By Jennifer Kwan
TORONTO (Reuters) - Canadian investors are pumping money into small cap companies that they normally shun in uncertain times, enticed into riskier assets by signs the economy is stabilizing and by bargain prices.
The widely followed BMO Small Cap Index has raced ahead of other closely watched Canadian indexes as optimism over a global economic recovery has coaxed investors back into stocks hit especially hard by last fall's market meltdown.
It's a sign that market players are willing to be more adventurous again, experts say, with many investors believing the recovery is imminent.
"It's a good time to buy small caps. The market has had a shellacking. Small caps had more of a shellacking. The valuations are very reasonable," said Allan Jacobs, lead portfolio manager of the C$100 million ($93 million) Sprott Small Cap Equity Fund at Sprott Asset Management .
Small cap refers to stocks with relatively lower market capitalization. While definitions vary, the range of market capitalization for companies in the BMO index is between C$32 million and C$1.3 billion. The average is around C$370 million.
"They got oversold big time," Jacobs said. "So when things improved and the world wasn't ending they bounced back more than other stocks because they've collapsed more than other stocks."
Jacobs manages his fund with a "growth at a reasonable price" philosophy, and the top holdings in his fund include Capstone Mining Corp and tech company Wi-Lan Inc .
PRICES A KEY DRIVER
Bargain prices have been a major driver behind the recent outperformance in small caps but investors are also willing to take on more risk, said Jennifer Dowty, portfolio manager at MFC Global Investment Management.
"If you believe there is a global economic recovery this is a way to take advantage of it because you have the exposure to base metals and energy," she said.
Energy and materials make up about half the weighting of sectors in the BMO index, a roughly C$150 billion portfolio that includes around 400 companies.
"When you get the global demand picking up there is going to be demand for all the commodities," added Dowty.
Dowty assists in managing the C$500 million Manulife Growth Opportunities Fund, with top holdings that include Pacific Rubiales Energy , Aecon Group Inc , Thompson Creek Metals and TriStar Oil & Gas Ltd . She notes that small cap companies typically lead the market out of recession.
But not all small caps are equally attractive, and value is often found through stock picking in single names. Money managers say that, typically, small caps in the materials, energy, as well as consumer discretionary sectors benefit nicely in a market turnaround.
DOUBTS REMAIN
At the end of July, the BMO index was up just over 30.2 percent, outperforming the S&P/TSX Small Cap Index , which was up 19.7 percent, as well as the broader S&P/TSX composite index , which was ahead 20 percent. The blue chip S&P/TSX 60 Index was up 20.8 percent.
On Friday, the composite index finished at 10,885.33, up 0.9 percent on the week and up 21 percent so far this year.
Andreka Lapchinski, who manages BMO's small cap index, said the small-cap world will likely remain volatile for some time to come as investors struggle to make sense of often contradictory messages about the health of the economy.
Ralph Lindenblatt, lead manager of C$650 million Bissett Small Cap Fund, a brand under the Franklin Templeton Investments umbrella, sees room for hope amid the uncertainty.
"The world is not going to end and business will continue to go on and we are starting to see, at the margin, some signs of improvement," Lindenblatt said.
"Whether or not a recovery will happen in the short term I'm not sure, but the valuations seem to be discounting Armageddon."