AIM at 25: all grown up and outperforming the big boys

The internet boom and bust hurt AIM’s reputation, but our award-winning AIM writer argues that the market is maturing and a great place for stock pickers. 

Research has shown that smaller companies outperform their larger peers over the long-term. In its early years, as AIM was finding its feet, the overall performance of the junior market was not consistently good. 

However, in the past decade the relative performance has been much better, and in the past five years AIM has significantly outperformed the Main Market measures. 

As AIM has evolved, the companies dominating the small-cap market have tended to be more mature growth businesses rather than much riskier start-ups. There has always been a high failure rate for early stage businesses, and they would not have the track record to be able to float on the Main Market. 

Of course, there has always been a broad spread of types of company on AIM when it comes to the point in their development. Some of the companies, such as Young & Co Brewery (LSE:YNGA), have been around more than a century, while others are new. 

All markets have a spread of companies in terms of quality, and a junior market will always have its share of failures, or it will not be providing the type of risk capital required for young companies. There are plenty of successes that offset these failures. 

Fads and fashions

One of the strengths and weaknesses of AIM in the past was its attraction for businesses in fashionable sectors, but which did not have the track record to go for a stock market listing. Investors were provided access to companies that could potentially grow rapidly at an early stage of development. The internet boom is the most striking example. 

At that time, companies and internet incubators were floating with barely more than an idea, and many managements had little or no experience. It is no surprise that most of these companies did not get very far. It is AIM’s place to give small companies a chance to grow, so it is not an indictment of the market. However, it would be more difficult for all those companies to float in more recent times, not just because of Covid-19, but because of tighter regulation and higher costs. 

The FTSE AIM All-Share index peaked in early 2000 at the height of the internet boom – at one point it was heading towards 3,000 - and has never been near that level since. The current index is around one-third of the peak. In fact, it is around the level it was one year before the peak. 

There were successes, but the volume of disappointments was higher. Sports Internet Group floated as a shell and was valued at £67 million after it acquired an online betting business in 1999. One year later it was bought by Sky for around £300 million in shares. 

Arguably, the internet companies were what brought AIM a higher profile, but they have also been a curse in terms of the way some investors view the market because of the long-term underperformance. 

The sharp rise and fall of the dotcom boom and bust has a negative effect on the calculation of longer-term performance of AIM, and that is why it looks so poor. It should be remembered that AIM was valued at £13.5 billion at the end of 1999, while AIM companies valued at more than £1 billion account for around one-third of the current AIM market value of nearly £100 billion.  

In subsequent years, there have been other fashionable sectors, such as mining, or more specific business areas such as Individual Voluntary Arrangement (IVA) and debt management companies. These were sectors where share prices were pushed up to unrealistic levels and then fell back sharply. 

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The IVA companies are a good example of how a fashion can attract companies to float, especially as City brokers seek to follow a successful flotation in a sector by their rivals. The share prices of these IVA companies initially performed well, but their success led to dissent from banks and creditors, and their businesses declined. Some went bust, while others left the market. 

For example, DebtFreeDirect was initially a success but as business declined it moved into legal services and changed its name to Fairpoint. Even so, it ended up going into administration. 

Online gaming was a boom area around 15 years ago, but the crackdown by US authorities sent the share prices of most of those companies plummeting, with fears of court action if they had traded with US citizens. 

This shows that strong performers can turn into laggards within a couple of years. At other times industries have benefited from short-term publicity boosts. A cyber attack on the NHS sent investors rushing to cyber security companies and pushed the share prices to levels that were not realistic in the medium-term. The share prices started to fall back within weeks.

The companies currently involved in Covid-19 related tests and services have seen similar surges in investor interest. Some will continue to prosper, but others will find it difficult to justify current valuations. As AIM has matured, these fashions and fads have become less significant to overall performance. 

Switching

One thing to take account of in terms of AIM performance is the movement in and out of AIM. There was effectively a clear out of smaller companies on the Main Market and they moved to AIM because it was a more suitable market for them.

There have been companies that have moved from the Main Market to AIM and not lasted very long. Wagon moved in August 2008 and was in administration by the end of the year. 

There have been strong performers, though, such as soft drinks maker Nichols (LSE:NICL) and floorcoverings manufacturer James Halstead (LSE:JHD). 

There have also been strong performances by companies that have moved from AIM to the Main Market. Not every company has done well – the failed property maintenance company Connaught comes to mind – but betting firm GVC Holdings (LSE:GVC) is set to join the FTSE 100 on 22 June. Former AIM company Melrose Industries (LSE:MRO) is already a constituent of the blue-chip index. 

The older graduates to the Main Market tended to be smaller when they made the move and some returned, but Primary Health Properties (LSE:PHP), student accommodation provider UNITE Group (LSE:UTG) and self-storage firm Big Yellow Group (LSE:BYG) have prospered over the long-term. Animal genetics firm Genus (LSE:GNS) has also performed strongly.

These strong performers would have a much higher weighting on AIM and would help the performance of the junior market. 

Sectors 

The Main Market and AIM have different make-ups in terms of dominant sectors. Banks and insurance are much more significant on the Main Market, for example. 

There are 18 sectors that have a FTSE AIM index. These do not have as long a track record as the AIM All-Share. The number of constituents of each sector index varies enormously. There are four that currently have fewer than 10 constituents. In previous years this may have been different. 

The ones with a limited number of constituents can easily be dependent on just one or two companies. It is better to focus on those that have a broader spread of companies. 

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Part of the underperformance of the AIM All-Share and AIM 100 over 10 years can be put down to the domination of resources companies on AIM at the start of the period. There was a time when resources companies made well over two-fifths of AIM’s market value, and they are still a large percentage of the total companies, even if the value is much lower. 

The slump in the performance of the resources companies can be seen by the basic resources and oil and gas sector performances over 10 years. The more recent performance has been stronger. 

The AIM 50 is a UK-focused index and which has less exposure to resources. That appears to be a major reason why this index outperformed most of the other benchmarks over 10 years and did nearly as well as the Fledgling index of the smallest Main Market companies.  

In terms of the AIM All-Share, the sectors with the biggest weightings in terms of market capitalisation are industrials, health care, technology and financial services. Retail is less than 10% of this index, although, due to ASOS (LSE:ASC) and Boohoo (LSE:BOO), it has the second-largest weighting in the AIM 50 and AIM 100. 

Over longer periods of time, industrials, technology and healthcare have significantly outperformed the wider measures of AIM. Financial services has a more patchy record, and has underperformed over five years. 

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Patent translation services provider RWS Holdings (LSE:RWS) has progressed well and helped the industrials sector to perform well over the long-term. Johnson Service Group (LSE:JSG) had been a strong performer, but the lockdown has hit catering-related linen hire business and this appears to be one of the examples why there has been some short-term underperformance by the industrial sector. 

Blue Prism (LSE:PRSM) and Learning Technologies Group (LSE:LTG) are examples of technology companies that have performed strongly over the past five years. Abcam (LSE:ABC) and Hutchison China Meditech (LSE:HCM) have boosted the healthcare sector performance. 

AIM is certainly benefiting from having a wider spread of companies, rather than just being dependent on internet or resources companies. That is part of maturing as a market. AIM, though, is still more about picking individual shares rather than investing in certain sectors. 

Andrew Hore is a freelance contributor and not a direct employee of interactive investor.