Investing in UK smaller companies provides exciting opportunities for adventurous investors. Research shows smaller companies normally grow more than larger ones over the long term. There’s no guarantee of that though, and small companies are also riskier.
There’s no one size fits ‘small’. Some fund managers invest in the small-to-medium-sized company scale. Others invest at the tiniest end of the spectrum, known as ‘micro caps’. Some managers are happy to hold onto small companies as they grow into bigger ones. Others will sell them once they reach a certain size and look for the next opportunity.
There are hundreds of smaller companies in the UK, found in the FTSE Small Cap, FTSE Fledgling and FTSE AIM indices. That means there are small companies in lots of different industries, including ones that may have only existed for a few years.
|Index||Approximate market cap||Size||Number of companies|
|FTSE 100||£2bn - £150bn||Large||100|
|FTSE 250||£150m - £5bn||Medium||250|
|FTSE Small Cap||£50m - £750m||Small||286|
|FTSE Fledgling||£1m - £145m||Micro||105|
|FTSE AIM||£0 - £4bn||Micro to large||808|
Our view on the UK Smaller Companies sector
Smaller companies in the UK are among the most innovative and exciting around. They can be pioneers of an emerging industry, and adapt quickly to new opportunities. We think their long-term growth prospects are compelling. Some will blossom into the giants of tomorrow. But others will struggle or fail altogether, so they are higher risk.
There are many excellent UK smaller companies fund managers. Some are among the best performers across all sectors, not just UK smaller companies, over the long term. Fortunately for them smaller companies are usually under-researched. This creates lots of opportunities to spot hidden gems. That’s why we think this is where lots of managers have the greatest stock-picking edge.
It’s an enticing prospect: companies with some of the biggest potential for long-term growth and some of the country’s finest fund managers to invest in them. If you’re happy to accept the risks, we think investing in UK smaller companies can add some excellent long-term growth potential to your portfolio. There’ll likely be more ups and downs along the way than with larger companies. Therefore you should consider investing in UK smaller companies as part of a diversified portfolio.
Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.
Uncertainty surrounding Brexit and the UK government still looms large. Smaller companies normally do more of their business in the UK than larger ones. Investors are therefore cautious about UK smaller companies. On the other hand, they could be less affected by Brexit. They don’t rely so much on overseas trade, so the outcome of any trade deals might impact them less than bigger international companies.
Over the past 12 months smaller companies lagged the broader UK stock market. The FTSE Small Cap (excluding investment trusts) index rose 0.7% compared to 5.9% for the FTSE All Share. Of course that doesn’t mean they’ll continue to perform like this in the future.
There are both challenges and opportunities facing smaller companies. If interest rates continue to rise, it will increase the cost of borrowing. Many small companies rely on borrowed money to fund their growth. But lots of smaller companies carry out business in niche areas. Demand for their products and services could therefore be less affected by any external or economic issues.
Over the long term, smaller companies have normally done better than large ones. They have had greater losses as well as bigger gains along the way though. During the 2008 financial crisis, for example, smaller companies fell further than their larger counterparts. They went on to outperform during the following years. We expect smaller companies to outperform larger ones in the long term, but with more volatility and risk. Please remember past performance is not a guide to the future.
10-year performance of UK small companies vs the broader UK stock market
Past performance is not a guide to the future. Source: Lipper IM to 30/09/2018
Our favourite funds in the sector
Other funds in the sector
Here we look at some other funds of interest following our most recent sector review. Please note the review may be over a short time period and past performance is not a guide to future returns.
Source for performance figures: Financial Express
Rather than invest in companies based on potential alone, Harry Nimmo looks for ones that’ve already become successful and have bright futures.
The manager likes companies with proven growth, rather than backing ones based on potential alone. He’ll often stay invested in companies as they grow rather than take profits and look for the next opportunity. That makes his average company larger than many other small company fund managers. The manager has the flexibility to use derivatives, which if used adds risk. Nimmo’s delivered excellent results over both the long and short term. In the past 12 months the fund’s grown much more than the FTSE Small Cap index. A big part of that is down to individual companies doing well. These include ones in areas that are unpopular with many investors, like the food sector. Future performance though could be different.
Dan Nickols considers what’s going on in the economy more than most other smaller company fund managers when making investment decisions. The fund recently changed its name from Old Mutual UK Smaller Companies.
The manager normally selects companies at the larger end of the small company scale and will usually hold them if they carry on growing. This has been one of the best performing UK smaller companies funds of recent years. Over the past 12 months the fund’s gains haven’t been as much as many others in the sector, though it’s still ahead of the benchmark. Big investments in Fever-Tree Drinks, Blue Prism and Burford have driven much of the gains. Nickols takes what’s going in the UK economy into account when deciding which small companies to add to the fund. Despite the cautious outlook for the UK by many, he’s confident he’ll still be able to find businesses with good growth prospects.
Giles Hargreave and Guy Feld invest in some of the smallest companies listed on the UK stock market.
The fund has one of the strongest teams in the UK small companies sector behind it. That’s essential as the managers invest in a very large number of businesses. It’s a setup that works, as they’ve delivered superb performance. Over the past 12 months, they’ve beaten the benchmark by a long way. This is mainly down to picking shares in companies that’ve done well. Many of them have grown through buying other good companies, like Future, Keyword Studios and Ideagen. These are just some of hundreds of success stories the managers have invested in over the years. We think their skill and experience means they’ll keep doing this for many years to come, though there are no guarantees.
Giles Hargreave and Eustace Santa Barbara leave few stones unturned when scouring the UK small-to-medium company space for businesses with big growth potential.
The managers have continued their superb record of performing much better than their benchmark. The past year has seen the fund beat the benchmark by some way, which we put down to stock selection. Some of the fund’s best performing companies, such as Oxford Biomedica and Syncona, have benefited from the growing influence of their services in the healthcare sector. The managers spend lots of time meeting hundreds of companies every year. That helps them find the ones they think are primed for growth and avoid the ones they think are destined for the dustbin. Their skill in finding companies with potential has propelled the fund to one of the best-performing in the sector.
When investing in smaller companies, Luke Biermann and Iain Staples think it’s best to stay invested as they grow into larger ones.
The managers can invest in the smallest 10% of the UK stock market. They like innovative companies with strong brands. They also seek ones they think are resilient to change. This gives them confidence the businesses are likely to remain competitive for many years. They invest in a small number of companies, which increases risk. The managers took over the fund in 2017, and performance since then has been good. A large part of that has been driven by investment in tech companies, such as Boku, a leading mobile payments platform. The fund’s not on the Wealth 150 as we don’t think the managers’ track records are long enough yet.
Anthony Cross, along with co-managers Julian Fosh, Victoria Stevens and Matthew Tonge, like smaller companies with managers who are also owners of the business.
The managers seek companies that reinvest their profits to grow the business, and repeat the cycle over and over. They also like company directors to have a stake in the business, so they’ll run it in a way that benefits shareholders. The fund’s performance has been excellent, though there’s no guarantee this will continue. We think this fund will do well over the long term, though Anthony Cross runs another fund that can invest in companies of all sizes, which we currently prefer.
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