Investment Trust Insights

UK small cap stocks send a positive message for investors

The UK economy may still be in the early stages of a recovery, but if stock markets are indeed leading indicators, the UK smaller companies market may be offering some good news for investors.

The portfolio managers of the JPMorgan UK Small Cap Growth & Income plc (JUGI) see a number of signs that may be pointing to recovery—including strong performance from small cap stocks over the past 12 months. What’s more, UK equity valuations are still highly attractive, especially if the economy continues to strengthen.

The UK economy is recovering

The domestic economic outlook is one of the most important drivers for smaller companies because so many smaller businesses depend on the domestic economy for their business operations.

The good news is that a number of economic indicators appear to be improving. The GfK measure of consumer confidence is increasing and consumer price index (CPI) inflation, which spiked severely in 2023, has come back down to more normal levels. The purchasing managers’ indices (PMIs) show that the UK economy is expanding again and households appear to have increased savings, potentially a function of higher wages and indicating a healthy consumer.

Valuations are attractive

The UK equity market, including small caps, looks inexpensive; the market is trading at over a 40% discount to the US equity market, when looking at price to 12-month forward earnings and the valuation discount to European stocks has also widened. The UK market also looks inexpensive on free cash flow yield.

It’s not just JUGI’s portfolio managers that think UK small cap stocks look cheap. Companies have been increasingly buying back their own stock. While JUGI’s portfolio managers have typically favoured investing in companies that are paying special dividends to shareholders, which are especially positive for investment trusts, current valuations are so attractive that they can’t think of anything more profitable than companies buying back their own shares.

Merger and acquisition (M&A) activity in the UK market has also picked up significantly from the low level of activity a year ago, signalling that corporate managements also think UK smaller companies are attractively valued. JUGI has benefited from several transactions, where corporate buyers have paid premiums for a few companies held in the portfolio.

Positioning for a positive outlook

JUGI’s portfolio managers are positive on the outlook for the UK economy and UK smaller company stocks. The relative health of the UK consumer supports many of the portfolio’s holdings in the household goods & home construction sector, the trust’s largest overweight sector position. The portfolio managers have been particularly keen on the housebuilding industry where they maintain a position in MJ Gleeson. And although the repair, maintenance and improvement (RMI) market has been weaker, the trust’s holding in Volution has been delivering growth, benefiting from a new regulation related to ventilation in the residential market.

The managers’ positive view on the consumer flows through to positions in travel and leisure companies, such as Hostelworld, which is benefiting from some investments in technology. The trust also has an overweight position in banks, including Paragon, which is taking market share from some high street banks.

The ability to use gearing, currently at 10%, is another way JUGI’s portfolio managers can express a positive outlook.

Evolving portfolios for the long term

JUGI reflects the merger of JPMorgan UK Smaller Companies Investment Trust plc with JPMorgan Mid Cap Investment Trust plc, completed at the end of February 2024. The resulting portfolio is now twice its size from the beginning of year. The strategy still focuses on smaller cap stocks but also has flexibility to add positions at the low end of the mid cap range. The trust now has a stated policy to pay 4% of NAV per annum, with 1% paid each quarter.

Importantly, the investment philosophy remains the same. The portfolio managers look for opportunities with a combination of value, quality and momentum that have the potential to generate higher returns than the benchmark over time.

The securities above are shown for illustrative purposes only. Their inclusion should not be interpreted as a recommendation to buy or sell.

Summary Risk Indicator

The risk indicator assumes you keep the product for 5 year(s). The risk of the product may be significantly higher if held for less than the recommended holding period.

Investment objective

This Company aims to maximise total returns from Emerging Markets and provides investors with a diversified portfolio of shares in companies which the Manager believe offer the most attractive opportunities for growth. The Company can hold up to 10% cash or utilise gearing of up to 20% of net assets where appropriate. Gearing may magnify gains or losses experienced by the Company.

Risk profile

Exchange rate changes may cause the value of underlying overseas investments to go down as well as up.

Investments in emerging markets may involve a higher element of risk due to political and economic instability and underdeveloped markets and systems. Shares may also be traded less frequently than those on established markets. This means that there may be difficulty in both buying and selling shares and individual share prices may be subject to short-term price fluctuations.

Where permitted, a Company may invest in other investment funds that utilise gearing (borrowing) which will exaggerate market movements both up and down.

External factors may cause an entire asset class to decline in value. Prices and values of all shares or all bonds and income could decline at the same time, or fluctuate in response to the performance of individual companies and general market conditions.

This Company may utilise gearing (borrowing) which will exaggerate market movements both up and down.

This Company may also invest in smaller companies which may increase its risk profile.

The share price may trade at a discount to the Net Asset Value of the Company.

The Company may invest in China A-Shares through the Shanghai-Hong Kong Stock Connect program which is subject to regulatory change, quota limitations and also operational constraints which may result in increased counterparty risk.
 

This is a marketing communication and as such the views contained herein do not form part of an offer, nor are they to be taken as advice or a recommendation, to buy or sell any investment or interest thereto. Reliance upon information in this material is at the sole discretion of the reader. Any research in this document has been obtained and may have been acted upon by J.P. Morgan Asset Management for its own purpose. The results of such research are being made available as additional information and do not necessarily reflect the views of J.P. Morgan Asset Management. Any forecasts, figures, opinions, statements of financial market trends or investment techniques and strategies expressed are unless otherwise stated, J.P. Morgan Asset Management’s own at the date of this document. They are considered to be reliable at the time of writing, may not necessarily be all inclusive and are not guaranteed as to accuracy. They may be subject to change without reference or notification to you. It should be noted that the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Changes in exchange rates may have an adverse effect on the value, price or income of the products or underlying overseas investments. Past performance and yield are not reliable indicators of current and future results. There is no guarantee that any forecast made will come to pass. Furthermore, whilst it is the intention to achieve the investment objective of the investment products, there can be no assurance that those objectives will be met. J.P. Morgan Asset Management is the brand name for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. To the extent permitted by applicable law, we may record telephone calls and monitor electronic communications to comply with our legal and regulatory obligations and internal policies. Personal data will be collected, stored and processed by J.P. Morgan Asset Management in accordance with our EMEA Privacy Policy www.jpmorgan.com/emea-privacy-policy. Investment is subject to documentation. The Annual Reports and Financial Statements, AIFMD art. 23 Investor Disclosure Document and PRIIPs Key Information Document can be obtained in English from JPMorgan Funds Limited or at . This communication is issued by JPMorgan Asset Management (UK) Limited, which is authorised and regulated in the UK by the Financial Conduct Authority. Registered in England No: 01161446. Registered address: 25 Bank Street, Canary Wharf, London E14 5JP.

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