Eight UK stocks make it on to this top 20 list

This expert thinks it can still be a ‘Goldilocks’ year for the small-cap space, as it adds three more UK stocks to this Europe-wide list of favourites. 

A top 20 list that now features Trainline (LSE:TRN) and Bodycote (LSE:BOY) has been backed to lead the recovery of Europe’s small and mid-cap shares following their worst run since the late 1990s.

City bank UBS believes it can still be a “Goldilocks” year for the small-cap space, despite two consecutive first-half periods of underperformance versus European large caps.

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When the last such run happened in 1997 and 1998, UBS notes that it was followed by outperformance over large caps across the next two decades.

Cost of finance worries and uncertain economic conditions mean equity flows have not favoured small-caps in recent months, despite value and momentum still being supportive.

For the last one year, small-caps are almost flat whereas large caps are up by more than 20% in the same period. Across 2023, large caps are up by 12.6% versus small-caps at 1.6%.

UBS said: “Most investors tend to believe that small-caps generally underperform significantly during periods of uncertain macro conditions similar to what we are currently witnessing, but over a longer time frame, small-caps outperform by a very big margin which makes it very attractive to remain invested in them.”

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While the bank is not overly comfortable with the growth prospects of the entire small-cap space, it believes its top 20 names provide good opportunities for the long-term.

UBS’s Europe Small-cap 20 portfolio is up 3.8% year-to-date and has beaten the MSCI Europe Small Cap in 13 out of the past 16 years, with a compound annual growth rate of 12.1%. It takes a bottom-up approach that focuses on company fundamentals.

Out of more than 1,000 floated small-caps in Europe and the 400 in UBS’s coverage, UK stocks feature heavily through the continued inclusion of Computacenter (LSE:CCC), Hays (LSE:HAS), Hiscox Ltd (LSE:HSX), Jet2 (LSE:JET2) and National Express business Mobico Group (LSE:MCG).

They have now been joined by Trainline, Man Group (LSE:EMG) and thermal processing business Bodycote International, whose shares fell 47% in 2022.

UBS said: “Bodycote is our most-preferred Cyclical Improver but the valuation suggests to us the market is missing the outlook for structurally higher margins.

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The City firm forecasts margins above 20% by 2027, ahead of cyclical peers, with upside from faster adoption of specialist technologies which are lower-energy and lower-emissions than classical processes.

It added: “We have increased confidence that a stronger recovery in aerospace, defence and energy and greater resilience in automotive can deliver organic revenue growth in 2023.”

On Trainline, UBS anticipates that ongoing expansion of open access high-speed rail services in the largest European nations will increase the need for price comparisons and lead to market share gains. Improving market dynamics, primarily around commission rates in certain European countries, also offers scope for incremental upside.

UBS recently upgraded Man Group to “Buy” from “Neutral” as it expects the company to continue generating best-in-class fund flows in the coming years. Further upside is likely to come in the normalisation of performance fees in the coming 12-18 months.

The bank has a target price of 265p on Man, 315p for Trainline and 860p on Bodycote. The others are 2,580p for Computacenter, 160p for Hays, 1,575p for Hiscox, 1580p for Jet2, 200p for Mobico.