In our monthly Small Cap round up, we’ll be focussing on these four areas:
1. The Big Picture
3. Movers and Shakers
4. What’s coming up
1. The Big Picture
Stocks go down for one of two reasons: either their earnings are crunched or the expectation is that their future earnings will be crunched i.e. there is an earnings multiple contraction. The evidence from the ASX reporting season in August and the current US reporting season is that earnings are fine.
Although there are elements clouding the situation – a nascent trade war, climbing interest rates, and increasing inflationary fears in the US.
The point is that the fundamentals of most businesses are good, even though investors are becoming more sceptical that the growth stories are worth paying up for.
In our Small Cap universe of ASX listed small caps, we are seeing more value opportunities than has been the case for the past few years. More to the point, a number of those opportunities are in this week's share market report!
On the Big Cap or Blue Chip shares side of things, there’s good evidence of capital returns on the resources side and on the banks, lower profits are being bought because of low expectations. ASX Investors are hunting for value and cash returns. Growth without adequate fundamentals behind it, is losing its lustre.
2. Small Cap Shares to Buy/Sell/Hold
Small Cap: BUY
Netcomm Wireless (NTC)
Involved in the low margin business of selling modems and route providers; much of its services are to wholesale customers, which include the NBN and AT&T, where it’s rolling out fixed wireless in the US.
Already fallen 50% taking a lot of the risk out of it.
The company has net cash, is profitable and is leveraged to growth in internet connectivity and 5G in the near term.
Small Cap: HOLD
Previously known as PaperlinX, the paper and print specialist is doing a good job reinventing itself, having got rid of its troublesome hybrid debt.
It’s going to pay 0.7c capital return from the sale of the Singapore business; and it’s likely to start paying dividends again.
Made money from 3.2c; it’s now 5.5c, but it’s certainly worth more if it pays dividends.
Small Cap: SELL
We’ve done over 20 small cap take profits all year; actively managing our recommendations.
MYX, NEA, MVP, NCK, KGN, INA, BIS, CLV, IFM, FNP, CAJ, AJM, SDI, NAN, KDR, AQZ
We’ve been taking profits on all these stocks and more over the past six months as the market got increasingly euphoric. We’ve been alerting subscribers consistently to our preference to taking profits.
Now that the market has been selling, we’ll be looking at these stocks again because they’re good businesses, which are at lower prices.
3. Small Cap movers and shakers in the past month
Small Cap ASX: Aged care sector
This ASX sector is under pressure because of the royal commission announcement and many business models are based on government funding. Stocks like Regis Healthcare (REG), Estia Health (EHE) and Aveo (AOG) have been under heavy and sustained selling pressure. The good good news is that our ssmall cap stocks – Lifestyle Communities (LIC) and Ingenia Communities (INA) are holding up very well for a number of reasons:
- They’re not overly reliant on the government;
- Their product and service is aimed at the mass market or the value end;
- Their innovative business models mean that cash flow is put first;
- Their businesses aren’t reliant heavily on skilled labour.
Small Cap sector: Retail
This sector has been notable for its weakness, with some companies falling over in the past 12 months.
We’ve looked at a few with the view to finding value in small caps in the sector where their longer-term profitability under pressure.
Myer (MYR): risk reward doesn’t make sense
Retail Food Group (RFG): same thing; for a number of reasons this stock is too high risk.
Kogan (KGN): took profits on Kogan; understood overvaluation and sold three or four times at decenT prices; took another bite at $4.50 and went too early;
Share market has to digest the insider sales, but it’s certainly the best pure play online retailer in Australia. It’s done a fantastic job till now; still growing; net cash; but it’s going to be volatile.
The Reject Shop (TRS): this small cap company sells at a quarter of its revenues; if it can manage its working capital carefully it could probably make money and recover so that it can start paying dividends.
4. What's coming up in Small Caps?
In this week’s stock research report, we’ve come up with a new stock!
Like many stocks that produce slightly negative updates in this climate, investors punish first, think later. This week’s stock has great fundamentals and is set to grow even though its industry conditions are difficult. The company is profitable and paying dividends.
A Small Cap stock is the health foods producer, Freedom Foods (FNP) which has fallen almost 30% since early September, although it is recovering now. This company produced a wonderful FY18 profit result, yet investors have been clearly looking to take risk off the table. We come up with our analysis on whether the sell off represents a buying opportunity.
Other small cap tocks we look at include the car parts catalogue group Infomedia (IFM), Pro-Pac Packaging (PPG), Prime Media (PRT) and Orocobre (ORE). We also add three stocks onto our Best Small Cap Stocks to Buy list.
In an upcoming issue we’re going to look at all the small cap stocks we’ve been buying and selling.
We’re also focusing in a sector we’ve had a good track record in – medical technology.
Since Shocktober, there’s a number of situations where we’ll be providing updates and new buying opportunities over the last two months of the year and into 2019.