Matt Tonge

Sizing up the Smaller Companies opportunity in 2020

Matt Tonge

The Liontrust UK Smaller Companies Fund enjoyed a very healthy investment return last year, up 31%*, helped by a benign backdrop for small caps which resulted in an 18% gain for the FTSE Small Cap Index and 13% rise in the FTSE AIM All Share Index. What drove this return, and should investors expect more of the same in 2020?

Last year’s gains were initially driven by a big bounce-back from the market’s losses at the tail end of 2018. In the last quarter of 2018, the small cap end of the UK market fell 10% and de-rated from a price/earnings ratio of around 14x to nearer 11x. Compared to the market average, the Fund’s companies are typically on higher ratings due to their superior growth profiles and quality characteristics. The Fund’s average p/e multiple finished September 2018 on around 25x, contracting to around 20x by the end of 2018.

The initial part of 2019’s strong market performance is then best characterised as a straightforward rebound. This was initially driven by value stocks, which meant that the Fund lagged the market’s rise by a bit at the start of the year. But as the rally matured, impetus increasingly came from the higher quality small caps of the type owned in the Fund. At the end of the year, of course, the market got another broad-based boost from the resounding Tory general election victory.

Drilling down into the Fund a bit more, we find that 2019’s strong performance came from a combination of some big individual stock gains (20 holdings notched up 50%+ gains) and effective risk management. The majority of the Fund’s biggest fallers in the year had originally been assessed as higher risk when they were added to the Fund and therefore assigned lower holding sizes of 1% (versus 2%, 3% or a maximum of 4% for lower risk holdings). This obviously limited the overall impact on the Fund.

By the end of 2019, the Fund’s average share price valuation had returned to 24x (vs 12.6x for the market) – almost back to the levels prior to the big Q4 2018 sell-off. In broad terms, this implies that around two-thirds of the Fund’s gains in 2019 came from price/earnings ratings expansion – shares becoming more expensive – and one-third from earnings growth.

Looking forward to the rest of 2020, we think that potential gains for the Fund will have to largely be driven by earnings growth; at current valuations, there isn’t a huge amount of scope for further multiple expansion. The good news is that UK Smaller Companies is a growth fund and – so long as we’ve successfully picked good companies capable of delivering on their expansion plans – there should be plenty of scope for increased earnings. The average earnings growth achieved by the Fund’s holdings over the last five years is 21% per annum, more than double the FTSE Small Cap Index average, and further double-digit growth is forecast.

Obviously, the UK political situation is going to be a lot more supportive to UK smaller companies than the paralysis of 2019. Hopefully, the removal of a substantial amount of uncertainty will see purse strings loosened across the economy. The UK stockmarket’s rise since the election has already priced a lot of this in but it doesn’t yet feel like we’ve seen a concerted push from overseas investors to re-allocate to the UK. This could provide another tailwind to share prices if they do.

Discrete years' performance** (%), to previous quarter-end:








Liontrust UK Smaller Companies I Inc






FTSE Small Cap ex ITs






IA UK Smaller Companies













*Source: Financial Express, as at 31.12.2019, total return (net of fees and income reinvested), bid-to-bid, institutional class. Non fund-related return data sourced from Bloomberg. Past performance is not a guide to future performance.


**Source: Financial Express, as at 31.12.2019, total return (net of fees and income reinvested), bid-to-bid, primary class.


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Key Risks 

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 and is not guaranteed, therefore, you may not get back the amount originally invested and potentially risk total loss of capital. Some of the Funds managed by the Economic Advantage team invest primarily in smaller companies and companies traded on the Alternative Investment Market.  These stocks may be less liquid and the price swings greater than those in, for example, larger companies. The performance of the GF UK Growth Fund may differ from the performance of the UK Growth Fund and will be lower than its corresponding Master Fund due to additional fees and expenses.


The information and opinions provided 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.  Always research your own investments and (if you are not a professional or a financial adviser) consult suitability with a regulated financial adviser before investing.

Tuesday, January 28, 2020, 10:59 AM