How To Bet On The Smaller Guy

Small-and mid-cap stocks offer value, but investing in them at present carries risk. If you are looking to invest here, you need to do your homework. Analysts provide tips on how to identify the high-quality stocks in the sector, and also offer their top stock picks.

- Marcia Klein

It has been a long-held truth that mid- and small-cap stocks traditionally outperform their larger, more cumbersome rivals. However, this has not rung true over the past few years. Over the last year, for example, the mid-cap index lost 7% while the Top40 index lost 1.4%.

This is partly due to the poor performance of the South African economy and partly to the precipitous fall of the share prices of companies like Steinhoff, Aspen, EOH, Tongaat Hulett and Resilient, to name a few, which has made investors all the more wary of investing in companies other than the Top40.

Steinhoff, Aspen and Resilient all slumped spectacularly out of the Top40, although investors may consider them specific cases in point.

“The market is completely out of love with small caps,” says Anthony Clark, independent analyst with Small Talk Daily. “There have been massive redemptions and outflows from small-cap funds and significant derating of companies.

“There is currently zero interest by the wider market,” he says. “But I have been covering this sector for 25 years and I have seen this story many times. When price-to-earnings ratios (P/Es) are down to three, four or five, nobody wants to buy and when a catalyst comes, it will turn, and it will turn fast.”

There is little to suggest this turn will come soon, as the looming May election keeps investors on the fence and as economic growth, on which small caps rely, remains stubbornly elusive.

“There is significant value currently, but nobody gives a damn,” Clark says. “This market is completely out of favour.”

Clark says he would use the current market weakness to make selective investments.

The JSE considers companies in the Top40 index as large caps. It classifies mid caps as stocks ranked 41 to 100 on the market, while small caps are the companies with values smaller than the top 100 listed companies.