Sector focus: Investors ignore the US at their peril

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There is an old adage in markets that when America sneezes, the rest of the world catches pneumonia. Certainly, we still look to the world’s largest economy for leadership in many areas of finance and business. Perhaps it isn’t quite the given it once was that the United States will continue to be the vanguard of economic progress. The growth of China in terms of its contribution towards global GDP and the continuing development of the emerging market nations has lessened this superpower’s grip on world prosperity.

But investors ignore the US at their peril. Back in the 1990s it was popular to eschew North America in favour of the tigers of the Far East, which themselves had picked up the economic baton from Japan. Those who did so were severely disadvantaged as an Asian debt crisis took the wind from the sails of these aspirant countries, while the US continued to power ahead, taking an enviable lead in technology. While the early months of the new millennium saw the bursting of the technology stock bubble, few would deny that America retains a powerful position in the global technology industry.

More recently it has been the way in which its central bank has been handling the aftermath of the 2008 financial crisis that has taken prominence in financial circles. It was the Federal Reserve that first embarked upon quantitative easing – a considered panacea subsequently adopted by many major nations, including the whole of the single currency zone in Europe. We still don’t know what the likely effect of bringing this massive financial experiment to a close might be, but we are certainly getting closer to the point where we are likely to find out.

Meanwhile, the speed at which the Fed is likely to reverse its stance remains in doubt. As summer faded into autumn, markets became more volatile as hawks and doves on the powerful Open Markets Committee, which sets interest rates in the US, expressed opposing views. Once the decision would have rested on the underlying strength of the US economy, but now those charged with reaching a decision feel bound to take into account what is going on elsewhere in the world. Little wonder, then, that dovish Fed Governor, Janet Yellen, considered the UK’s surprise decision to leave the European Union merited a more cautious approach to raising interest rates.

As it happens, the US economy appears to be trundling along quite nicely, which might otherwise have supported a tougher approach to monetary policy. While many of the companies that sit within the S&P 500 are global giants, vulnerable to a more mixed picture in the wider global economy, there are plenty of businesses that merit attention because of the underlying strength of the domestic economy. And we should not forget that the economy there is remarkably self sufficient and less likely to be affected by any wider slowdown than here in the UK or the EU for that matter.

Against such a background, it seemed sensible to look at the Investment Association’s North American Smaller Companies sector. Indeed, I couldn’t help but wonder why it had not received my attention before. Perhaps the limited choice available to investors had put me off. Then there is the fact that many funds are located offshore. Still, there are some important names in the investment community offering the chance to back America’s relative minnows and the performance achieved has not looked too silly either.

Just thirteen funds go to make up this sector and because of the way statistics are compiled for those based abroad, comparing them on a total return basis, rather than net of UK tax, is much easier. Major US investment houses tend to lead the performance tables, though our own Schroders acquits itself well. Hermes, with a fund less well established than Schroder’s US Smaller Companies, appears near the top of the tables. And with only eight funds with a five-year record, delivering gains that vary from less than 70 per cent to more than 150 per cent making a choice is far from easy.

But it does appear a sensible investment sector to consider for the more adventurous and wealthy client. As with all fund selection, it pays to conduct research into how the fund is run and what goes into the manager’s portfolio mix. With the US economy holding steady against an uncertain global background, perhaps North American Smaller Companies can deliver.

KEY TAKEAWAY

This is not a sector that will suit many investors, though those with larger portfolios or a greater appetite for risk should certainly consider it. The absence of boutiques is arguably disappointing and it seems the most reliable players are those based in the US. Still, it looks a sector worth tucking away for the longer term.

NUMBERS

13 number of US small cap funds in the sector over one year

8 number of US small cap funds in the sector over five years

33% Rise of top-performing fund in the six months to end of August

24% Rise of the average fund in the six months to end of August

IA North America Smaller Companies

Six months to 31/08/16

1 JPM US Smaller Companies +33.0%
2 Legg Mason Royce US Small Cap Opp +32.4%
3 Goldman Sachs US Small Cap Core +25.7%
4 Threadneedle American Smaller Companies +25.1%
5 T Rowe US Smaller Companies Equity +25.0%
13 funds, average performance +24.4%

One year to 31/08/16

1 Hermes US SMID Equity +33.4%
2 T Rowe US Smaller Companies Equity +32.2%
3 Legg Mason Royce US Small Cap Opp +29.6%
4 Goldman Sachs US Small Cap Core +29.0%
5 Neuberger Berman US Small Cap +28.4%
13 funds, average performance +26.4%

Three years to 31/08/16

1 T Rowe US Smaller Companies Equity +60.5%
2 Hermes US SMID Equity +60.0%
3 Threadneedle American Smaller Companies +59.7%
4 Schroder US Smaller Companies +56.5%
5 Goldman Sachs US Small Cap Core +51.2%
10 funds, average performance +45.5%

Five years to 31/08/16

1 T Rowe US Smaller Companies Equity +151.3%
2 Threadneedle American Smaller Companies +133.3%
3 F&C US Smaller Companies +130.6%
4 Schroder US Smaller Companies +129.9%
5 Legg Mason Royce US Small Cap Opp +113.0%
8 funds, average performance +115.5%

 

Source: Lipper, a Thomson Reuters company, offer to offer, total return