Small cap managers with an approved or above rating from Zenith Investment Partners returned an average 20.6% in the 2012 calendar year, according to the research house’s Small Companies sector review.
This was 14% above the benchmark return of 6.6%.
Bronwen Moncrieff, Head of Research at Zenith said “It is hard to believe the sector finished 2012 with a positive return of 6.6% for the S&P/ASX Small Ordinaries Index for the year. Given the day-to-day economic headlines, the downturn in the resources sector, the subdued retail sector, let alone the ongoing monetary issues in the US and Europe, the modest return for the sector was encouraging. And what a contrast to 2011, where the same index returned -21.4% for the year.”
Moncrieff also noted that while the resources sector was a significant component of the index (32% as at 31 December 2012) and that it significantly underperformed the industrial sector for the year (-18.5% for the resources component versus +24.0% for the industrials component), many Aussie small cap managers outperformed the index throughout 2012.
On average, Zenith’s small cap manager universe has been significantly underweight the resources sector, so these results are not entirely unexpected. Reasons for the resources underweight vary, but a common theme has been the limited number of small cap mining companies that pass many managers’ security selection process.
Unlike resources companies in the large cap space, small cap resources companies are traditionally under-diversified and have exposure to a single commodity or mine. This often results in a company’s cash flows being extremely volatile as they can be substantially impacted by a rapid appreciation/depreciation in the price of the underlying commodity. These characteristics, along with many small resources companies experiencing negative cash flows, high operational leverage or a low interest coverage ratio, have meant that managers looked elsewhere.
Moncrieff went on to say, “We have observed a variety of responses from managers to investing in the resources sector over the past few years. Some managers have shifted assets away from the sector into more defensive and yield focused areas. Some small cap managers who did not have specialist in-house resources expertise have screened out resource companies altogether, and other managers have added specialist resource research and portfolio management expertise to their team. Interestingly, towards the end of 2012, several managers indicated that resources securities were becoming increasingly cheap from a valuation perspective and highlighted a potential shift towards these assets during the 2013 calendar year.”
Zenith’s 2012 Australian Small Companies Sector Review covered Australian small, mid and micro cap equity managers. Of the 30 funds Zenith reviewed, three achieved Zenith’s top rating.
For the small cap sector, the funds that received a Highly Recommended rating were:
- Celeste Australian Small Companies Fund
- Fairview Emerging Companies Fund
- the Ironbark Karara Australian Small Companies Fund.
For each of these funds, Zenith has a high level of confidence in the highly experienced investment team and in-depth research process.
In addition to the three Highly Recommended funds Zenith has on its Recommended List, 15 funds across the small, mid and micro cap spectrum were rated Recommended. All 18 of these funds are now candidates for Zenith’s client model portfolios.
Given the considerable number of small, mid and micro cap funds available to investors (Zenith’s initial universe consisted of 51 funds), Zenith’s Recommended List of 18 managers may appear slim; however, Zenith’s research approach is aimed at maintaining a focused Recommended List for clients.
Zenith’s complete Recommended List for the Australian small cap sector, broken out by sub sector, is shown below:
Zenith – small cap recommended list
