This is the second short excerpt from our virtual event with George Ensor, manager of River and Mercantile UK Micro-Cap (RMMC ) investment company.

In it, Ensor runs through his checklist of catalysts for a rapid improvement in UK smaller company share prices.

Can’t watch now? Read the transcript 

George Ensor:

We think that there’s quite a sensible four-point checklist that I’ll go through now, to get more constructive on equities in general, but small-cap equities too. So, you want to have cheap valuations. There’re a few ways of cutting this data. The UK trades at a record discount to rest of world equities. That’s obviously very geared to how expensive the US market is at the moment. So, we trade on about a 42%, 43% discount to the rest of the world equities. If you break that down and normalise for the sector differences. So, the UK’s overweight financials and materials and underweight tech. Even if you account for that, we’re still on a 20% discount and it’s also a record valuation discount.

So, there is a big discount on UK equities. Then UK small-cap equities, as shown here, you can see that we’re on about nine to 10 times for the Numis Smaller Companies index. You can see, over the last 15 or 16 years, it’s very rarely been lower than that. The only time it’s consistently, for a prolonged period been lower than that, is through the GFC [2008 global financial crisis].

You want to have negative positioning and sentiment. I think it would be hard to go out and say that there isn’t negative sentiment towards UK equities at the moment. Positioning is very negative. Since 2015 we’ve seen 20% of UK equity AUM move out of the UK. Go to global funds, thematic funds. Broadly into US equities, which are now a massive part of the MSCI All World index. Small-cap funds have seen 28 consecutive months of outflows. 

You want to have seen peak interest rate and inflation expectations. The stress is normally on expectations there, but I think we’ve actually seen peak interest rates and inflation, in general. Inflation’s now coming down. It’s coming down quite quickly. The current data is actually quite disinflationary. So, I think in the short-term, we’re going to continue to miss to the downside on inflation. There’s probably an interesting conversation to be had about years two to five setup. In the short-term, it looks quite disinflationary. The language has now moved from where do rates top out to how many rate cuts do we get this year and next year?  We don’t need to get that answer right. The fact is that we’re almost certainly for this cycle at peak interest rates. Then the fourth thing you want to have, is the rate of macroeconomic deterioration slowing, ie, things are getting bad less quickly.

I think actually, we can be quite positive about UK macro. Real GDP’s been upgraded. We’ve got real wage growth coming through. Gas prices continue to soften. So, if anything, we are seeing absolute positive macro upgrades. So, I think we can be pretty confident we’ve got those four things. That should drive to flows, which ultimately, would be the driver of a rerating for smaller companies.