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Small caps an overlooked source of returns for investors

Serious man investor

Exposure to international smaller companies has been pinpointed as an untapped area for investors, with one portfolio manager saying the returns offered outweigh the volatility characteristic of the asset class.

Zenith Investment Partners has encouraged international equities investors to look towards smaller companies as availability of stocks grows.

According to the investment research group, allocations in international small companies as part of a larger international equities portfolio could significantly increase an investor’s return profile should they engage in active investment.

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Although small caps – defined as stocks with market capitalisations of between US$200 million and US$1.5 billion – were found to have been at risk of higher volatility than large caps over a 17-year period, the group noted that the difference has narrowed substantially in recent times.

It is suggested that the current low interest rate environment is affording investors tolerance against a higher degree of risk.

Speaking with Nest Egg about the asset group, Simon Wood, investment manager of Ausbil’s Global Small Caps Portfolio, said despite this increased exposure to risk, small caps can offer significant value within a diversified portfolio.

“The extra return you get actually outweighs the extra volatility significantly,” he said.

“So, when you talk about risk-adjusted return, you’re really getting a lot more return for the extra volatility you’re taking.”

He said investors who do not include small caps within their portfolios may be missing out on a significant segment, with over 4,300 stocks existing across 23 developed markets.

“73 per cent of all companies on global share markets in the world are actually small caps, so if you’re not investing in global small caps you’re actually missing out on a really large, interesting segment of the market,” he said.

“There’s much lower market scrutiny on these smaller companies, which means they’re less efficient, and therefore, it has great potential to find really good investment ideas and deliver really good relative returns for investors.”

Mr Wood said he noticed real value opportunities across retail and consumer names within the small cap segment, many of which offer high-quality, niche products through a well-run business structure.

“Those are going to deliver sustainable earnings growth going forward,” he concluded.

Small caps an overlooked source of returns for investors
Serious man investor
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