The FTSE index of small market capitalisation equities excluding investment trusts has soared almost 70 per cent over the past year, widely outpacing the 23 per cent rise for the FTSE 350 index of the biggest stocks listed on UK markets.
In a sign of the strength of the rally, the small cap gauge struck a record high on Tuesday, while the UK benchmark FTSE 100 remains more than a tenth below its 2018 peak.
The dramatic gains are part of investors’ global shift into smaller stocks since the breakthroughs on coronavirus vaccines last November. But they also underline the growing appeal of smaller UK companies after years of Brexit uncertainty.
“The UK is a fantastic space to be a small-cap investor,” said Hamish Galpin, head of small and mid-cap investing at Federated Hermes. “You are dealing with a very broad and deep market,” with a large number of quoted companies.
Small caps have historically outperformed large caps owing to faster growth from their internal operations and the greater chance of takeovers by larger companies, said Indriatti van Hien, portfolio manager of UK equities at Janus Henderson.
Those mergers are starting to pick up pace. For instance, private equity group Siris Capital has approached service provider Equiniti over a potential takeover. Equiniti’s share price has risen 58 per cent in the year to date, bringing its market cap is £640m.
The UK’s vaccine rollout and a heavier weighting in sectors including travel, leisure and retail have also given smaller companies an edge over bigger stocks, van Hien added.
“Last year, Covid-19 created this enormous bifurcation of valuations between stocks,” she said. “This is really the snapback of what happened last year when the ‘stay at home’ stocks did well and the ‘go to work’ stocks struggled.”
The conclusion of trade talks with the EU at the end of last year has also helped the UK to close the gap with other markets.
Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown, said other factors in favour of small caps were the advantages of lower costs of doing business and a smaller, more nimble workforce, allowing them to respond faster to the crisis.
“Many of the smaller companies have had digital front and centre of their operations,” she added. “It’s almost inevitable that they would see this rapid growth while some larger companies have found it harder to be as nimble shifting to this new digital world.”
Among the top performing small-cap companies over the past year in the UK she singled out were retailer Halfords with a roughly 240 per cent price increase and logistics company Clipper Logistics with a more than 220 per cent price increase. The latter has benefited from the remaining teething problems affecting trade with Europe.
Guarantor loans lender Amigo Holdings has provided the largest increase in 2021, with its stock price rising by around 190 per cent. Other successes include Card Factory, logistics provider Wincanton and peer-to-peer lender Funding Circle.
While the UK has had particular success in its small caps, the uplift is not unique, said Jeff Kleintop, chief global investment strategist at Charles Schwab.
The MSCI index of small-cap stocks across global developed markets has increased by 14 per cent in the year to date in US dollar terms, compared to the wider MSCI World index’s 10 per cent gain. In the US, the small-cap Russell 2000 has rallied 14 per cent, compared to 11 per cent for the benchmark S&P 500.
Among the factors that have helped raise their share prices were a significant numbers of share buybacks and the sectors which they include – such as industrials, discretionary spending and financials – are often beneficiaries of the early stage of the economic uplift, said Kleintop.
Galpin said that globally, stocks in a number of Covid-hit sectors, such as travel, leisure and gyms, could be strengthened by the gruelling year.
“Competitors have dropped away, there’s a tremendous chance for some of them to gain market share,” he said. “Investors should have a mixture of both – you want Covid-19 ‘winners’ but equally there are some ‘losers’ which are good companies.”