Very rarely do we catch a mainstream press headline that promises anything beyond what we might politely call ‘conventional wisdom’.
In fact, for the most part, we look past the stream of ‘news’ penned by Australia’s best-known financial commentators. That’s not to say we’re ignorant of mainstream finance opinion — just that it’s rare for us to catch them offering any useful, actionable advice.
But your editor couldn’t help reading on this time. At long last, an establishment news outlet promised to subvert our thinking with some original advice.
If there’s one thing we value at Port Phillip Publishing, it’s unusual, thoughtful investment ideas. That’s why this mainstream headline piqued our interest. But as we read on, we realised we shouldn’t have bothered…
We spotted the Australian Financial Review running with this headline: ‘Australian small caps no cheaper than blue chips’.
‘Surely not,’ we thought. You see, your editor also pens Australia’s most widely read small-cap share investment advisory service, Australian Small-Cap Investigator.
If there’s one thing we’re good at, it’s researching and tipping small stocks that outperform the Australian share market. And in the small-cap sector, cheap valuations are a major drawcard.
Here’s what we mean. Right now, the benchmark for large-cap shares — the S&P/ASX 200 [ASX:XJO] index — trades at a forward price-earnings (P/E) ratio of around 17 times. That means if you were to buy a basket of Australia’s 200 biggest stocks, for each share you’d pay an average of around 17 times the earnings per share that the company is expected to generate in the coming year.
‘Expected by whom?’ you might ask. Well, expected by the research analysts who work for an arbitrary bunch of stockbroking firms and investment banks. We’ll put aside the fact that these analysts can rarely forecast earnings with much accuracy — which calls the entire notion of forward P/E ratios into question. That’s a topic for another day. It’s enough for us to note that 17 times future earnings is an above-average valuation.
Meanwhile, in the small-cap sector, sometimes you can nab stocks trading for as little as eight times…six times…or even less than five times the earnings they may generate in the coming year.
If you’re like us, when you find a tiny stock changing hands for just a few times its earnings, you can’t help but mentally run through the potential rewards. So when we saw yesterday’s small-cap story in the Fin Review, the prospect of learning that this had been a sham all along was enticing enough for us to click on the headline.
Alas, the story turned out to be clickbait. That’s what we call a web article that exploits your curiosity about a sensational headline — then fails to deliver on its promise…
The horse has bolted
Here’s the article’s main problem: it defines ‘small-cap’ as anything that lies inside the ASX 300 but outside the top 100. Excuse us, but those aren’t small-caps…they’re genuine mid-caps.
The author cites companies like APN Outdoor Group Ltd [ASX:APO], McMillan Shakespeare Ltd [ASX:MMS] and iiNet Ltd [ASX:IIN] as potentially attractive small-caps. They may well be successful companies — but you won’t catch us tipping stocks like that in Australian Small-Cap Investigator.
These firms already sport market valuations of $540 million, $930 million and $1.4 billion respectively. Companies that have already become so big don’t offer the supercharged growth prospects we aim to bring you. Your editor would much rather deliver you the next APN or iiNet at a tiny fraction of the price tag.
Typically, ‘challenger’ companies that lurk deep in the small-cap sector trade at deep discounts to their large-cap peers. The stocks we track are so far under the Fin Review’s radar that they don’t even warrant inclusion in their articles about ‘small-caps’…and that’s the way we like it.
If things play out as we expect, the tiny speculative stocks on our buy list could hit the big time in 2015 — and if you can tolerate the risk of owning them, buying ahead of their success can bring you fabulous riches.
These stocks will keep running
Look, we don’t have all day to slag off the Fin Review. To be fair, it can often be a handy source of factual info. And the article we’ve just dissected did get one thing right about small-caps.
It pointed out that stocks in this sector are still poised to benefit from investors’ thirst for income, as long as interest rates stay low.
Investors’ chase for stocks that have paid or may raise dividends has led all the way to the small end of town. This trend shows no signs of slowing. That makes now the perfect time for us to launch a brand-new dividend stock advisory service.
Over the weekend, we unveiled your new income advisory newsletter. We’re sure it will become an indispensable weapon in your investing arsenal. Make sure you check it out.
Editor, Australian Small-Cap Investigator