine outcomes for share prices. What we see today is ownership of European equities at record lows, sentiment which is extremely bearish, and valuations which are at record lows relative to the US. This has been indiscriminate – affecting even the best businesses that Europe has to offer.

“This de-rating leaves many assets attractively valued, in our mind.”

On Wednesday we heard from Emily Whiting, investment specialist for the Emerging Markets and Asia Pacific equities team at JPMorgan, about JPMorgan Asia Growth & Income (JAGI).

Emily discussed the key themes which lie at the centre of JAGI’s strategy: ‘lifestyle upgrades’, the changing habits and purchases that come with greater wealth; ‘demographic changes’ like older, healthier populations; and ‘financial deepening’ – the expansion of financial products as the needs of financial consumers become more sophisticated.

Emily said these themes remain untrammelled by the pressures which have dominated headlines in recent years.

“These three areas are long-standing themes in the region; nothing has changed as a result of US/China trade tensions, commodity pricing or geopolitical risks. This is about long-term opportunities in a region containing 60% of the world’s population.”

Joining us from the United States, Chris Berrier of Brown Advisory US Smaller Companies (BASC) backed our other speakers in his view that – while the environment is fraught with risk – carnage in markets has created appealing valuations for careful investors with an eye to the long term.

“The boom we saw [during the pandemic] was almost unimaginable in scale. Valuations went up and up and up, so for a period of time there you had excesses built into tech and healthcare, and valuations which were as high as any other period in history – including the tech boom.

“As the Fed has been forced to change its policy priorities, the areas of greatest excess have felt the greatest pain and so tech is down the most, healthcare has been crushed, and other areas have also suffered.

“If anything, dislocations like the ones experienced over the last year enhance potential for the thoughtful investor. Today we are most excited about a chance to buy a handful of tech companies that we’ve watched for a period of years which we’ve not owned because they were too expensive.”