Morningstar's "Perspectives" series features investment insights from third-party contributors. Here, George Luckraft, Manager, AXA Framlington Monthly Income Fund, examines the outlook for smaller companies.
It may only be January, but clouds have already been gathering for UK equity investors in 2016. China is undoubtedly one of the dominant factors, with domestic efforts to devalue their currency driving deflationary forces that are being felt globally. From a UK perspective, EU referendum uncertainty is likely to weigh on sterling given the potential trading impact of a Brexit. What’s more, continued weakness in mining markets including oil and gas, are also causing concern and many companies related to these industries are likely to slash dividends.
Maximise these opportunities by keeping selections varied
However, I believe that there are opportunities for investors to capitalise on some of the compelling growth stories which we are equally likely to see in 2016 – it is simply a question of knowing where to look. The all share UK equity benchmarks tend to be concentrated in a small number of very large stocks, whereas smaller companies can offer a rich stream of opportunities.
In 2015, a number of smaller companies did especially well in a wide range of sectors, especially UK consumer goods, that we believe could hold positive prospects for 2016, such as Pendragon and Topps Tiles.
Alumasc, a construction company, is just such an example of an equity which performed well last year, and in my view, shows scope to continue this year. The company is supplying the UK and overseas construction market backed by strong order books, yet it is trading at a modest price compared to value.
Sigma Capital is another potential smaller company to watch in 2016. They are currently undertaking a build-out in the private rented sector, an area we believe is primed for growth; the share price nearly doubled last year. Another smaller company in the property arena with a good yield is Regional REITS, which only recently came to the market. The stock offers a prospective premium income in comparison to that of the broad market.
Beyond the smaller companies, there are medium sized companies which may also offer opportunities in property with a twist on exposure to the sector. New River Retail, for example, runs a property portfolio for retailers, and offers a current yield of around 5.5%. The stock is trading on the Alternative Investment Market (AIM), but will be moving to the main market, the FTSE, in mid-2016, which could generate some buying in the stock that could potentially squeeze the price higher in my view.
The key to maximising these opportunities is to keep selections varied to preserve capital. In my management of the AXA Framlington Monthly Income Fund, in which I also invest my own money, I work hard to maintain a diversified portfolio to address the heavy weighting in a small number of large companies, which is a common problem amongst all-share benchmarks. The small and medium sized company strata of the market have less analytical coverage, so there is huge potential for investors willing to get to know the individual stocks and identify where opportunities lie.
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