Your chance to strike it big with smaller shares

MANY of the share market’s big guns have been misfiring in recent years, tempting investors to think about targeting smaller companies instead.

Small caps – stocks that sit outside the top 100 – have increased their value more than the ASX top 20 over the past year, but choosing which small companies to buy can be tricky.

While every big company today was once a small company, the increased choice among small caps may cause confusion, there’s usually less analysis of smaller companies, and potential traps are lurking.

Matthew Booker, a portfolio manager at small cap specialist Spheria Asset Management, said potential small cap investors should be careful not to get “sold a hospital pass”.

“There are a lot of selfpromoting companies in the small cap space that don’t generate cash flow and never will,” he said. “When they fall, they fall hard.”

Spheria is raising up to $250 million from investors for a new listed investment company, Spheria Emerging Companies, which aims to debut on the ASX on December 5. It’s IPO closes on November 24.

Mr Booker said Spheria looked for growth potential and undervalued companies, and had focused on stocks including Beacon Lighting, Sirtex Medical, engineering group Monadelphous and health supplements firm Blackmores.

The higher volatility of small caps share prices can boost your chances of buying a bargain.

“The share price gets downtrodden but it’s not indicative of the value of the company,” Mr Booker said.

CMC Markets chief market analyst Ric Spooner said potential investors should look at small caps as individual companies rather than an entire sector.

He suggested people hunting small caps should first think about themes they felt were likely to have a big impact on Australia’s future economy, such as the ageing population, technological disruption and renewable energy.

“It can be a very good way to diversify a portfolio and find additional opportunities,” Mr Spooner said.

If your small cap investment suddenly grows quickly, such as Domino’s Pizza Enterprises or A2 Milk Company in recent years, be prepared to take some profits off the top.

And expect increased volatility, less liquidity when you go to sell, and the chance that boards and management lack experience compared with big company bosses.

Mr Spooner said investors without the time or confidence to pick a portfolio of small cap stocks could consider exchange traded funds, listed investment companies or managed funds.