What are the big themes that are likely to affect little companies next year? Carrying on from last week, we spoke to six small cap fund managers to get their thoughts.
Average stocks prices (that is, equity market indexes) are all about expectations regarding where the world is headed in economic and financial terms. The fund managers' varied responses to the outlook for the resources market indicates that even though many companies are on sale, there is massive uncertainty about whether it is possible to make money out of the sector.
Theme 5 Resource company consolidation Many resources specialists are adamant that at this stage in the resources cycle it is time to buy small cap miners because of the strong probability of them getting gobbled up by the bigger operators looking for growth. That consolidation will happen isn't debated among the fund managers, whether you can make money from it is.
Ausbil's Chris Prunty is nervous about the wealth destruction capability in small mining companies. The ASX Small Resources Index is down 60 per cent in the past two years. Yet he does have some money in the oil and gas sector in North American frackers Red Fork Energy and Sundance Energy. And like Celeste Funds' Frank Villante, his fund has exposure to iron ore production in BC Iron.
Theme 6 The Asian Food Bowl The one resource that some investors have been benefiting from lately is food. This sector has experienced a real take-off in valuation as offshore interest ramps up in Australia's agriculture assets. Stocks in Warrnambool Cheese & Butter Factory, salmon producer Tassal and almond harvester Select Harvests have been rising at a rate of knots.
The sector is not without its risks, however. "We struggle to find good ways to invest. The return from agriculture is very low because of weather-related risks and commodity prices," says Australian Ethical's Andy Gracey. Sector expert Paul Jensz, of Phillip Capital, continues to like Select Harvests, stock feed supplier Ridley, Bega Cheese and crop protection specialist Nufarm.
Theme 7 Mining services You can't be a small caps investor without having a view on mining services. Much of Australia's competitive edge comes from being the "extraction experts". Cynthia Jenkins' fund at Invesco is value-oriented. She has been using the weakness to top up her holdings in RCR Tomlinson, Ausdrill and Bradken.
Theme 8 The Australian dollar Last week the dollar reached multi-month lows against a range of currencies and went below US90¢. This is amid evidence that domestic politicians and Treasury officials are taking part in the currency wars. It is more the result of deteriorating Terms of Trade because of weakening commodity prices.
Prunty says that the trade would be to short the Australian dollar. A safer bet would be to purchase big exporters, which include software and technology companies such as encapsulation specialist Clover and the biotech Alchemia.
Theme 9 IPO frenzy to continue
Perpetual's Jack Collopy echoes the thoughts of many in the market: "The market is at reasonable levels. There is a big pipeline, so as long as they're reasonably priced, it should keep going."
Richard Hemming edits the fortnightly newsletter Under the Radar Report: Small Caps.