Popular institutional small-caps investment strategy revealed!

Now you can be a fund manager too.

Noticed this part of this strategy in play during my time in equities. Established brokerages like Merrill Lynch usually pick their stories from the ramblings of less established local brokerages. Small local brokerages could be touting the stock to the skies, but if the Merrills do not pick up the story, price appreciation remains controlled. Cover stories are picked up with great timing, when it becomes apparent that the small caps have been awarded large contracts which would no doubt be a positive catalyst for appreciation.

Finally, small caps stocks are really a derivative of large caps, abeit an imperfect one.
There are greater rewards (and risks) because of their exposure to the fortunes of larger companies from which they derive their business. Sudden spikes in business dramatically improves utilization and ASPs for small caps.
However as a result of this imperfection, movements are largely unpredictable to the general public.


Mobius, Gordon-James Focus on `Small Caps' in Emerging Markets
By Alexander Ragir

June 26 (Bloomberg) -- David Semple recalls sweating in the Singapore sun as he lugged his briefcase through the streets, looking for Ezra Holdings Ltd.'s office building.

Semple, whose Van Eck Emerging Markets Fund had the second- best performance of any U.S.-based emerging market stock fund in the past three years, was pounding the pavement to make up for the lack of published research on Singapore's less-traded stocks. He found the bargain he was seeking in Ezra Holdings, a shipping- service provider for oil companies whose shares are up fivefold since he bought them in July 2005.

``They were ready for my questions, they had the answers, they knew what I needed to know,'' Semple, 43, said as he leaned back in the chair in his New York office. ``That was a classic case of a company where you saw it when it was relatively small and it hit the sweet spot.''

Investors Mark Mobius at Templeton Asset Management Ltd. and Mark Gordon-James at Aberdeen Asset Management are employing Semple's strategy. They have set up funds in the past year to invest in stocks with capitalization of less than $2.5 billion, which may have greater potential for gains than the bigger companies that make up developing countries' equity benchmarks.
Kenneth L. Fisher, chairman of Fisher Investments in Woodside, California, says he is skeptical of the strategy because the shares are likely to lose the most in an economic slowdown.

``You don't want to have much in this,'' said Fisher, who oversees $41 billion. ``If you have more than a couple of percent in this, it's too much. This is just a return kicker in a bull market, which will be a return killer in the next bear market.''
Markets in Transition

Merrill Lynch said in a June 1 report that emerging markets are in a ``transition,'' during which profits of smaller companies will rise the fastest. Shares of 100 so-called small cap emerging market companies in a Merrill Lynch index surged 40 percent this year, more than double the gains of the Morgan Stanley Capital International emerging market index.

MSCI Barra, a unit of Morgan Stanley that provides the MSCI regional indexes, plans to introduce an Emerging Market Small Cap gauge next June, focusing on companies with market values of less than $2 billion.

For Semple, who helps manage $5 billion at Van Eck Associates, the ``sweet spot'' comes when larger investors and brokerages pick up coverage of a stock he owns, enabling him to ``make an awful lot of money, very quickly.''

Semple bought Ezra Holdings for S$1.08 a share when only one analyst covered the company, on July 22, 2005. Since then, four investment banks have initiated coverage, including JPMorgan Chase & Co., and the stock trades at S$5.55.

Track Record
About half of Semple's $94 million Van Eck Emerging Markets Fund is invested in shares of companies with a market value of less than $1 billion. The fund rose 70 percent in the past 12 months.

Semple's fund returned an average of 46 percent in the past three years, the second-best performance of 100 U.S.-based emerging market equity funds. Santa Monica, California-based Dimensional Fund Advisor's DFA Emerging Markets Value Fund was the best performer, with an average yearly gain of 48 percent. Karen Umland, who manages this fund, declined to comment on her investment strategies, a spokesman said.

Gordon-James, who helps manage $8.7 billion in emerging market stocks, started his $200 million Aberdeen Global Emerging Markets Smaller Companies Fund in March to invest in companies with a market value less than $2.5 billion. Mobius, who oversees $30 billion in emerging markets stocks, began his $44 million Templeton Emerging Market Small Cap Fund last October, to buy shares of companies with up to $1 billion in market value.

Biggest Holdings
South African goods wholesaler Massmart Holdings Ltd., Mexican homebuilder Sare Holding SAB and Hungarian hotel chain Danubius Hotel and Spa Nyrt are the largest holdings in the Aberdeen smaller-company fund.

The risk of the strategy is that emerging market countries are more prone to political and economic risk, because they lack established democratic institutions, said Bill Fries, who helps manage $43 billion at Thornburg Investment Inc. in Santa Fe, New Mexico, and has 25 percent of his holdings in emerging markets.

``It's easy getting into some of these names, but if ever there's a problem, getting out is very, very difficult,'' said Marc Halperin, who helps manage $2 billion at Federated Global Investment in New York. ``The resources and finances just to get out there and see these companies is also too much.''

Aberdeen has 27 emerging market fund managers, Gordon-James said. The small caps have less debt and are more insulated from fluctuations in the global economy than larger emerging market companies, he said. `

``It doesn't have to be more risky,'' he said. ``What's the point of narrowing yourself to large caps where, by definition, you're forced to invest in many global industries like mining, oil and technology?''

Profit Outlook
Earnings growth for companies likely to be in the new MSCI small-cap index will be 30 percent in 2008, almost twice the estimate for the MSCI Emerging market index, according to the Merrill Lynch report titled ``Bullish on EM small cap.'' Shares in both indexes trade at about the same price, at 12 times 2008 earnings, Merrill said.

``Small caps are like a farmer's crop,'' said Don Elefson, at U.S. Trust Co. of New York, whose $1.2 billion Excelsior Emerging Markets fund holds 20 percent to 30 percent in shares of companies with a market value of less than $2.5 billion. ``If the soil is bad, they're not going to grow; if there are severe storms coming in, they're going to wreck the crop.''

The stocks currently present an opportunity, he said.

``Firms that get into this early will do very well,'' he said. ``Emerging market small-caps will be one of the single best asset classes we've ever seen.''