Past performance is not a guide to future performance. Do remember that the value of an investment and the income generated from them can fall as well as rise.
As investors take fright over inflation, interest rates, recession and war, smaller companies have taken quite a hit this year, relative to their profits – more so than their large cap counterparts. In fact, this is one of the worst periods for companies at the lower end of the market cap spectrum that I can remember since the start of my career.
As readers will know, fears of recession can be particularly damaging for smaller companies, given their propensity to lack scale, cash reserves and be less geographically diversified. When investors feel fearful, they often seek safety in the big, familiar household names.
But in spite of this backdrop, we maintain our faith in the “small cap premium”, the concept that, over time, smaller companies can generate higher returns than their blue chip peers, therefore making better long-term investments.
So what will we need to see for a recovery in small caps? A recovery in markets generally, of course, and a sense among investors that the peak in inflation and interest rates is in sight, which will likely get them buying again. The trend towards “deglobalisation” as the world splinters, and as companies and governments focus more on security of supply, should also favour smaller companies, although it is important to stress that we view this as a generational shift, and not a change we expect to see in the short term.
As our investors and regular readers of our missives will know, we have positioned our multi-asset portfolios for three long-term calls: global ex-US equities are more attractive than the US, small caps should outperform large, and value should outstrip growth – all running contrary to what happened for most of the 2010s. While we remain confident in these allocations, outperformance will not come all at once, so it is sensible to retain prudent diversification rather than making a significant gamble that one particular thesis pays off.
We continue to hold a blend of asset classes and styles rather than relying on any one portfolio element and believe this will help us deliver on suitability over the long term. In our annual strategic asset allocation (SAA) rebalancing across our funds and portfolios earlier this year we implemented a fall in allocations to UK equities, including small caps. It is important to state that these moves are not tactical but rather how the data dictate we can best achieve our volatility targets. In our quarterly tactical asset allocation (TAA) scorecard, where each asset class is assigned a rating from one to five, with one most bearish and five most bullish, UK small caps are scored a four.
Once market corrections have played out, our view is that indiscriminate selling will have created a rich seam of opportunities in UK smaller companies. But in such an environment, choosing the right asset classes and fund managers will prove invaluable for investors. It will be important to have an investment process that can cut through the market noise and respond to market nuances, investing in a diversified range of asset classes, styles and funds that will provide steady returns with neither reliance on any one scenario playing out nor wholesale shifts in allocations. Once inflation has stabilised, we anticipate seeing a return to greater diversity of returns from asset classes with equities providing the driving force in terms of real returns. Our portfolios are well positioned for the opportunities we envisage coming through over the next decade, which will likely be markedly different from those seen over the last one.
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KEY RISKS
Past performance is not a guide to future performance. The value of an investment and the income generated from it can fall as well as rise and is not guaranteed. You may get back less than you originally invested.
The issue of units/shares in Liontrust Funds may be subject to an initial charge, which will have an impact on the realisable value of the investment, particularly in the short term. Investments should always be considered as long term.
Some of the Funds and Model Portfolios managed by the Multi-Asset Team have exposure to foreign currencies and may be subject to fluctuations in value due to movements in exchange rates. The majority of the Funds and Model Portfolios invest in Fixed Income securities indirectly through collective investment schemes. The value of fixed income securities will fall if the issuer is unable to repay its debt or has its credit rating reduced. Generally, the higher the perceived credit risk of the issuer, the higher the rate of interest. Bond markets may be subject to reduced liquidity. Some Funds may have exposure to property via collective investment schemes. Property funds may be more difficult to value objectively so may be incorrectly priced, and may at times be harder to sell. This could lead to reduced liquidity in the Fund. Some Funds and Model Portfolios also invest in non-mainstream (alternative) assets indirectly through collective investment schemes. During periods of stressed market conditions non-mainstream (alternative) assets may be difficult to sell at a fair price, which may cause prices to fluctuate more sharply.
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This should not be construed as advice for investment in any product or security mentioned, an offer to buy or sell units/shares of Funds mentioned, or a solicitation to purchase securities in any company or investment product. Examples of stocks are provided for general information only to demonstrate our investment philosophy. The investment being promoted is for units in a fund, not directly in the underlying assets. It contains information and analysis that is believed to be accurate at the time of publication, but is subject to change without notice. Whilst care has been taken in compiling the content of this document, no representation or warranty, express or implied, is made by Liontrust as to its accuracy or completeness, including for external sources (which may have been used) which have not been verified. It should not be copied, forwarded, reproduced, divulged or otherwise distributed in any form whether by way of fax, email, oral or otherwise, in whole or in part without the express and prior written consent of Liontrust.