On the face of it, the outlook doesn't look promising for small-cap shares. Investor risk aversion is rising, credit is still hard to come by even for large companies, let alone small ones, and the UK looks set for a period of unprecedented public-sector austerity - and a possible return to recession. However, many smaller companies are now better run, better financed and more international than ever before - so there are still plenty of opportunities there for small-cap fund managers.
There are several key reasons to be optimistic about the future for small-cap shares, according to fund managers active in the small-cap space.
Internationalisation
Historically, UK smaller companies funds have had a rotten time in economic downturns partly because the firms they were investing in were heavily exposed to the UK economy. of the very nature of the companies they are investing in. "In the early 1990s, smaller caps were very much more UK-oriented and heavily concentrated in the manufacturing sector - engineering, textiles, paper and packaging, specialist chemicals - as well as building and retailing. Many of those industries have more or less disappeared from the UK," says Harry Nimmo, manager of Standard Life's UK Smaller Companies fund
That's no longer the case. Tom Tuite Dalton, of broker Oriel Securities, notes that in many smaller company trusts and funds, upwards of 50 per cent of portfolio earnings are generated overseas: he highlights Aberforth Smaller Companies Trust as a prime example.
Mick Gilligan, head of research at stockbroker Killik & Co, agrees. He notes that Legal & General UK Alpha, a multi-cap fund that currently holds about 75 per cent smaller companies, owns shares in China Meditech, an Alternative Investment Market (Aim)-listed Chinese healthcare play, Xaar, an inkjet printing business focused on Asia, and Aim-listed Malaysian data centre CSF Group.
There's also much more sectoral diversification, with IT and software, healthcare and oil and gas. companies joining old stalwarts like retail and property. That change of emphasis makes not only for a broader based universe of small companies, but also for a less UK-focused one.
