Montanaro Smaller Companies Half-Year Report 2021

Half-Yearly Report for the six months to 30 September 2021

MUSCIT was launched in March 1995 and is a closed-ended investment trust with shares premium listed on the London Stock Exchange (“LSE”).

Investment Objective

MUSCIT's investment objective is capital appreciation through investing in small quoted companies listed on the LSE or traded on the Alternative Investment Market (“AIM”) and to outperform its benchmark, the Numis Smaller Companies Index (excluding investment companies) (“NSCI”).

No unquoted investments are permitted.

Investment Policy

• The Company seeks to achieve its objective and to manage risk by investing in a diversified portfolio of quoted UK small companies. At the time of initial investment, a potential investee company must be profitable and no bigger than the largest constituent of the NSCI, which represents the smallest 10% of the UK Stock Market by value. At the start of 2021, this was any company below £1.50 billion in size.
• In order to manage risk, the Manager limits any one holding to a maximum of 4% of the Company's investments at the time of initial investment. The portfolio weighting of each investment is closely monitored to reflect the underlying liquidity of the particular company. The Company's AIM exposure is also closely monitored by the Board and is limited to 40% of total investments at the time of investment, with Board approval required for exposure above 35%.
• The Manager is focused on identifying high-quality, niche companies operating in growth markets. This typically leads the Manager to invest in companies that enjoy high barriers to entry, pricing power, a sustainable competitive advantage and strong management teams. The portfolio is constructed on a “bottom-up” basis.
• The Alternative Investment Fund Manager (“AIFM”), in consultation with the Board, is responsible for determining the gearing levels of the Company and has determined that the Company's borrowings should be limited to a maximum of 25% of shareholders' funds. Gearing is used to enhance returns when the timing is considered appropriate.
• The Company will not invest more than 10%, in aggregate, of the value of its total assets at the time of investment in other investment trusts or investment companies admitted to the Official List of the UK Listing Authority.

All material changes to the policy will require shareholder and FCA approval.

Highlights for the six months to 30 September 2021

Results

1 LSE closing price.

2 Including accrued revenue.

3 Capital only.

1 Net assets adding back borrowings.

2 Total debt, net of cash and equivalents, as a percentage of shareholders' funds.

3 Company's expenses (excluding interest payable) expressed as a percentage of its average daily net assets, annualised at the half year end date.

4 Calculated using the total purchases plus the sales proceeds divided by two as a percentage of the average total investments at fair value during the period.

Performance as at 30 September 2021

*Returns have been adjusted for dividends paid.

** The Benchmark is a composite index with the NSCI used since 1 April 2013.

Sources: AIC, Morningstar Direct, Numis, Montanaro Asset Management Limited.

Capital Structure

As at 30 September 2021 and the date of this report, the Company had 167,379,790 Ordinary shares of 2p each in issue (none of which were held in treasury). See note 6 for further details. Holders of Ordinary shares have unrestricted voting rights of one vote per share at all general meetings of the Company.

Manager's Review

The period under review was bookended by two market rotations. In April, we saw the tail end of a Value rally following the approval of the first Covid-19 vaccines in November 2020. As MUSCIT entered its 27th financial year, Growth stocks began to outperform in a rising equity market that was boosted by increasing economic growth revisions. In the UK, as in many developed economies, we enjoyed the strongest GDP growth forecasts since the Second World War. The upward trajectory of markets continued into the summer months as confidence in the economic recovery was bolstered by accelerating vaccination programmes. 

Towards the end of the period, the second of the Value rallies began as investors shifted their attention to the risks associated with rising interest rates and emerging pockets of inflation.

Meanwhile, after years of steady outflows from domestic UK equities, the tide appeared to have turned. In the decade to the end of 2020, over £600 million was withdrawn from UK SmallCap funds according to the Investment Association.  Since the beginning of 2021, over £700 million has come back to the asset class, an indication that on a global basis the UK looks attractive as the economy reopens and the overhang of Brexit fades. 

MUSCIT performed well during the six-month period ended 30 September 2021. The NAV gained 18.2% in Sterling terms (with dividends reinvested), outperforming the Benchmark by 9.2%. The share price gained 15.3% during the same period.

Outlook

The fizz appears to have gone out of equity markets at the time of writing. September and October have historically been tricky months for investors, so a period of consolidation may be no bad thing. UK SmallCap investors, who have had plenty to cheer about in recent years, are sitting on double-digit gains so far in 2021.

Through all the uncertainty and change all around us, the Montanaro investment process and philosophy remains the same: to invest in the highest quality, growing smaller companies bought at reasonable valuations and to hold them for as long as possible. Rather than worrying about whether inflation will rise or fall, we prefer to invest in companies that have the pricing power to pass higher input costs onto their customers. This means that we look forward to the future with confidence. The companies held in the portfolio have a spring in their step not seen for a couple of years.

Charles Montanaro, Montanaro Asset Management Limited

24 November 2021