Get growth via BlackRock Smaller Companies Trust

The derating of the UK smaller companies sector has primarily been driven by investor fears over what impact the UK's decision to leave the EU will have on its economy. As a result, domestically focused smaller companies have fallen out of favour as investors opt for global and large-cap company funds.

But BlackRock Smaller Companies' wide discount might provide an attractive entry point to the trust, especially as 50 per cent of its portfolio earnings are derived from overseas. The weaker pound means these foreign earnings might translate into higher profits for the trust.

And UK smaller companies could benefit from an increase in merger and acquisition (M&A) activity as a result of their relatively cheap valuations compared with larger companies.

BlackRock Smaller Companies Trust has generated strong returns over the long term. Over five years the trust has made a share price return of 145 per cent compared with 112 per cent for its benchmark, Numis Smaller Companies + AIM excluding Investment Companies index.

The trust aims for long-term capital growth by investing mainly in UK smaller quoted companies, which make up 93 per cent of its portfolio. It has a large, well-diversified portfolio with around 170 holdings, of which the top 10 represent 18 per cent of the total.

BlackRock Smaller Companies has an experienced, longstanding manager - Mike Prentis - who has run it since 2002. He employs a bottom-up stockpicking approach to identify companies that have five sustainable growth characteristics: strong management, a strong balance sheet, reliable revenue growth, a competitive market position and an ability to return cash to shareholders. He also thinks prudent risk management, including a focus on diversity and liquidity, is a key part of delivering good risk-adjusted returns over time. This is a particularly important attribute when investing in smaller companies, which can be higher-risk and volatile.

Because of ongoing concerns about Brexit and concerns that higher inflation may hurt consumers' spending power, Mr Prentis has been adding to defensive stocks and reducing UK retail allocation. The trust's top 10 holdings include 4Imprint (FOUR), a promotional gift company listed in the UK with all its operations in the US, from where it derives 96 per cent of revenues. It also holds CVS (CVSG), a veterinary surgery business with more than 300 practices around the UK.

"BlackRock Smaller Companies has an impressive performance record, both in terms of relative performance and consistency, outperforming its benchmark in each of its last 13 financial years," Winterflood Securities analysts write. "Recent performance has been positively impacted by holdings in CVS Group, which continues to trade strongly, Lavendon (LVD), which received a takeover approach and was subsequently sold, and Hill & Smith (HILS), which is benefiting from increased infrastructure spending."

Although long-term and very recent performance over the past six months has been excellent, over one and three years, the trust's share price return has failed to beat its benchmark. Furthermore, with the continuing economic uncertainty surrounding the Brexit negotiations, there is a risk that the UK's economy may falter, in which case the trust's discount to NAV is likely to widen further.

However, its NAV return beats the index over three years and matches it over one. So if you are a growth investor with a contrarian bent, prepared to wait for the market to recognise the trust's good NAV performance and to hold for the long term, BlackRock Smaller Companies Trust's wide discount could be a bargain entry price. Buy. EA.

Source:Winterflood Securities, as at 9/01/17, *Morningstar, as at 9/01/17, ** AIC including performance fee

Performance

Source: Winterflood Securities, as at 9/01/17

Top 10 holdings, as at 31 November 2016 (%)

Source: BlackRock Investment Management

Sector breakdown, as at 31 November 2016 (%)

Source: BlackRock Investment Management

IC Tip Rating