Strategic small cap stock selection more important than ever

Two Prime Value Asset Management portfolio managers have sought to remind investors to remain “choosy” when it comes to small cap stocks amid their ongoing performance resurgence.

Richard Ivers and Mike Younger, Portfolio Managers for the Prime Value Emerging Opportunities Fund, said while the “turnaround” of small cap stocks is “justified”, investors should still employ strategic stock selection to ensure their portfolios are protected for long-term performance.

“We see fundamental reasons why Small Cap out-performance could continue, driven by much stronger earnings growth and lower valuation multiples. We’re also seeing genuine bull market behaviour in certain sectors with some stocks running hot,” Ivers said.

“The last 10 years has shown us to ‘expect the unexpected’. It has also shown that market conditions can swing much faster than previous eras, and that brutal sell-downs can occur when momentum shifts.

“Even in good markets we need to consider portfolio construction, and managing the potential downside so that today’s gains can solidify into genuine long-term performance.”

“In hindsight, the small cap industrials index bottomed in October 2023, just as the RBA implemented its final rate hike,” Younger said.

“Since then, this index is +49.7% versus the large cap index +38.6%, but has reversed only a small portion of the small cap relative under-performance over the last five years.

“Share prices follow earnings, and there are many stocks where improved earnings are yet to show up fully in the share price, so there are currently some good buying opportunities.

“Macquarie Research estimates that small cap, ex-100 stocks will exhibit much stronger earnings growth over the next few years to 2028, while also trading on lower valuation multiples compared to large cap stocks.

“The smaller end of the market is far more diversified than the top 100 and we’re seeing strong opportunities right across the market, but also seeing potential for risk in smaller, speculative companies running hard.”

The Prime Value Emerging Opportunities Fund is one example which has managed to withstand even the most unfavourable market conditions, outperforming its benchmark over the last eight years and returning 11.7% per annum net of fees since its inception in 2015 as of 30 September 2026.

“Small cap stocks are an area where good managers can make a difference and generate consistent returns across different markets,” Ivers said.

“It’s a great market to be in because there’s always something interesting happening – even if one area of the market is disappointing there will be opportunities elsewhere. It’s the benefit of a broad and deep market of smaller companies, and it’s exciting to find those undervalued companies,” Younger said.