Mark Dampier: 'Masterly inactivity - the case for sticking with smaller firms'

Mark Dampier prefers to buy and hold investments for the long term

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The Independent Online

Britain's smaller companies enjoyed an exceptional run after the 2008 financial crisis, faring particularly well in 2012-13. In the second half of 2014 they paused for breath, giving back some of their gains, while larger companies, particularly pharmaceuticals, started to outperform.

The smaller company sell-off became more pronounced as many investors – following "momentum" strategies to back whatever areas were performing well and dispose of anything falling in value – got out of the sector.

While this approach sounds fine in practice, it can rack up dealing costs. I firmly believe that masterly inactivity is often the best policy and prefer to buy and hold investments for the long term.

At a time when so many investors are concentrating on wider issues – with markets falling amid concerns over China, the Greek debt crisis, and the prospect of rising interest rates – I prefer to step back and see what's happening to individual companies.

As such, when I recently met Harry Nimmo, manager of the Standard Life UK Smaller Companies fund, I was interested to get a feel for his fund's underlying holdings.

Mr Nimmo seeks to identify tomorrow's giants today, and shares my long-term "buy and hold" view. Unlike many other smaller company fund managers, he tends to ride his winners as they progress to the FTSE 100 index of the UK's largest companies to receive the maximum gains. He then uses these companies as a source of easily accessible cash, gradually reducing the holdings and recycling the proceeds into new opportunities.

I am encouraged by how many of the fund's holdings reported results ahead of expectations – Rightmove, JD Sports, Greggs and Fever-Tree, to name a few. The latter, a premium mixer drinks company, has performed particularly well. It has benefited from the emergence of a vibrant gin market and Mr Nimmo was keen to emphasise that the management remain excited about future prospects. Positive language is frequently combined with strong dividend growth, which in my view bodes well.

I think it's important to understand a manager's investment style and the sort of stocks to which that leads them. Mr Nimmo seeks companies capable of strong growth, with robust balance sheets and visible increases in earnings.

There will be times, as has been the case over the past five years, when investors favour more economically sensitive, undervalued companies – or those that have been through a tough time but have recovery prospects. During these times, the type of company the manager prefers will find it more difficult to outperform.

However, I feel that Mr Nimmo's disciplined approach stands him in good stead for the long term; profitable businesses with recurring revenue streams tend to be more capable of steady growth. The fund is currently tilted towards domestically oriented sectors such as retailers, real estate, food and drink, media and financial services, and avoids more internationally exposed areas such as mining, oil and gas and manufacturing. As 70 per cent of profits generated by the fund's underlying holdings are British, his holdings have benefited from the UK's recent economic strength.

During more turbulent times I always listen to the views of talented stock pickers. If they are finding few opportunities to invest, I worry. If they are still finding good prospects, I feel more confident about the durability of the market. I have met a number of stock-picking managers over the past few weeks and they are all finding plenty of reasons to part with their cash.

Smaller companies have recovered slightly in the past few months as larger groups, particularly in the oil and mining sectors, have suffered falls. Indeed, the market falls at the start of this week were dominated by blue-chips rather than smaller businesses.

Over the long term, smaller companies have excelled relative to their larger counterparts – and I would expect them to continue to do so.

I would view any weakness in the smaller companies market as an opportunity to top up positions at reduced prices.

Mark Dampier is head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more details about the funds in this column, visit www.hl.co.uk

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