Recent market pull-back is enabling Australia’s small cap sector to become increasingly attractive for longer-term investors, according to Maple-Brown Abbott co-portfolio managers.
Phillip Hudak and Matt Griffin agree that there is an attractive entry point at both the sector level and for a number of individual stocks amid recent market weaknesses.
“Australian small cap companies are well positioned for a downturn: valuation metrics currently look attractive versus large caps, balance sheets are relatively strong with low debt levels, the majority of stocks in the benchmark are profitable, and many companies have cost levers that can be pulled,” Mr Hudak explained.
The team further noted that poor sentiment for Australian small caps has, typically, proven to be a positive contrarian indicator for the asset class.
Mr Griffin added: “Our ‘earnings drive share prices’ philosophy means the team typically focuses on companies that have proven fundamentals and are in the right phase of the earnings cycle.
“This also means we systematically avoid select parts of the small cap market, namely where companies are ‘selling the dream’ as opposed to delivering growing, reliable earnings over the medium term,” he continued.
As such, the firm believes that portfolios that are constructed around undervalued holdings with idiosyncratic exposures is a reliable source of alpha generation.
“Since inception of the Maple-Brown Abbott Australian Small Companies Fund, this approach has delivered significant outperformance versus the small ordinaries benchmark, with lower volatility than the benchmark,” the firm said in its most recent market outlook.
It added that the fund has selected exposures to segments of the market experiencing medium-term structural growth, including electric vehicles, biotechnology, travel, and uranium.
“The team believes uranium is a key commodity exposure to be involved in over the medium term. Two key reasons for this belief include growing acceptance of nuclear power as part of the future energy mix and increased term contracting activity, driven in part by increased supply shortages,” the firm said.
Last week, the Future Fund announced in its annual report that it had begun a new partnership with Maple-Brown Abbot in line with its pursuance of “persistent” alpha opportunities.
The fund, which returned to active equity management after a six-year pause, emphasised that the “broad and diversified nature” of the small company benchmark inherently enables active managers to leverage proprietary insights, allowing them to take significant positions relative to the index and generate alpha specific to individual stocks.
“By adopting an active strategy in Australian small companies, we are backing the investment management industry in Australia and enhancing our support for the country’s emerging corporate leaders through considered capital allocation and constructive engagement,” the Future Fund said last week.