Montanaro UK Smaller Companies

[Peter1B1]

UK Smaller Companies seem to be in the doldrums, with some managers leaving that market. Contrariwise, a renaissance for UK - new government, growth seeking, supportive and forward-looking industrial policy etc, could prompt increased interest and a re-rating for the most neglected part of that market.

Wishful thinking of course but it takes two views to make a market. I'm interested in Foolish thoughts on the market proposition; and also on Montenaro as the investment vehicle/manager, please.

Peter1B1

[ADrunkenMarcus]

I cannot add anything much on Montanaro. However, I do agree about UK smaller company valuations. I hold Blackrock Smaller Companies and recently increased my shareholding very significantly, taking it up to 9.6% of the portfolio (and 10% as of yesterday). There seems to be a double discount with UK equities at a low, small caps at a low, and the potential for both to 'mean revert'.

Many thanks,


Mark.

[simoan]

I hold quite a few UK Small Caps but directly rather than via funds or ITs. As with most UK Smaller Company funds, Montenaro mostly holds Mid caps, not Small caps. Of their top 10 positions I only hold Gamed Workshop, which is most definitely a Mid Cap. I can’t say I find the other top 10 companies held of great interest, personally.

Certainly the trust appears aimed at the higher quality growth end of the spectrum and in its favour only has 35 holdings, which shows at least some kind of conviction in their investment process unlike other trusts that can have 60+ holdings. I might be more interested if their was a wider discount and the possibility of it being liquidated, but the next Continuity vote is not until 2027.

[Peter1B1]

Thanks, both. Some talk in today's Sunday Times along the same lines regarding UK small caps; also David Smith suggesting first bank rate cut not before August. So there may be time left but a bit of that market seems indicated.

I'm still wondering whether Montenaro is the right one - JPM UK Smaller Companies has similar performance but perhaps I should diversify away from them (a fund manager that I like, though). Listening out for further Foolish comment and thanks again.

[simoan]

Thanks, both. Some talk in today's Sunday Times along the same lines regarding UK small caps; also David Smith suggesting first bank rate cut not before August. So there may be time left but a bit of that market seems indicated.

I'm still wondering whether Montenaro is the right one - JPM UK Smaller Companies has similar performance but perhaps I should diversify away from them (a fund manager that I like, though). Listening out for further Foolish comment and thanks again.

One other thing to add about the Montenaro trust; it pays a dividend which is not covered by income. My data shows the dividend yield as 4.36% which looks high given the natural dividend yield of the holdings. So it’s eating itself at the worst possible time by paying out a fixed amount of its Net Asset Value each quarter. Good luck whatever you decide but nothing I’ve seen would dissuade me from picking my own small caps.

[Pendrainllwyn]

I have no experience of or view on Montanaro.

I hold quite a few UK Small Caps but directly rather than via funds or ITs. As with most UK Smaller Company funds, Montenaro mostly holds Mid caps, not Small caps. Of their top 10 positions I only hold Gamed Workshop, which is most definitely a Mid Cap. I can’t say I find the other top 10 companies held of great interest, personally.

Likewise, I prefer to self select. I also hold Games Workshop. The other one I hold in their top 10 is the fund's largest position, 4Imprint. 4Imprint claims to be the 3rd largest marketer of promotional products in the US, gaining market share in a fragmented market. It earns 98% of revenues from the US and Canada and is growing organically with the remaining 2% coming from the UK. So UK listed but but not really a UK business. 4Imprint had a difficult 2020 due to Covid but has bounced back strongly. It has no debt (net positive finance income) and earns a very high ROE. Two factors that appeal to me a lot. It's done me very well so far but that can change overnight.

One other thing to add about the Montenaro trust; it pays a dividend which is not covered by income. My data shows the dividend yield as 4.36% which looks high given the natural dividend yield of the holdings. So it’s eating itself at the worst possible time by paying out a fixed amount of its Net Asset Value each quarter. Good luck whatever you decide but nothing I’ve seen would dissuade me from picking my own small caps.

Yes, I am not fond of trusts that pay out more than the underlying investments. I generally invest in small caps for growth rather than for their dividend payouts although some provide both.

Pendrainllwyn

[simoan]

I have no experience of or view on Montanaro.

Me neither but a quick look at it is all you need really. Despite a lot of big long-term winners in the top 10 holdings the overall performance has been very mediocre. So the manager must have got more wrong than right overall, or they just don't buy and sell very well.

Likewise, I prefer to self select. I also hold Games Workshop. The other one I hold in their top 10 is the fund's largest position, 4Imprint. 4Imprint claims to be the 3rd largest marketer of promotional products in the US, gaining market share in a fragmented market. It earns 98% of revenues from the US and Canada and is growing organically with the remaining 2% coming from the UK. So UK listed but but not really a UK business. 4Imprint had a difficult 2020 due to Covid but has bounced back strongly. It has no debt (net positive finance income) and earns a very high ROE. Two factors that appeal to me a lot. It's done me very well so far but that can change overnight.

I am familiar with 4Imprint which has done well in share price terms even though it's never met my usual criteria i.e. poor operating margin despite the otherwise high rating. I try to avoid low margin businesses unless they are very cheap which 4Imprint never seems to be. I also avoid certain subsectors, including consumer cyclicals like marketing. It's a good business though when the economy is supportive with very good profitability and cashflow generation.

One other thing to add about the Montenaro trust; it pays a dividend which is not covered by income. My data shows the dividend yield as 4.36% which looks high given the natural dividend yield of the holdings. So it’s eating itself at the worst possible time by paying out a fixed amount of its Net Asset Value each quarter. Good luck whatever you decide but nothing I’ve seen would dissuade me from picking my own small caps.

Yes, I am not fond of trusts that pay out more than the underlying investments. I generally invest in small caps for growth rather than for their dividend payouts although some provide both.

It just strikes me as peculiar that the trust invests in Mid and Small Cap growth companies, which by definition don't have the highest dividend yields, and yet it then commits to a fixed payout of 4% of NAV per year which means they have to partly fund that income by selling down growth capital. I just can't get my head around it?

All the best, Si

[Pendrainllwyn]

I am familiar with 4Imprint which has done well in share price terms even though it's never met my usual criteria i.e. poor operating margin despite the otherwise high rating. I try to avoid low margin businesses unless they are very cheap which 4Imprint never seems to be. I also avoid certain subsectors, including consumer cyclicals like marketing. It's a good business though when the economy is supportive with very good profitability and cashflow generation.

Yes, agreed on both points. 4Imprint's operating profit margins are not the best (one of the lowest in my UK portfolio) and it's PE ratio is historically one of my UK portfolio's highest. Two reasons why I have never added to my initial purchase. It's done so well it's now one of my larger UK single name holdings. Your comments made me think of trimming but, as mentioned, it has other positive attributes and I am happy to hold and expect some business performance volatility. I am still looking for the perfect stock!

It just strikes me as peculiar that the trust invests in Mid and Small Cap growth companies, which by definition don't have the highest dividend yields, and yet it then commits to a fixed payout of 4% of NAV per year which means they have to partly fund that income by selling down growth capital. I just can't get my head around it?

My impression is that the UK market has a great demand for yield so this and some other vehicles give people what they want.
Pendrainllwyn