With the Thanksgiving holiday nearly here, beyond the festivities, I’m a fan of carving out some time for reflection. As fund managers, we regularly peer into the past to help prepare for where we may be headed, so when I reflect on how US smaller companies have fared this year, we’ve seen some pretty strong growth.
Yes, the S&P 500 Index may be garnering all the headlines as it repeatedly hits new all-time highs this year, but US small caps have delivered better returns and have risen for five consecutive quarters.
After a prolonged period of uncertainty, over the 12 months to the end of October, the Russell 2000 small-cap index rose nearly 5%, outperforming the S&P 500 large-cap index by almost 18 percentage points.
A confluence of encouraging economic data, strong corporate earnings and fresh spending programs from the Biden administration helped drive markets higher.
This year we saw some of the highest returns concentrated in unprofitable and lower quality stocks, driven in part by unprecedented retail trading activity.
We do not believe this trend is sustainable and instead continue to focus on owning quality businesses at reasonable valuations, that are leaders within niche markets.
This year we also added some cyclicality to our portfolio through our exposure to industrials as we found there are some great companies with very attractive valuations in the space.
One such example is WillScot Mobile Mini, a provider of portable accommodation and secure storage containers. The company hosts a national network of 16 site locations across the US with more than 40,000 units and has around 17,000 customers.
As an industry leader in flexible workspace and portable storage solutions, this company is well positioned to stand the test of time in a period when people are being forced to adapt to flexible working.
In today’s environment, we are seeing companies come public which is creating interesting and unique opportunities for small cap investors. One such name is Hillman Solutions, a market leading distributor of hardware and home improvement products, personal protective equipment and robotic kiosk technologies.
We believe that Hillman has a strong competitive moat aided by its leading market position in several categories and its unique partnerships with national retailers.
The business has demonstrated remarkable consistency and predictability, with a track record of organic growth in 55 of the past 56 years (sales declined 5% in 2009) since its founding.
We believe Hillman should benefit from secular trends towards repair/remodel, migration to suburbs and millennial home buying. Hillman is led by a strong management team that has an enviable track record of value creation and strong execution as an operator building, managing and running consumer facing brands.
Of course, strong markets also means we have to remain disciplined with our existing holdings. One of our favourite names which we exited this year was Bill.com.
We’re still positive on Bill.com’s fundamentals and management but had been trimming the name in late 2020 as the company’s market cap exceeded $10bn (£7.5bn). As its market cap continued to move higher in 2021, we fully exited it once it hit £15bn in market cap.
Economic activity remains strong and the US consumer, in aggregate, is in good health with plenty of spending power. That said, we continue to monitor incremental risks that could represent headwinds for US small caps.
We do expect continued strength in corporate earnings for the remainder of 2021 and heading into 2022 earnings growth looks to be compelling as well.
We believe the companies we invest in will be able to navigate inflationary pressures from higher prices and future upside should be driven by earnings going forward.
Despite the risk-on rally of lower quality stocks, we remain confident that fundamentals of high quality US smaller companies will return into favour as we move deeper into the recovery next year and over the longer term.
Jon Brachle is portfolio manager of JPMorgan US Smaller Companies Trust. The views expressed above are his own and should not be taken as investment advice.