Ian Cowie: 50% one-year gains for trend that still has legs

Forget fear of missing out with the “Magnificent Seven” mega-cap technology businesses and focus instead on bigger investment returns from smaller companies.

Followers of fashion might be surprised to learn that the Russell 2000 index of America’s small and medium-sized businesses has actually delivered higher returns than blue-chip benchmarks since Donald Trump was elected the next US president.

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The Russell 2000 has risen by 10% over the past month, while the Dow Jones and Nasdaq indices are both up by 7%. The explanation is that bigger businesses had already enjoyed massive gains in recent years amid excitement about artificial intelligence (AI). Now smaller rivals are catching up in anticipation of a more favourable fiscal environment after Trump is inaugurated on 20 January.

His promises to cut corporation tax and increase tariffs or taxes on imports look set to benefit small and medium-sized businesses because they tend to be most focused on the domestic economy and have the least to lose from an international trade war. But the problem remains that very few of these small companies are household names in Britain.

Fortunately, investment trusts offer professionally managed exposure to a sector where this small DIY investor knows next to nothing. That’s why I’ve been happy to be a shareholder in JPMorgan US Smaller Companies Ord (LSE:JUSC) for more than a decade and, most recently, have been delighted to receive total returns of 50% over the past year.

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That exhilarating spike almost matches the five-year total return of 59% recorded by independent statisticians Morningstar and shows how JUSC languished, unloved, when blue chips such as the iPhone-maker Apple Inc (NASDAQ:AAPL), and the software giant Microsoft Corp (NASDAQ:MSFT) were all the rage.

Both are major holdings in Polar Capital Technology Ord (LSE:PCT) investment trust, another of my long-term holdings. The tech trust also holds in its top 10 graphics processing unit (GPU) giant NVIDIA Corp (NASDAQ:NVDA); Facebook-owner Meta Platforms Inc Class A (NASDAQ:META); and search engine Alphabet Inc Class A (NASDAQ:GOOGL). Completing the Magnificent Seven is online retailer Amazon.com Inc (NASDAQ:AMZN) and the electric car-maker Tesla Inc (NASDAQ:TSLA). This group of companies have tended to put the rest of corporate America in the shade.

But a trend is only a trend until it stops and now it looks like it’s the smaller and medium-sized companies’ turn to enjoy the sun. These businesses might also offer greater scope for growth than those which already have stock market capitalisations counted in the billions of dollars.

For example, relatively few readers will recognise JUSC’s top 10 underlying assets. These include the mobile offices and storage group WillScot Holdings Corp Ordinary Shares - Class A (NASDAQ:WSC); the commercial real estate services company Cushman & Wakefield (NYSE:CWK); or MACOM Technology Solutions Holdings Inc (NASDAQ:MTSI), which makes semi-conductor devices and components.

Relative obscurity did not prevent these underlying assets from enabling JUSC to deliver total returns of 232% over the past decade. For comparison, its only rival in the Association of Investment Companies (AIC) “North America Smaller Companies” sector, Brown Advisory US Smaller Companies Ord (LSE:BASC), generated total returns of 27%, 35% and 130% over one, five and 10-year periods.

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BASC yields no income at all, while JUSC pays a meagre 0.6%, which has risen by an annual average of 3.7% over the past five years. BASC imposes yearly ongoing charges of 1.05% and trades nearly -8% below its net asset value (NAV), while JUSC costs 0.93% and is priced very near to par on a discount of -0.1%.  

Investors seeking capital growth from North American smaller companies need not restrict their search to the AIC sector that bears this name. For example, the “Global Smaller Companies” sector includes Edinburgh Worldwide Ord (LSE:EWI), where no less than 12% of underlying assets are invested in the unlisted company, Space Exploration Technologies. SpaceX has around 6,000 satellites in low-Earth orbit (LEO), which bring the internet and mobile telephony to parts of the globe that were formerly offline and might, in theory, replace every fixed-line internet service provider (ISP) on this planet.

EWI’s other top 10 holdings include the drone-maker AeroVironment Inc (NASDAQ:AVAV), plus the body cameras and stun gun Taser-maker Axon Enterprise Inc (NASDAQ:AXON). All these smaller and medium-sized businesses helped EWI generate total returns of 33% over the past year, after a loss of 8% over the past five years, and positive returns of 132% over the decade. Ongoing charges are 0.7%.

Few shareholders could hope to identify these investments independently. But investment trusts make it convenient and cost-effective to obtain exposure to capital growth opportunities wherever they may arise, on the other side of the Atlantic or high in the sky.

Ian Cowie is a freelance contributor and not a direct employee of interactive investor.

Ian Cowie is a shareholder in Apple (AAPL), Edinburgh Worldwide (EWI), JPMorgan US Smaller Companies (JUSC), Polar Capital Technology (PCT) and Microsoft (MSFT) as part of a globally diversified portfolio of investment trusts and other shares.