Alfa Financial Software, GVC and Smart Metering Systems are among some of the most exciting ‘hidden gem’ stocks that the UK market has to offer at the moment, according to Rathbone’s Alexandra Jackson.
The stocks are part of her Rathbone UK Opportunities (formerly Rathbone Recovery) portfolio which, following a recent restructuring, has more of a focus on quality and higher-growth companies.
While early days, this appears to have stood the fund in good stead. Over the last year, it has achieved a top-quartile return of 23.28 per cent compared with its average peer and benchmark’s respective returns of 19.79 and 18.39 per cent.
Performance of fund vs sector and benchmark over 1yr
Source: FE Analytics
Jackson believes there are a wealth of opportunities for UK equity investors. However, she is nervous on the outlook for the UK economy and is therefore particularly excited about undiscovered investment opportunities further down the market cap spectrum.
“We clearly haven’t seen the worst of the impact of Brexit yet,” the manager said. “What makes me nervous is the impact that this prolonged uncertainty will have on business confidence and therefore their ability to invest and their desire to invest.
“That said, the UK is an incredibly innovative market and there are just so many opportunities if you are able to go further down the market cap spectrum.”
In the below article, Jackson explores three stocks which she believes will continue to drive her fund’s outperformance over the long term.
Alfa Financial Software
First up is Alfa Financial Software, which is a constituent of the FTSE 250 index and floated onto the market in May this year. The £1.5bn company, which was launched in 1990, provides software for customers in the asset finance industry.
Jackson said: “This will benefit as companies and individuals increasingly want to use assets rather than own them – this constitutes anything from washing machines which a consumer would lease rather than buy, to big industrial pieces of equipment for contractors.
“They use Alfa and the computer software that they’ve written to manage the whole leasing process. Alfa has a very blue-chip client base including Toyota, Mercedes, Barclays, Bank of America and Uber.”
The manager said it is a good example of a successful UK technology business. While she said these can be difficult to find among mega-cap names, she pointed out that there are many attractive opportunities in the sector further down the cap spectrum.
“It’s still run by the founder – he wrote the software 20 years ago in his mum’s spare room and I love that story,” Jackson added.
Since its IPO, it has seen gains of 14.02 per cent compared to its index’s return of 3.27 per cent. Alfa Financial Software, which is of course a new purchase for Rathbone UK Opportunities, is currently not a top 10 holding within the portfolio.
GVC
Jackson believes that online gaming company GVC – which owns brands such as Party Poker and Foxxy Bingo – will thrive over the long term as its management team continues to improve and expand the business.
Over five years, the stock – which first floated in 2001 – has comfortably quadrupled the return of its FTSE 250 index with gains of 420.71 per cent.
Performance of stock vs index over 5yrs
Source: FE Analytics
The manager said the £2.7bn company operates in markets across the globe but recently sold its exposure to unregulated markets. This led to a positive re-rating in the stock, according to Jackson, because investors are now able to more confidently model its potential earnings growth.
“With unregulated markets the risk is that the government can come in at some point and put a stop to things,” the manager explained.
“So, while they’ve sold a piece of the business and its earnings will be diluted, actually you can see hopefully that the rating can move up.
“Investors feel a little more secure about that because it was higher risk – some investors say they do not want to own anything with unregulated earnings in it – so hopefully that will broaden its appeal a little bit more.”
Jackson said the company also has its own platform, whereas many other gaming businesses outsource and use third-party software.
“As they buy into businesses [which use third-party software], they are able to migrate all of their websites onto their own platform, so they save a lot of costs,” the manager continued.
“It means they can see a massive increase in the gaming revenue they are able to generate, their margins improve and they no longer have to pay away to a third-party provider.”
Jackson added: “Now they’re cleaning up the portfolio. They also have no exposure to the UK high street betting shops which are undergoing a tricky government review about limiting the stakes on fruit machines.”
GVC has a 3.02 per cent weighting in Rathbone UK Opportunities’ portfolio.
Smart Metering Systems
Jackson said Smart Metering Systems, which is listed on the AIM market, will be a direct beneficiary from the government’s mandated scheme to offer every UK household a smart meter by 2020.
“Their rationale is that it’s better for the consumer because they’re able to monitor their energy usage by the pence and pound, and also their bills will be more accurate,” she explained. “At the moment, it is often a guess you receive on your energy bill so this will make costs a lot clearer.”
The manager also said energy companies are able to incentivise their customers to use energy in a more efficient way. For instance, some firms are now offering free electricity on a weekend because that is when there is less demand on the network, which means they are therefore able to use the grid more efficiently.
“Smart Metering Systems comes into your house and installs the meters; they have engineers who do that for you, then they get a lovely index-linked recurring revenue stream from the installation of those meters,” she added.
Over five years, the £731m company – which floated in 2011 – is up by 264.52 per cent compared to the FTSE AIM All Share’s gains of 58.96 per cent.
Performance of stock vs index over 5yrs
Source: FE Analytics
It currently accounts for 2.95 per cent of Rathbone UK Opportunities’ portfolio.