"Obscene amounts of money" could be made over the next five years, thinks Gervais Williams. He's not talking about bankers' bonuses or Goldman Sachs' legal fees, but shares in UK smaller companies. Mr Williams, who describes himself as a 'conviction stockpicker' and who manages the Gartmore Growth Opportunities fund, says he is more confident than ever about the prospects for such stocks.
On the basis of recent performance, such optimism looks like a triumph of hope over experience. Smaller companies indices like the FTSE Fledgling, FTSE Small Cap and Alternative Investment Market (Aim) outperformed others last year, but have lagged blue-chips and mid-caps this year, while 2009 and 2008 were annus horribili for small caps. Williams believes this is only a temporary blip in what will be a long period of outperformance by smaller companies.
An inconvenient reality
According to Gartmore's analysis, smaller companies have underperformed for the past 20 years, but research going back 50 years shows them to have hugely outperform larger and mid cap stocks. Mr Williams calls this long-term performance the "Inconvenient Reality", and predicts that it is about to reassert itself.
"It's so embarrassing for some people to have Aim companies in their portfolios, but that's where all the money is going to be made. This will bring capital down; as small cap outperforms, then people will reallocate their assets.
"Take one per cent of BP and put it into small caps and it makes a huge difference. The sector will go back to a pattern of outperformance, and we will get investors leapfrogging each other to get into the sector because everyone is underweight. I don't take a significant concern about the lack of retail investors, indeed you might argue that it's a bullish sign."
Extending the "elephants don't gallop" analogy, Mr Williams points out that larger companies only typically grow at a small premium to the wider economy whereas stock-specific factors have more impact on smaller companies, favouring the active stock-picker.
He believes those smaller companies who have clean balance sheets and can tap investors for funds could grow rapidly through acquisitions as competition for assets is likely to be less intense. "If you can invest in a secondary issue at a discounted share price then why pay a premium for an IPO? We don't need new issues, we can find opportunities.
"A large number of small caps have net cash on the balance sheet and if they have access to capital beyond that then these guys can raise capital when no one else can and can buy assets others can't - so they get disproportionate returns on their capital. That's why we can make obscene amounts of money," he says.
| GERVAIS WILLIAMS CV |
|---|
Gervais Williams joined Gartmore in 1993 and heads the smaller companies team. He boasts over 19 years fund management experience in smaller companies, 11 years at Gartmore. Prior to 1993, Mr Williams spent three years at Thornton Investment Management, previously to this he spent five years at Throgmorton Asset Management as a director. Mr Williams graduated from the University of Liverpool in 1980 with an Honours degree in Engineering. |
It's hard work
Mr Williams admits smaller companies investing is "hard work", with thousands of companies to try to keep tabs on. He and his team of five endeavour to read as many smaller companies' results as possible as they hit the wires at seven o'clock each morning, a particularly onerous task during the manic results seasons of March and September. The team then meet with management of those companies who are of potential interest to "get a better understanding of the risk and reward and to make a judgement on whether we want to get involved or not".
The sheer breadth of the smaller companies market means that Mr Williams and his team hold around 200 stocks across their various funds at any one time. Inevitably, this means they get some calls wrong; on the morning of our interview, Jarvis Group, in which his funds had a small stake, collapsed into administration. "Our portfolios are big and wide. I put my hands up, basically we got it wrong. But on average we get it right, probably 55-60 per cent of the time, and that is enough. The winners vastly outweigh the losers," he says.
Portfolios are generally led purely by stock-picking rather than any top-down macroeconomic view, and this can lead the funds into stocks such as Clinton Cards and Pendragon when they are completely out of favour. Both of these have been successful recent investments.
Unique but not exotic
Gartmore's smaller companies team is almost unique among UK investment houses in offering exposure to Irish equities through two of its funds - Gartmore UK and Irish and Gartmore Irish Growth. The UK and Irish fund only has a handful of Irish equities but the Irish Growth fund is a high-conviction fund in which the top 10 holdings typically account for 70 per cent of the fund.
Despite the financial turmoil that has engulfed Ireland over the past two years, Mr Williams is confident in further strong performance from a fund that returned more than 60 per cent in 2009. "Basically, Ireland got absolutely stuffed rigid. But what is different is that they have done something about it. I'm quite excited, the weakening euro will give the Irish economy a chance to pick up. It originally got hit by the weakening pound as the UK is its main trading partner but this is changing. Its recovery will be driven by low corporation tax and its positive demographics. Share prices have been absolutely crucified, but it is pregnant with gain. We're geared in the fund at the moment."
But Ireland is about as exotic as the funds get. In recent times they have enjoyed success with Canadian incorporated companies such as Entertainment One and Sandvine but Mr Williams shies away from more exotic climes such as China: "It's just too sexy for us, we like to get under the rocks. There is enough risk around, we don't need to be that risky."
