Smaller indices experience setback in 2014

Uncertainty surrounding central banks’ timings of interest rate rises fed into this poorer performance in the second half of the year, as doubts about global growth lingered.

Many of the Investment Association smaller companies sectors saw outflows (or at least minimal inflows) last year as investors shied away from investing in smaller companies in most regions.

According to FE Analytics, the Russell Midcap index fared better than most in the 12 months to January 28, delivering a 24.28 per cent return to investors, with the MSCI World index some way behind with a return of 16.79 per cent for the year.

The MSCI AC Europe Small Cap index only managed a paltry 1.55 per cent, with the FTSE Small Cap index generating a slightly better 2.43 per cent return over the same period.

The FTSE 250 index was a bright spot in 2014 though, returning 7.35 per cent in the last year.

Richard Bullas, portfolio manager of the Franklin UK Smaller Companies fund, recalls that there was a lot of money flowing into the UK small- and mid-cap sectors at the beginning of the year, with European money in particular looking for a “home” in small and mid caps.

Mr Bullas says: “But things reversed quite sharply back in March and April, as we started a period of underperformance for small caps. There are a couple of reasons for that: one was primarily the concern about what [the Bank of England governor] Mark Carney was saying about interest rate rises. Suddenly people got a little bit scared that growth was going to slow because Carney was going to hike up interest rates.

“At the same time, you had an outflow of money from the sector. People wanted to bank profits due to the strong outperformance but wanted to move slightly more defensive as well. You had a switch in the market where people started to buy more blue chips.”

This trend is reflected in net retail sales of the IA UK Smaller Companies sector, which saw strong inflows at the start of 2014, peaking at £241m in February. But from May the sector experienced outflows in net retail sales in every month to the end of the year.

The IA North American Smaller Companies sector saw net retail sales outflows for the majority of 2014, but the falling oil price has been a boost to the US economy more recently. The F&C FundWatch survey for the fourth quarter of 2014 shows the North American Smaller Companies sector was the top-performing sector in the period, rising more than 10 per cent.

Peter Ewins, manager of the F&C Global Smaller Companies investment trust, notes: “We expect the housing market to be strong this year given the improving consumer backdrop – the US consumer is benefiting more than most from the collapse in oil prices due to lower taxation of petrol/diesel there.”

Turning to Europe, Mr Ewins adds: “European small-caps with exposure to international markets through exports should be feeling the benefit from the fall in the euro progressively.”

Ellie Duncan is deputy features editor at Investment Adviser

EXPERT VIEW

Peter Ewins, manager, F&C Global Smaller Companies investment trust, says:

“In general small caps lagged large-caps in most places in 2014. I largely put this down to the fact that the relative valuation case had weakened after years of relative outperformance from small caps, especially in the UK and Europe. Some of the sectors that did best in 2015 favoured large cap over small. For example, consumer staples stocks were re-rated, perhaps as investors sought more security at a time of ongoing sluggish growth in Europe and a slowdown in Asia.

“In the UK there was also an issue last year with small-cap funds seeing outflows at a time when there was a lot of fundraising from existing companies and IPOs – this tends to drag on share prices.

“After this year of underperformance the relative value case for small versus large cap is looking a little better, albeit overall valuation metrics cannot always be trusted and do not look bargain basement by historic standards.”