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Fund Review: European Smaller Companies

Smaller company funds are usually expected to do well in times of economic recovery, however the idea that European smaller companies have performed particularly well in the past five years will come as a surprise to many.

The MSCI Europe Small Cap index returned 23.49 per cent for the 12 months to February 13 2014 – significantly higher than the large-cap MSCI Europe index, which produced a return of 11.55 per cent.

Furthermore, the smaller companies index has outperformed its larger peers across three- and five-year periods, meaning the sector has been delivering returns throughout the aftermath of the financial crisis and sovereign debt issues.

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The only small-cap sector that has beaten the European small cap index in the past year has been the MSCI UK Small Cap index, which produced a 25.5 per cent return.

With the latest GDP growth figures from Germany and France showing positive, if modest, improvements, economic recovery in the region seems on track, providing a lack of inflation does not become anything more than a minor irritation.

Jon Eggins, senior portfolio manager with Russell Investments, noted: “We continue to see opportunity in small caps in 2014. While valuations have become higher with such strong performance in 2013, we now see falling stock level correlations as well as increasing valuation dispersion between stocks. These factors appear to underscore the opportunity for active stockpickers in global small caps this year as macroeconomic influences recede and individual stock fundamentals come to the fore.”

Unfortunately the performance of the European small-cap sector as a whole has not necessarily translated into returns for the IMA European Smaller Companies sector.

The sector average of 17.62 per cent for the 12 months to February 13 is significantly below the MSCI Europe Small Cap index return for the same period, with only four funds in the sector beating the index return of 23.49 per cent.

Of these the best performing is the £57.4m Ignis European Smaller Companies fund (profiled on page 39), where manager Ian Ormiston looks for “quality” companies with good management teams.

Meanwhile, at the other end of the spectrum, the worst performing vehicle in the sector is the €2.8m (£2.3m) Legg Mason Royce European Smaller Companies fund, with a return of just 4.17 per cent. Its highest weighting is to healthcare at 18.43 per cent of the portfolio, while the UK is its largest geographical weighting at 23.58 per cent.

This highlights the difficulty investors can have when trying to make calls based on general performance without looking under the bonnet at specific funds. While European small caps as a whole may be on the up, picking the right fund to capture that upside is a trickier task.

The picks

Schroder European Smaller Companies fund

Managed by Luke Bierman since November 2011 this £113m portfolio has produced strong outperformance in the past 12 months with a return of 25.37 per cent against the sector average of 17.62 per cent. The highest sector weighting is to information technology at 20 per cent of the fund, while the largest geographical weighting is to Germany at 28.9 per cent. With the manager close to reaching his three-year track record at the helm, this could be one to watch.