Micro Cap Strategy
|October 31, 2008
|Available upon request
We are a value oriented, bottom up, microcap stock-picking strategy. We define microcap stocks as companies with market capitalizations in the bottom two deciles of the overall market. We believe that inefficiencies in this size of company argue for an actively managed approach, which is our strength. We focus on out-of-favor companies with strong balance sheets and look for a catalyst to effect change. Frequently the hidden strength of the company manifests itself in the following ways:
- Attractive Valuation: The strategy emphasizes a “value” style of investing. In deciding which securities to buy and which to sell, the manager will give primary consideration to fundamental factors. For example, securities having relatively low ratios of share price to book value, net asset value, earnings and cash flow will generally be considered attractive investments.
- Outstanding Balance Sheets: We believe it is essential for the out-of-favor microcap stocks we buy to have outstanding balance sheets. Little or no debt and a strong net cash position creates the opportunity for the company to weather its current situation until the next catalyst or turn in the business cycle appears.
- New Products or Services: The introduction of a new product or service can have a meaningful and rapid impact on microcap companies due to the small size of the existing business. Therefore we watch for product announcements and track initial customer response to new products or services very closely as early results and market acceptance can be the beginning of a strong business trend.
- Insider Purchases: In smaller companies, insider purchases can be a more meaningful business signal than in large companies. Therefore we look for microcap companies with insider buying.
In addition, we believe that management interviews and company visits are an important aspect of our strategy as microcap companies frequently have very little Wall Street coverage or attention which can be an advantage in discovering mispriced opportunities.
- Portfolio Construction: Typically targets 50-70 portfolio holdings.
- Buy Discipline: We constantly identify/screen for out-of-favor stocks and then determine if there are identifiable catalysts. When there are, we typically buy when the selling appears to have “washed out” and the stock price has established a meaningful base in its price.
- Sell Discipline: We scale out of stocks that have surpassed our mean reversion estimate of fair value.
- Risk Management: Buying out-of-favor stocks, with limited downside based on tangible book values or net cash positions, is a significant aspect of our risk management discipline. We hold a diversified portfolio from a sector standpoint with a large number of holdings to add further diversification to the portfolio.