The coronavirus-fuelled sell-off earlier this year saw smaller companies strategies bear the brunt of more risk-averse investor behaviour as performance tumbled.
Indeed, as the below chart shows, riskier small-cap strategies in every geography fared worse in 2020 than their large-/all-cap peers.
Sector performance YTD
Source: FE Analytics
Despite this Darius McDermott, managing director at fund research agency FundCalibre, said there are still many good reasons to consider making an allocation to small-cap strategies in the current environment. 
He said: “Smaller companies can be an excellent investment for investors with a long-term investment horizon and who are willing to take on more risk and the valuations are certainly more compelling right now.”
But the forthcoming global recession is likely to be deep, said McDermott, and not every company will thrive.
“That said, there are always winners, and those that do survive could find themselves in much stronger positions going forward,” he added.
“As always, good stockpicking skills will be paramount, and investors might like to consider smaller monthly contributions rather than a larger lump sum at this stage.”
With that in mind McDermott highlighted six small-cap funds he thinks are worth the risk.
Marlborough UK Micro Cap Growth
First up is the £990.2m Marlborough UK Micro Cap Growth fund, managed by FE fundinfo Alpha Manager Giles Hargreave and Guy Feld.
A sister strategy to Hargreave’s £1.1bn Marlborough Special Situations fund, the managers take advantage of the fact that small-cap stocks are historically under-researched, leaving them to “uncover opportunities that the market may have missed,” McDermott said.
Marlborough UK Micro Cap Growth runs a highly diversified portfolio – typically holding 250 companies – which helps reduce stock-specific risk. This approach allows the managers to “run their winners aggressively, adding to them as their story unfolds,” McDermott said, while simultaneously dropping the less preferable holdings faster, giving the fund more flexibility.
Performance of fund vs sector & index over 3yrs
Source: FE Analytics
Over the past three years, the five FE fundinfo Crown rated fund has made a total return of 2.98 per cent, outperforming the IA UK Smaller Companies peer group which made a loss of 2.71 per cent and the benchmark FTSE SmallCap ex Investment Companies index which made a loss of 22.02 per cent. It has an ongoing charges figure (OCF) of 0.78 per cent.
T. Rowe Price European Smaller Companies Equity
For his second choice McDermott has chosen a European equity strategy: T. Rowe Price European Smaller Companies Equity.
The €142.1m fund has been managed by Ben Griffiths since 2016 who invests in high-quality, durable franchises with good capital allocations and high standards of governance, according to FundCalibre.
“This pan-European fund also invests in the UK, and has a highly experienced manager, with a proven track record managing small- and mid-cap portfolios in Europe,” said McDermott.
“Buying early or in a contrarian fashion with a long-term view allows him to compound his winners.”
T. Rowe Price European Smaller Companies Equity has made a total return of 2.82 per cent over the past three years, an outperformance compared with losses for both the average IA European Smaller Companies peer and the MSCI Europe Small Cap benchmark of 5.81 per cent and 6.98 per cent respectively. It has an OCF of 1.12 per cent.
LF Miton US Opportunities
Next on McDermott’s list is the £576.2m LF Miton US Opportunities fund overseen by is FE fundinfo Alpha Manager Nick Ford and colleague Hugh Grieves. Although not a strategy focused specifically on smaller companies, it does have a greater bias towards the mid-cap part of the spectrum.
“The managers of this multi-cap fund have the flexibility and pragmatism to adjust the portfolio to different market environments,” said McDermott. “It usually has a bias towards medium-sized companies and the managers have recently been adding to small caps.”
The ability to invest more towards mid-cap is a major benefit, according to FundCalibre, as it enables the fund to be flexible and adjustable to different market environments.
“In our view, this is one of the strongest funds available to investors in the IA North American sector,” the fund research agency noted.
Ford and Grieves typically invest in a concentrated portfolio of stocks looking for companies with three particular characteristics: those that are consistent & sustainable cash flow, capital light, and those with the ability to reinvest cash profitability.
Performance of fund vs sector over 3yrs
Source: FE Analytics
Over three years, LF Miton US Opportunities has made a total return of 29.87 per cent outperforming the IA North America sector (25.68 per cent). It has an OCF of 0.90 per cent.
AXA Framlington Japan
McDermottt’s fourth pick is another all-cap strategy with a bias towards the lower end of the market cap spectrum, the £177.3m AXA Framlington Japan fund, where smaller companies make up around 40 per cent of the portfolio.
Overseen by Chisako Hardie and Tom Riley, the fund invests in long-term, structural growth companies and themes, such as ageing populations, globalisation of Japanese food and the increased use of electronics in cars.
According to FundCalibre, Hardie and Riley offset sector risk in the fund with a high number of holdings – around 100 – limiting the impact of one stock on the whole fund.
AXA Framlington Japan has made a total return of 9.44 per cent over the past three years, slightly less than the FTSE Japan index’s 9.94 per cent but outperforming the IA Japan peer group (8.95 per cent). It has an OCF of 0.75 per cent.
Hermes Global Emerging Markets SMID Equity
In emerging markets, FundCalibre’s McDermott favours the $156.7m Hermes Global Emerging Markets SMID Equity fund.
The fund has been managed by FE fundinfo Alpha Manager Gary Greenberg since launch in 2018 although he is set to retire in June 2022.
McDermott said that the fund looks for companies “with talented management, who act responsibly towards clients, stakeholders and shareholders”.
Hermes Global Emerging Markets SMID Equity is flat over three years with a loss of 0.04 per cent, outperforming the IA Global Emerging Markets peer group average which was down 2.79 per cent and the MSCI Emerging Markets SMID Cap benchmark’s 10.39 per cent loss. It has an OCF of 1.20 per cent.
ASI Global Smaller Companies
McDermott’s final fund pick is the £920.1m ASI Global Smaller Companies – previously known as Standard Life Investments Global Smaller Companies.
The fund makes use of the asset manager’s proprietary quantitative screening tool ‘Matrix’, which rates potential holdings on four elements: quality, growth, momentum, and value.
“There will be periods when this fund could lag – such as a commodities rally – but it is a fund for reasons, and not for seasons,” noted FundCalibre analysts. ”As such, it makes a very good contender to put in a portfolio for long-term exposure to an exciting asset class.”
Performance of fund vs sector over 3yrs
Source: FE Analytics
Managed by Alan Rowsell, ASI Global Smaller Companies has made a total return of 20.74 per cent over the past three years, outperforming the IA Global sector’s 14.75 per cent. It has an OCF of 1.05 per cent.