Battle of the UK small caps: Fidelity vs Janus Henderson vs Liontrust

Fidelity UK Smaller Companies, Janus Henderson UK Smaller Companies, Liontrust UK Smaller Companies were the most consistent, top-quartile UK small-cap funds from the past 10 years, but only two were selected as favourites by fund pickers.

Liontrust UK Smaller Companies failed to get a fund picker’s recommendation, despite being the highest returning portfolio out of the three, making 408.1% over 10 years, some way ahead of the Fidelity fund’s 342.1% total return and the 275.2% from Janus Henderson’s portfolio.

Performance of all three funds vs sector over 10yrs

Source: FE Analytics

When looking at the three consistent performers, fund pickers said that investors have to consider factors other than returns, such as what type of environment markets are going into.

For much of the past decade the market has been driven by growth stocks, with a backdrop of low inflation and interest rates and a lot of liquidity in markets, making it easy to take on debt.

But recently the picture has changed dramatically, with central banks now raising interest rates to tackle persistent inflation.

Given this macroeconomic backdrop Jason Hollands, managing director of Bestinvest, said he preferred the Fidelity UK Smaller Companies fund because it was “heavily underweight technology stocks”, an asset which has struggled with the inflation and interest rate headwinds.

Hollands added: “High inflation and rising borrowing costs are creating greater uncertainty for tech stock valuations, given the use of discounted cash flow models used to value growth stocks.”

The Fidelity UK Smaller Companies fund has just 2.9% exposure to the IT sector, a notable underweight compared to the Numis UK Smaller Companies ex Investment Companies index, which has a 6.9% allocation to the sector.

In this environment Hollands said that it was “starting to put pressure on the premium valuations we’ve seen in this part of the market,” giving more reasons to be low on tech going forwards.

Although the problem is more in the US – where famed MAANG (Meta, Apple, Microsoft, Amazon, and Google’s parent company Alphabet) stocks have repeatedly broken stock market valuation records – the smaller end of the domestic market is a fruitful area for technology newcomers.

It is not just an underweight to technology that has pushed Fidelity’s offering over the line, however. Rory Maguire, managing director of Fundhouse, picked the fund based on the management and their research process.

The small-cap area of any market is traditionally the least well-known and researched area, Maguire said, and offers active managers an opportunity to find under-the-radar outperformers. But it is also easier to get caught out with a bad holding, a fact the Fidelity fund’s manager, Jonathan Winton, puts at the core of his investment approach.

Winton’s ethos is that the market is inefficient at pricing companies which have gone through a turbulent period and are therefore unloved, making them a potential buy option. But he only pulls the trigger after deep research into the stock’s ability to improve, placing a lot of consideration on the downside risk of each potential holding, which is why Maguire preferred his fund.

The fund picker said that the quality of Fidelity’s research pushed it ahead of its peers, with FE fundinfo Alpha Manager Alex Wright “working closely” with Winton on the fund.

Not all analysts were in agreement though. Alongside fund size and managers’ tenure, costs were a key thing to consider, according to AJ Bell’s Laith Khalaf, a factor which the Janus Henderson UK Smaller Companies fund pipped its peers on.

The fund has ongoing charges figures of 0.86%, lower than Fidelity’s 0.91% and Liontrust’s 1.33%.

If investors want the best value for money for a consistent, UK small-cap outperformer, the Janus Henderson fund could be a decent bet.

The Henderson fund has 114 holdings, taking a less concentrated approach as a way to diversify the risks of investing in the less proven part of the market. Some of its top holdings are recognisable brands names, including Impax Asset Management, media company Future or property developer Bellway.

All three funds scored well in Trustnet’s recent consistency series. They have all beaten the Numis Smaller Companies ex ITs benchmark index in nine of  the past 10 calendar years, although the Liontrust fund was the only one to also beat its peers in nine years – the others only beat the average rival in seven.

Khalaf said: “Picking one out of three funds that have performed will over a long time period is a nice problem to have.”