For investors the micro-cap or small-cap end of the share market offers the chance to generate far bigger returns than large cap shares. Among other reasons this is because it's much easier for a company to double its profit or market cap in quick time off a small base than a large base.
Small-cap shares also tend to have far less professional analyst coverage than large cap shares, which suggests they're more likely to be mis-priced versus their potential. For example recent regulatory efforts to unbundle commission payments to sell side analyst and stockbrokers from buy side fund managers has put fee and more general industry pressure on sell side research.
In brief this is because regulators, starting in Europe under the Mifid II rules, want to protect investors' interests by making sure buy side asset managers are not unduly influenced to have their dealing rooms send trades for execution to brokers on the basis of who provides them the best soft or 'under the table' commissions that may include bonuses like sell side research.
As the basic principle exists that orders should be sent to clients that provide 'best execution' in order to protect the interests of the buy side firm's beneficial investors.
Although this may sound surprising to some, the attack on the coziness between the two industries is starting to bite as we recently saw with Deutsche Bank's decision to close down its equities business in Australia and around the world.
It's also worth noting that sell side analysts are the ones who tend to publicise their research (in effect they're selling it), while buy-side asset managers will keep it closer to their chests as it would make little sense to offer anyone but clients the benefits of their research.
So while you may only sometimes see one or two analysts with ratings on small cap shares that's not to say other asset managers are also not researching it.
The bottom line though is that less analyst research means more opportunity for mis-pricing, so let's take a look at one of Australia's leading fund managers owns in its WAM Micro-Cap Ltd (ASX: WMI) fund as at June 30, 2019.
Think Childcare Ltd (ASX: TNK) is a childcare centre roll-up business partly operating under the Nido brand. It's guiding for some strong revenue growth in FY 2019, but profit growth won't be as strong. As ever margins remain critical to a business like this.
Audinate Group Ltd (ASX: AD8) is a small-cap market darling that sells software and technology used in modern audio systems. It's reportedly a market leader in its space, but recently other high profile fund managers have accused the stock price of being a 'bubble'.
Jumbo Interactive Ltd (ASX: JIN) is the online lottery business that runs the ozlotto.com website and benefits as more people buy tickets online, rather than over-the-counter at their local shop. Like Audiante its share price growth has been spectacular.
5G Networks Ltd (ASX: 5GN) is a cloud centre and internet services business for enterprise clients that has also been a very strong share market performer over the past year.
Infomedia Limited (ASX: IFM) is an online automobile industry platform and service parts provider. It has no debt and posted an interim net profit of $7.3 million on revenue of $40.3 million for the six months ending December 31 2018.
