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Small and mid caps exploit recovering demand overseas

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Richard Plackett, manager of the BlackRock UK Special Situations Fund, believes that investors should look through the moribund UK economy to small and mid caps that are exploiting demand overseas.

The UK economy is likely to face anaemic growth over the next few years, constrained by debt.

Healthy growth is predicted for the global economy, led by emerging markets such as China, India and Brazil. All are undergoing industrialisation which is driving industrial and consumer demand.

Plackett (pictured) says: “The small and mid cap area of the market is a fertile hunting ground for stocks that have little or no exposure to the UK economy. The weak pound benefits these companies as their products and services become more competitively priced. However, given the sheer volume of small and mid cap stocks, the identification of those companies with strong growth potential has arguably never been more important.

“Companies with export earnings in resources, industrials and technology are particularly attractive, in contrast to those exposed to tightening UK government and UK consumer spending. Over the next few years companies exposed to overseas markets are likely to perform better than those whose activities are restricted to the UK economy.

“We predicted in May mid cap stocks would outperform the FTSE All Share in recovery, as they typically do. Mid caps outperformed the FTSE All Share by 12.73 per cent from 1 March 2009 to 31st October 20091. Why so? Small and mid caps have higher fixed costs – when revenues improve, the effect on company profits is marked.  For these reasons we currently have 75 per cent of the fund in small and mid caps.

“The UK stock market is diverse and international. It is also the world’s third largest stock market with almost 70 per cent of earnings from quoted companies coming from overseas. Our focus is on well capitalised companies with strong balance sheets. Industrials, commodities and technology are areas of significant interest to take advantage of a market upturn. Our goal is to uncover organisations capable of transforming themselves into much larger businesses.”

Over the long term, smaller companies have outperformed. GBP100 invested in smaller companies at the end of 1955 would now be worth GBP276,355 versus GBP43,5583 for the same sum invested in the UK stock market.

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