Smithson 10 January 2024
Disclosure – Independent Investment Research
This is independent research issued by Kepler Partners LLP. The analyst who has prepared this research is not aware of Kepler Partners LLP having a relationship with the company covered in this research report and/or a conflict of interest which is likely to impair the objectivity of the research and this report should accordingly be viewed as independent.
Smithson Investment Trust (SSON) offers investors high-conviction exposure to a range of high-quality global equities at the small to mid-cap end of the market cap spectrum. The trust is managed by Simon Barnard and assistant portfolio manager Will Morgan, who have inherited an investment approach founded on identifying companies with superior operating characteristics, which they look to invest in at attractive valuations and hold over the very long term—a process established by Fundsmith’s longstanding CEO and industry veteran Terry Smith. Allocations to consumer sectors, information technology—typically software companies—and industrials, are core allocations which are a function of Simon and Will’s quality focused bottom-up investment process (see Portfolio).
SSON can experience heightened levels of volatility, and the managers do not take on gearing to avoid exacerbating this. Volatility has been particularly evident over the past few years, which at times has created significant swings in performance. Over the long term, risk-adjusted performance has been strong, as the trust has generated a NAV total return of 60.7% versus the MSCI World SMID Index and the global smaller companies sector returns of 54.5% and 34.2% over the past five years. Performance over 2023 has also held up well as inflation and interest rate expectations seem to have plateaued, and the lagging impact of supply chain and pandemic disruptions has faded. SSON’s high-quality holdings have responded well, contributing to the trust’s NAV total return of 13.3% compared to the 9.1% and 4.5% return from the MSCI SMID Index and the peer group (see Performance).
As we discuss in Discount, challenging macroeconomic conditions and poor investor sentiment have impacted SSON’s share price and the discount has continued to widen to 12.1%, compared to its long-term average discount of 2%.
We believe SSON’s long-term performance characteristics are particularly impressive, and a positive reflection of the managers’ focus on the high-quality operational characteristics of the underlying holdings. With the headwinds from the pandemic and supply chain constraints fading, we think these companies could be in much stronger positions from here.
We think the relatively high recent turnover of the portfolio and turnover of the wider 80-100 stocks in SSON’s investable universe is evidence of the bargains that are to be had in the smaller companies market. With inflation pulling back from its peak across the developed markets Simon and Will invest in, and the plateau in interest rates reached earlier in the year, the pressure on growth equity valuations has been relieved, particularly in sectors such as software and consumer discretionary. In our view, SSON could also benefit from the serial acquirers in the portfolio that are in a position to absorb competition to gain market share or gain access to alternative markets at knock-down prices which could lead to a higher rate of return over the long term.
The discount is currently at historically wide levels which we believe could present a good long-term entry point for investors, particularly given the board’s supportive attitude to buybacks which is bolstered by the managers’ incentive to narrow the discount being tied to the management fee paid on market capitalisation.
- Strong long-term performance characteristics and easing of macroeconomic conditions may provide a catalyst for strong returns
- May offer a diversification opportunity through its high conviction, benchmark-agnostic strategy
- Wide discount compared to long-term average. The board is committed to buybacks, and the management fee is tied to market cap
- May underperform during value-driven markets
- Continued macroeconomic pressures on smaller cap companies, may take longer than expected for sentiment to shift
- Concentrated portfolio can enhance stock-specific risks