BlackRock Smaller Companies 31 July 2023
Disclaimer
This is a non-independent marketing communication commissioned by BlackRock. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.
BlackRock Smaller Companies Trust (LON:BRSC) offers investors an exposure to long-term growth opportunities through a strategy that is focussed on high-quality UK smaller companies. The same team have been responsible for BRSC for nearly 20 years, employing an investment process that has remained largely unchanged over this period. The team apply a disciplined approach, with target weights for stocks that are managed around price movements, whilst managing portfolio risks through diversification. As we discuss in the Portfolio section, the highest-conviction ideas make up 75% of the portfolio, but with the top ten holdings only representing c. 22%, specific risks are relatively low.
Despite a strong long-term track record, generating alpha has been challenging during 2022, as we highlight in the Performance section. Small-cap investing is always inherently volatile. But looking back at history, blips in performance tend to be short-lived, thanks to smaller companies’ ability to deliver superior earnings growth, which Roland believes is a key driver of share price returns over the long term. For high-quality, operationally strong companies, Roland believes the current time represents an attractive investment environment, given the relative attractiveness of valuations in the small and mid-cap UK equity markets.
Roland’s investment approach is focussed on identifying high-quality, cash-generative businesses that can often return excess cash to shareholders. This enables BRSC to provide a differentiated source of income, alongside the trust’s core mandate of achieving long-term capital growth. Indeed, the strong underlying growth in dividends from portfolio companies over the years has enabled BRSC’s dividends to be increased for 20 consecutive years, meaning it now qualifies as one of the AIC’s ‘dividend heroes’. The annualised increase in dividends paid over this 20-year period equates to 11.2% per annum.
BRSC’s latest OCF is 0.7%, making it one of the lowest-cost trusts within the AIC UK Smaller Companies sector.
In our view, the continuity and consistency of BRSC’s investment process (see Portfolio) has been a significant contributor to the trust’s ability to deliver strong performance for investors over the long term, having generated an annualised total return of 9.1% over the past ten years. Over the past five years, BRSC has generated a NAV total return of 5.3%, outperforming the benchmark’s return of 1%, but underperforming the peer group average over the same period.
As we discuss in the Performance section, BRSC’s recent underperformance has followed a prolonged period of outperformance and comes at a time of elevated volatility. In our analysis, BRSC’s relatively high performance and consistency scores show that investors have been generally rewarded for taking on the additional risk of the strategy. Roland’s focus on identifying high-quality businesses, together with his patience to remain invested over the long term, has translated into positive alpha relative to the benchmark and peers.
BRSC has a current yield of 3.1%, which is the second-highest in the sector. BRSC has significant revenue reserves, which the board can use in support of the dividend, thus providing a degree of reassurance. At the time of writing, BRSC trades at a 13.3% discount to NAV, which is slightly narrower than the AIC UK Smaller Companies sector average of 14.5%, according to JPMorgan Cazenove, as at 23/05/2023. As the second-largest trust in the AIC UK Smaller Companies sector, BRSC benefits from good liquidity in its shares. In light of this, the rigorous and consistent investment process and strong long-term track record, not to mention the trust’s low charges, we believe that the current discount level may present an attractive entry opportunity for longer-term investors.
Bull
- Strong long-term performance track record
- 20 consecutive years of dividend growth, leading to a relatively attractive yield
- Discount wider than long-term average may present an attractive entry point for investors
Bear
- May underperform during value-driven market environments
- Smaller-company investing typically exhibits higher levels of volatility
- Gearing can exacerbate losses on the downside