The Australian: Spheria stays cool amid rush to hot small caps
Spheria portfolio managers Marcus Burns and Matthew Booker are looking forward to investing the proceeds of the Spheria Emerging Companies IPO which closed yesterday, but they won’t be rushing into all the hot small cap stocks that are flavour of the month.
The Spheria small caps IPO raised $132 million — comfortably above the $100m minimum. It will issue 66,000,000 fully paid ordinary shares in the listed investment company at an application price of $2 a share, due to start trading on the ASX on December 5.
“Our view is that there’s a lot of speculative money playing the markets right now,” Burns tells The Australian. “Particularly in the smaller end.” Small caps are certainly outperforming the broader market this year. The S&P/ASX 200 Small Ordinaries Index is up 12.3 per cent versus a 5.6 per cent rise in the blue chip S&P/ASX 200.
Small caps surged in early 2016 as large cap fund managers waded in to boost their performance, but a rush for the major banks and resources companies after the US election sidelined small caps for more than 12 months, crimping the performance of many active fund managers.
A number of popular small caps like Estia Health, Aconex and Spotless suffered sharp falls and retail stocks were beaten down by investor anxiety about the impending arrival of Amazon in Australia.
Spheria bought into Adairs and Vita Group as their share prices hit multi-year lows this year.
“We typically form a view of what a company is worth and what could happen in a worst-case scenario,” Burns says. “In both scenarios Adairs looked pretty attractive. Vita hasn’t been a huge winner so far although we still think it’s very cheap.”
Overall he says it’s a tough market because a lot of the hot stocks have run so aggressively.
After underperforming global markets since May, Australian shares had their best month for the year in October. The S&P/ASX 200 rose 4 per cent while the Small Ordinaries index rose 5.9 per cent.
“A2 Milk, Bellamy’s, WiseTech, Afterpay — anything tied to the China growth story or the fintech growth story has been bid up on nothing more than euphoria as far as we can tell,” Burns says.
In fact, the gains driving the small caps benchmark have been very narrow.
“With literally 10 stocks that went up 30 to 50 per cent — it looked really unusual.”
Unlike 2016 — when large cap fund managers waded into small caps — he thinks the surge in recent weeks has been driven more by retail money rather than the large cap managers.
“My sense is that it’s late-cycle retail money pumping into the stocks that have gone up a lot.”
While the current optimism about the global economy has no doubt helped share market sentiment, Burns says the small caps that have run hard recently aren’t due for a catch-up.
“If they were underperforming stocks that have had good upgrades — I would get it — but they’re stocks that were already fully rated, with strong momentum. You always worry when they are driven up by people just looking for a quick return,” he says.
“These kind of gains, I do think they flag that some caution is warranted. You’ve got a lot of people flying into this stuff. They don’t do valuations and they don’t really know what they’re buying.”
He sees some parallels between the surge in small caps and the mania over bitcoin this year.
The value of the cryptocurrency has surged almost 22-fold against the US dollar this year. Yesterday it jumped 17 per cent to $US9735, putting it within easy reach of $US10,000.
“It feels to me that euphoria in markets is driven by speculative forces at the moment,” Burns says. “Some small cap companies are flying up without fundamentals to justify them, and other things like bitcoin — which are pure speculation — are going up a lot as well; just confirms we’re pretty late cycle.
“They’re general signs that we’re seeing in a toppy market, so we’re just going back to basics and making sure that everything we buy ticks all our boxes because invariably you look a little silly if you don’t own all the hot stocks in a given period of time, but chasing all the hot stocks is not a great way to invest long term. Usually these speculative moments end up causing some pain.”