Equities Highs and lows: the valuation question
How worried should investors be when gauging the likelihood of small-caps’ continued outperformance?
12 July 2021
Article
Invesco’s approach: smaller companies
12 July 2021
Local expertise, global coverage
Valuation is not the only consideration that is taken into account when constructing Invesco’s small-cap strategies. It is central to several of the factors in our underpinning model, but we also inform our decisions by applying sentiment-based analyses.
These particularly focus on issues such as relative strength and global competitiveness. In addition, reflecting perhaps the most significant investment trend of recent years, they encompass a range of environmental, social and governance (ESG) issues.
With the small-cap universe genuinely global and therefore home to many thousands of stocks, organisational infrastructure is also crucial to the effectiveness of investment philosophy. As mentioned earlier, this is a sector that is often not only underappreciated but under-researched. Local knowledge is imperative, as is sheer resource.
“This is a difficult asset class to manage well, which may be why some asset managers don’t market their products in this space too much,” Esselink told the webinar. “We believe there’s a lot of alpha in small-caps, but the main difficulty is capturing that in a scalable way. That’s why we use a ‘team of teams’ approach. You need a lot of expertise and a lot of people to do this successfully.”
One advantage of this way of working is that it encourages regional teams to share and benefit from a diverse array of insights. This should help deliver superior investment outcomes overall.
“As a group, we really facilitate a self-learning mechanism,” explained Esselink. “We try to learn from what’s going in the US, for example, and how it impacts Europe, the UK, Asia and so on. This process helps us all understand where we need to be overweight and where we need to be underweight.”
We believe there’s a lot of alpha in small-caps, but the main difficulty is capturing that in a scalable way. That’s why we use a ‘team of teams’ approach.
Key investment themes
Beyond our underpinning model and our combination of local expertise and global coverage, what means does Invesco employ to make sense of the small-cap universe? Not least amid the disruption wrought by the COVID-19 crisis, we believe in identifying underlying themes that mark out companies capable of controlling their own destinies.
One such theme, West told the webinar, is Self-Help and Recovery. “This relates to fundamentally good-quality businesses that have lost their way,” he said. “Importantly, there’s usually some kind of catalyst for change – for example, a new management team that will restructure a company and reinvigorate growth.”
Another is Roll Out/Roll Up. The first element refers to a successful franchise that is expanding domestically or internationally; the second refers to a business that is achieving consolidation in a fragmented market.
A third theme, Structural Growth, has recently favoured numerous technology companies. This is because lockdowns have accelerated digitisation and more “remote” lifestyles, in many cases seemingly establishing new normals of consumer and corporate behaviour. “The pandemic has pushed forward digital transformation by up to five years for some businesses,” Hartsfield told the webinar.
Other themes include Healthcare, another sphere characterised by fast-paced innovation; E-Commerce, which is increasingly a feature throughout small-cap portfolio holdings; Sustainable Energy and Decarbonisation, which taps into a variety of ESG considerations; and Cash Compounders, which covers companies with solid market positions, strong margins and growing dividend payments.
“We’ve been backing many of these themes for some time, but we’re now looking at them through a post-COVID lens,” Esselink told the webinar. “We believe these are themes that will continue for the foreseeable future. It’s a question of normalisation and permanent change, and we’re finding a lot of opportunities in companies that haven’t been widely identified yet.”
We believe these are themes that will continue for the foreseeable future. It’s a question of normalisation and permanent change.
Investment risks
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The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.
Investing in smaller companies may result in a higher level of risk than investing in larger companies. Securities of smaller companies may be subject to abrupt price movements and may be less liquid, which may mean they are not easy to buy or sell.
Important information
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This is for Professional Clients in the UK only. This document is not for consumer use, please do not redistribute.
Where individuals or the business have expressed opinions, they are based on current market conditions, they may differ from those of other investment professionals and are subject to change without notice.
Whilst the fund managers consider ESG aspects they are not bound by any specific ESG criteria and have the flexibility to invest across the ESG spectrum from best to worst in class.
This document is marketing material and is not intended as a recommendation to invest in any particular asset class, security or strategy. Regulatory requirements that require impartiality of investment/ investment strategy recommendations are therefore not applicable nor are any prohibitions to trade before publication. The information provided is for illustrative purposes only, it should not be relied upon as recommendations to buy or sell securities.
Issued by Invesco Asset Management Limited, Perpetual Park, Perpetual Park Drive, Henley-on-Thames, Oxfordshire RG9 1HH, UK. Authorised and regulated by the Financial Conduct Authority.
