‘Neglected’ Small and Mid-Cap Stocks Could Shine in AI’s Shadow

The
area
with
the
largest
discounts,
at
25%,
was
value
stocks,
Sekera
continues,
while
growth
and
core
stocks,
at
16%
discount,
offered
a
higher
growth
rate,
but
with
much
richer
valuations.
His
conclusion:
“based
on
those
discounts,
investors
should
be
overweight
small-cap
stocks”
in
their
portfolios.

Small-Cap
and
Mid-Cap
Stocks
on
Sale:
Managers

It
is
a
conclusion
other
portfolio
managers
support.
However,
they
find
opportunities
not
only
in
the
US
but
globally.
Considering
the
cash
that
they
generate,
small-
and
mid-cap
stocks
look
undervalued,
asserts
Kent
Chan,
equity
investment
director
at
Capital
Group:
“that
holds
in
emerging
markets
as
well
as
in
advanced
markets.”

Over
in
Canada,
Jeff
Mo
and
Samir
Taghiyev,
portfolio
managers
of
Three-Star,
Bronze-Rated Mawer
New
Canada
A
fund,
are
just
as
confident:
“we
look
for
high-quality
attractive
companies,
and
we
find
that
mostly
in
small-
and
mid-caps.”

Why
smaller
stocks
are
so
neglected
may
be
due
to
the
influence
that
Nvidia
(NVDA),
mega-caps
and
the
AI
narrative
exert
on
the
markets,
says
Chan.
He
also
points
to
another
feature:
“so
much
liquidity
has
been
flowing
to
the
US,
to
the
US
dollar
and
the
US
bond
market.
With
increased
liquidity,
you
increase
animal
spirits,
and
liquidity-driven
markets
take
time
to
shift.”

AI
Spilling
into
Small-
and
Mid-Cap
Stocks

Since
AI
forms

the overarching
theme
of
investment
markets,
it’s
interesting
to
note
how
important
a
contribution
small-
and
mid-cap
players
will
bring,
a
contribution
often
overlooked,
Chan
believes.
Behind
Nvidia,
he
points
out,
“there’s
data
security,
data
organisation,
and
those
tend
to
lie
with
small
companies.”

Thus
he
finds
attractive
names
such
as
Taiwan’s
Global
Unichip
Corp.
(3443),
which
designs
chips
and
outsources
their
manufacturing
to
Taiwan
Semiconductor
Manufacturing
Company
(TSM).
Another
player,
eMemory
(3529),
also
designs
chips,
but
in
their
memory
component,
with
the
specific
aim
of
shrinking
the
chips
to
save
energy
in
AI’s
insatiable
hunger
for
it.

Taghiyev
also
looks
into
the
AI
narrative,
outside
the
usual
story
of
the
mega-caps.
That
leads
him
into
IT
consultancy,
and
more
specifically
into
Canada’s
Softchoice
(CFTC.TO),
a
classic
information
technology
reseller
that
has
turned
toward
AI
to
help
corporations
design
AI
for
their
databases
and
implement
it
in
their
operations.

“It
is
Microsoft’s
largest
partner
and
Amazon
relies
on
Softchoice
to
understand
the
end
needs
of
clients,”
Taghiyev
states.
“No
matter
who
wins
the
AI
race,
Softchoice
has
a
relationship
with
clients
and
the
winners
will
all
come
to
it.”

Jeff
Mo
also
has
an
eye
on
IT,
but
totally
outside
the
AI
narrative,
in
Match
Group
(MTCH),
the
largest
online
dating
platform.
After
a
powerful
surge
in
its
business
during
covid,
activity
has
dwindled,
Mo
recognizes,
“however,
he
adds,
over
the
long
term,
especially
outside
the
US,
there’s
a
long
runway
for
dating
applications.”

India
is
The
New
China
for
Small
Caps

For
Chan,
India
is
the
coming
land
of
plenty
and
he
thinks
that
it
will
replicate
the
evolution
of
China’s
phenomenal
growth.
In
the
1990s,
he
recalls,
China
was
investing
heavily
in
major
infrastructure
projects
like
deep
water
ports
and
railways,
as
India
is
presently
doing.

Then,
China
successively
went
into
textiles,
consumer
electronics,
and
smartphones,
and
today
is
competing
in
smart
drug
design
and
electric
vehicles.
It
could
now
be
India’s
turn
and
“it
has
the
scale
to
match
China
in
terms
of
labour,”
Chan
says.

For
the
time
being,
the
Capital
Group
manager
finds
opportunities
in
very
basic
manufacturing
companies
whose
fortunes
are
linked
to
India’s
infrastructure
drive,
notably
Larson
&
Toubro
(LTOD),
“[which
is]
probably
the
most
well-established
infrastructure
company
in
India,”
and
in
Tube
Investments
of
India
(TIINDIA).
“We’re
so
focused
on
technology,
but
when
we
think
of
reshoring,
a
lot
will
be
old-world
industry,”
he
adds.

That’s
exactly
what
Samir
Taghiyev
finds
in
Montreal’s
Stella-Jones
(SJ),
an
infrastructure
pole
and
railway
tie
manufacturer,
a
company
that
could
hardly
be
more
“old
world”
and

which
I
wrote
about
recently.
The
company
has
a
leading
position
in
the
replenishment
of
North
America’s
overstressed
electric
pole
network
and
should
find
increased
vigour
in
the
growth
of
the
EV
market.

The
Capital
Group
and
Mawer
portfolio
managers
are
bottom-up
stock-pickers,
so
they
don’t
first
identify
promising
sectors
and
then
look
around
it
for
gold
nuggets.
They
seek
out
value
anywhere
they
find
it,
and
Taghiyev
and
Mo
are
keenly
attuned
to
companies
“that
have
a
sustainable
wealth
creation
track
record
with
returns
above
the
cost
of
capital,”
Taghiyev
notes.

Small-Cap
Growth
Stock
Opportunities
Outside
AI

With
that
lens,
the
managers
find
value
in
many
areas
–
all
outside
the
AI
box.
For
example,
Kent
Chan
has
invested
in
Lotus
Bakeries
(LOTB),
a
Dutch
biscuit
maker
whose
stock
is
up
over
300%
in
the
last
five
years,
and
which
he
identifies
as
one
of
those
“slow
and
steady
compounders”
he
favours.

Jeff
Mo
is
evolving
along
similar
paths.
He
has
discovered
a
attractive
stock
in
Munich-based
Pathward
Financial
(FM7),
a
player
in
the
heavily
challenged
sector
of
regional
banks.

Pathward
stands
as
one
of
two
dominant
players
in
the
very
elaborate
market
of
pre-paid
cards.
The
money
on
those
cards
has
to
go
somewhere
and
33%
of
it
lands
in
the
bank’s
deposit
accounts
on
which
it
pays
a
much
lower
interest
than
traditional
banks,
notwithstanding
a
processing
fee
it
charges.

Many
of
the
companies
outlined
by
the
portfolio
managers
are
overlooked
by
the
market;
is
there
not
a
danger
that
they
will
simply
continue
to
linger
in
the
shadows.
It’s
not
something
Samir
Taghiyev
worries
about,
citing
Benjamin
Graham:

“In
the
short
run,
the
market
is
a
voting
machine,
but
in
the
long
run,
it
is
a
weighing
machine.”
Taghiyev
adds:
“since
we
focus
on
wealth
creation
companies,
and
every
day
they
create
more,
if
the
market
recognises
that,
you
do
well.
If
it
doesn’t,
we
still
do
well.
But
when
companies
are
performing
well,
one
way
or
the
other,
markets
will
agree.”

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