Rachel Oliver finds mixed views about investing
The global small caps marketplace is by no means consistent in the level of opportunities it offers to investors and equally the methods used to access the asset class varies as much from market to market as it does from one scheme to the next. Typically as with most esoteric areas of investment the larger funds with their economies of scale have tended towards segregated accounts, though with some high profile exceptions in the case of Hermes Investment Management, who runs the British Telecom and Post Office schemes, and have recently overhauled the board of directors of the £45m ($72m) Brazilian Smaller Companies Trust. Investment funds and indirect access via existing equity mandates however are mostly the domain of the smaller to mid size funds.
The Dkr17bn ($2.5bn) Danish pension fund for engineers (DIP) has just awarded a $37m segregated European small cap mandate to Singer & Friedlander at the beginning of this year, to add to the two existing small cap portfolios in Japan and the US, both managed by Schroders through a SICAV fund in Luxembourg. The Japanese fund though has not performed to the scheme's satisfaction and is currently reconsidering its position in the market, says Steen Villemoes, director of investments. The Japanese one has been the least successful and we are contemplating whether it makes sense to stay with that, but we haven't decided yet."
DIP opted for a pooled fund route with Schroders mostly for tax reasons. "We don't have an upfront preference for one vehicle against another, but we like to compare the pros and cons in each example. Basically it is a matter of choosing between what costs and conditions, what flexibility, what the administration would be, tax issues. All other things being equal, we are attracted to foreign mutual funds because these funds do not pay the Danish turnover tax"
Dutch pension fund giant ABP is in the final stages of its search for a US small cap manager. Currently the scheme's $6bn US equity allocation is solely dedicated to large companies and is looking to invest in a dedicated small cap account, says André van den Berg, manager US equities in New York. ABP will also be looking for European small cap managers later this year.
"Right now we don't have exposure to small caps or mid-caps at all, we think that it is a very attractive area especially for active managers."
ABP have chosen the segregated route mainly for reasons of cost. "It is more cost effective to do it through a separate account than through a mutual fund, and secondly you can more easily define what you are looking for. With a mutual fund there is more latitude with the way the fund manager can invest than in a separate account.
"A mutual fund manager could be more weighted in cash which we don't want our equity managers to do"
The £1.5bn UK Ford Motor pension scheme is one of many funds who access the small cap market via an existing equity mandate and only if it adds value to the overall portfolio. "If our UK equity managers thought small caps was the best thing to invest in then they are allowed to invest in it, but they are not measured against a small cap benchmark," explains Geoff Mellor, manager, pension benefits. "It's up to them."
Ad Erkelens, investment director at the $38bn PGGM fund in the Netherlands does not currently believe in treating small caps as a separate asset class either, again opting to give its existing equity managers the freedom to invest if they so wish. "We don't think it will add value as a separate asset_class because of the relative size of our portfolio," he says "As such it may be an interesting area to invest in, but we don't think overall we will see it in our performance."
Siemens AG in Austria allows its fund managers to invest in small caps only "as long as tracking error does not exceed a certain amount," says Markus Stadlmann, capital investments, "But this diversification possibility is usually not really used by the fund manager because they eat up the tracking error in other areas of risk deviation from the benchmark.
"The tracking error we set is quite strict - only in portfolios where there is a large tracking error allowance for stock selection would they actually invest in small caps."
While the £970m Harmsworth and Mail pension scheme deploys the same methods to access the overseas small caps market, a proportion of the UK small cap allocation uses investment trusts as the preferred investment tool.
Of the 50% of assets allocated to UK equities, approximately 8-9% is invested in UK small caps. One third of the total portfolio is run in-house by investment manager, Michael Allen, who opts for the investment trust route for reasons of "resources" he says. "Although every now and then I do get seduced into having a direct involvement with a smaller company and usually regret it," he laughs, "So it is usually investment trusts.
"I haven't got the time or energy to visit or meet with 2-300 companies a year as some of these expert small cap managers do, so one might say I am almost sub-contracting it by picking an investment trust which has a style and record and investment process which I like."
However Allen is dubious to the actual value of the small cap market following disappointing returns. "More and more fund managers, especially the larger fund managers are of the opinion of 'why bother devoting so much time to what is just 6% of the entire market,' when you can access 6% by buying Glaxo at the moment," he argues."
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