Global equities: where to hunt for smalls and midcaps

With interest rates peaking, and depressed valuations, small and mid-cap stocks could be poised to outperform, argues Regnan’s TIM CROCKFORD

• Small, mid cap valuations depressed
• Europe, Japan, Indonesia, Brazil best opportunities
• Find out about Regnan Global Equity Impact Solutions Fund

VALUATIONS of smaller and mid-cap stocks have reached an extreme level in some parts of the world, believes Regnan portfolio manager Tim Crockford.

Global equities investors should be starting to consider allocating to smaller and mid-cap stocks or “SMIDs”, Crockford, who leads the equity impact solutions team at Regnan.

“People have taken money out of equities and much of that has gone from passive investments and systematic strategies, points out Crockford.

“So the $1 billion and $3 billion companies are disproportionately affected compared to the $100 billion or $300 billion company,” he says.

“Our macro view is that it’s going to get worse before it gets better. But financial conditions are likely to start loosening on account of the market speculating that we’ve seen peak rates.

“What the macro environment does is remove a major headwind SMIDs have faced for three years and gives them a bit of a tailwind going into next year, albeit with elevated volatility initially.

“That’s because when liquidity comes back into the market, we should get the opposite effect of what started when financial conditions started to tighten in 2021.

“We expect that to close the relative valuation gap.”

Where to look for SMIDs

There are tens of thousands of “SMIDs” stocks in developed and emerging markets.

So where to look?

Start by looking outside the United States, says Crockford.

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“In terms of developed markets, Europe and Japan offers opportunities.

“In terms of emerging markets, it’s places like Indonesia and Brazil.

“In those economies, valuations are still very attractive given where they are in the cycle. There is clear opportunity there.

“We are still looking at interesting companies in the US — and perhaps some companies there will make their way into our portfolio at some point.

“But on a stock-specific basis, the ones we like are still trading on valuations that are a bit less forgiving if we do go into an economic downturn in 2024.”

Look for growth

Beyond geography, Crockford’s team is looking for companies that will show growth over the next 12 months — or where a valuation is so depressed it’s priced for a highly negative drop in growth in 2024.

“We are looking for companies that are able to generate organic cash flows to fund at least part of their growth.

“And the remainder of the funding needs to be covered by debt that isn’t going to burden, or reverse, the positive effects of potential future cash flow growth.”

About Tim Crockford

Tim Crockford leads Regnan’s Equity Impact Solutions team and is senior fund manager of Regnan Global Equity Impact Solutions Fund. Tim previously managed the Hermes Impact Opportunities Equity Fund after co-founding the Hermes impact team in 2016.