AIM has matured as a market, with more profitable and dividend paying companies than in 2008
Oliver Brown
The AIM market, as with all equity markets, has had a volatile year. On the face of it, the AIM market performance might seem surprising, as during a market crash, investors typically expect smaller companies to see the sharpest falls as many head for the safer haven of large caps, which often have broader and more internationally diversified businesses. In 2008 the AIM market fell 62%, significantly underperforming the FTSE All Share which fell 30%. Investors dumped smaller, less developed businesses, scared that the banking crisis would wipe them out.
However, the market crash of 2020 has been rather different. Whilst the AIM market fell sharply along with larger UK Indices, it outperformed them on the way down and the recent bounce has also seen it increase this outperformance. It is currently down c8% year to date compared with c16% for the FTSE 100 and -19% for the FTSE 250. At the same time, the US Nasdaq index has made double digit returns as the large technology companies have soared in importance as a result of lockdown. Whilst it would be glib to compare the UK’s junior market with Nasdaq, there are similarities, which we believe have led to its outperformance against larger UK indices.
Importantly, AIM is not dominated by the banks, insurers and oil companies in the same way as the FTSE 100. All saw sharp falls as the impact of Covid-19 shut down economies and many of the high dividend paying stocks were forced to cut or abandon dividends all together. What transpired was something of a value trap as these companies had been perceived as modestly valued before the pandemic and broadly sensible places to invest in a market that was touching new highs and showing signs that the longest bull market run in history was coming to an end. However, when Covid-19 struck, these companies’ services were as affected, if not more affected, by the economic downturn and therefore underperformed. Their much publicised dividend cuts further exacerbated falls.
The AIM market, on the other hand, is more broadly diversified than its larger siblings. Its largest sector is healthcare, which has performed well with the increased focus on this industry, the urgency to produce Covid-19 testing kits and the race to find a vaccine. There is something akin to the 19th century gold rush as the industry seeks to ramp up production of testing kits and as smaller players team with global pharmaceutical giants in attempts to find a resolution to this grave crisis. AIM listed companies such as Open Orphan and Avacta have both recently raised fresh capital in order to accelerate their Covid-19 response. As both are loss making companies and there is undoubtedly already ‘excitement’ in their share prices, they should be considered as high-risk investments and certainly not for widows and orphans. Nonetheless, their work on Covid-19 studies could be game changers for both businesses. Another healthcare company we like is Diaceutics, a data analytics company that is building an unrivalled ‘data lake’ of testing information which helps to provide improved client outcomes by speeding up production of new treatments. Its shares have doubled since IPO last year as the company has grown revenues and profits ahead of expectations.
Technology is another big component of the AIM market, making up over 13% of the index – far larger than the FTSE’s 1%. Tech had a ‘good crisis’ as we adjusted to life under lockdown, as never have the benefits and importance been more apparent. Whilst the UK does not have the familiar behemoths of the US’s NASDAQ, where Amazon, Facebook, Netflix and Google have furthered their meteoric rise, AIM is still home to its own star tech names. The largest of these, Blue Prism, is an artificial software developer, with a roster of blue-chip clients. It has grown sales by over 40% and is one of the leading companies in this fledgling industry. The shares are loss making as the company is focused on growing sales, and the valuation is eye watering. However, it could be one of the winners in a market that is certain to grow and could in a few years be a much larger company than today’s £1bn market capitalisation would suggest. Essensys is another business we like, first buying into it at IPO last year. It provides software to the flexible workspace sector an arena where demand is likely to increase as companies search for flexible solutions as more employees opt to divide time between home and office working. The days of long office leases, could well become a thing of the past…
Retail and the high street have undoubtedly been losers in the current environment, as lockdown has increased the shift to online shopping. Once again, AIM has been a beneficiary with its largest company Boohoo, being an online retailer of fast fashion for the young. Asos, another online retailer – once the AIM market’s poster child – also seems to have put its recent problems behind it and continues to grow sales and improve margins. Both have continued to grow strongly during lockdown, taking further market share away from the high street much of which, we believe, will be permanent. Hotel Chocolat is a company we recently invested in when it raised money to fund its expansion overseas. Whilst its strong high street presence has suffered, it is a business founded on mail order, so it has been able to recoup some of its lost high street sales via its website.
AIM’s growth profile has undoubtedly helped it outperform as its constituents are dominated by smaller growth companies. Also, it has not seen the same level of dividend cuts as the FTSE, though its dividend yield at c1% is much lower. AIM is not a natural place for investors seeking income to put money so any dividend cuts by AIM companies are of less importance to the total return and any cuts are less likely to materially impact the share price compared with a company where investors hold stocks principally for the dividend. (Royal Dutch Shell is a good example, which saw its shares fall sharply recently when it cut its dividend for the first time since World War II.)
Along with its growth characteristics and the opportunity to invest in the potential large companies of tomorrow, a further potential benefit is that AIM is not classified as a recognised exchange. This means that many of its constituents qualify for business relief, which means an investor holding a portfolio of business relief-qualifying AIM stocks for at least two years, could have a portfolio falling outside of the individual’s estate for IHT purposes (under current legislation).
See also: Small company AIM stocks positive for IHT planning
This could potentially reduce a large inheritance tax bill whilst still allowing the individual to retain control and ownership of the assets. In a modest way, this long term capital has perhaps further aided the relative outperformance of the AIM market as someone with an inheritance tax portfolio is unlikely to sell their shares during a market crash as they would potentially lose their tax benefits. This pool of long term capital is invaluable to the long term health of AIM companies. We would recommend seeking financial advice being sought before setting up such a portfolio for inheritance tax purposes.
In conclusion, in many ways this year’s crash has brought into perspective that AIM has matured as a market – it has more profitable and dividend paying companies than in 2008. Whisper it quietly, but the junior market, now twenty-five years old, is finally coming of age.
Oliver Brown is lead manager of MFM Primary Opportunities Fund and investment director, RC Brown Investment Management
Further reading: FTSE Small Cap vs AIM
