Tread lightly in the small-cap sector for now
In this election season, the risk of being invested in domestic-focused South African stocks is heightened
Iwent away for the extended Easter holidays, taking my dog with me, hoping to spend the time at the coast relaxing after a gruelling reporting season.
But my work never really leaves me and despite taking long dog walks it occupied me for much of that week. Nevertheless, the break gave me a chance to reflect on the year so far.
It has had a challenging start. The JSE small-cap and mid-cap sectors ended the first quarter down 1% and
2.8% respectively.
My top nine stocks for 2024 ended this period 6% ahead, which was heartening in what has been turbulent times.
As we head to the great unknown of the national elections on May 29, I am aware that the risk of being invested in domestic-focused South African stocks is heightened, especially in the increasingly illiquid small-cap sector.
LOW VALUATIONS
I have covered the sector for more than 30 years and am noticing ludicrously low valuations for solid stocks in my universe, as well as many special situations. I also see further JSE delistings.
It’s a brave institutional investor who wants to become involved in the smallcap sector in the current climate. I am aware of some basket selling in the sector as the second quarter starts, as certain funds want some risk off the table. This is understandable, and it gives retail investors an opportunity.
I continue to look for points of interest, which, for the patient and nimble investor, remain numerous. I am updating my top nine, and have added 2% to the performance, with the selection ahead by 8% with a small cap index -0.6% and the mid-cap up 1.5%.
My top stocks continue to look favourable. There has been a tussle for the top performer between Argent Industrial (up 21%) and the current leader, Libstar (up 25%). Year-end results are due from Argent and I expect a robust update, as the weak rand will aid offshore earnings, though the indifferent domestic economy will take some of the shine off the expected earnings.
On a p:e of 4.5 and a forward p:e of four, the counter remains attractive and hasn’t put a foot wrong since 2018. It has a rising earnings and NAV trend.
Libstar had a much better than expected 2023, with headline earnings per share rising 6%. The underlying narrative on the stock from management, which has got to grips with past challenges, has also improved. This has cheered the market.
It is trading at 398c and whispers about corporate activity continue to swirl. I am aware that there has been selling by the Public Investment Corp, but that stock has quietly been bought by a leading blue-chip asset manager.
BACK TO SCHOOL
The worst performer, which was last year’s total winner, is Curro Holdings, now down 6%. Despite good earnings for 2023, the market was concerned about slowing growth rates, the debt pile and impairments on 28 underperforming schools. After chatting to the company, and because the entire education sector is showing great results for the second year, I am holding the line with Curro — despite AdvTech stealing its thunder so far in 2024.
There have been interesting moves in the sector over the past month. A flap over the possible control of Quantum Foods the animal feeds, contract poultry farming and eggs small cap — has pushed the share from 425c to an R18.50 high. That’s 300% in a month. On fundamentals the stock is ludicrously high. I would not be trading this stock, now at R16.
From the ashes, Renergen has risen from 999c in midFebruary to 1265c as I write, a rally of 27%. There has been some justified company bashing and some unjustified mudslinging.
The market is awaiting an update about the resumption of helium production, any further stake sale in Tetra4 and the Nasdaq listing, and I hope that by the time IM hits the shelves some news will be out to support the recent rally.
In closing — older readers may remember this — I have to use an immortal line from the 1980s US police TV series Hill Street Blues. Sgt Phil Esterhaus always ended his morning briefing with the words: “Let’s be careful out there.”
That’s how I feel about the JSE small-cap sector for now and until the elections are done and dusted and we know who, if anyone, is in charge of South Africa.