Key Takeaways
- The relative valuation of the UK stock market “is really very compelling” says Liontrust UK equity fund manager Victoria Stevens.
- UK shares trade cheaply compared to other developed markets, and the valuation gap widens further down the market cap scale.
- The UK’s Alternative Investments Market (AIM) has struggled in recent years, but Stevens says there are some strong compounding growth investments for patient long-term investors.
Christian Mayes: I’m here at the Morningstar Investment Conference with Victoria Stevens, who manages UK Equity Funds at Liontrust.
Victoria, welcome.
Victoria Stevens: Thank you so much for having me.
Mayes: You’re here at the conference today to discuss the long-term case for UK equities. It felt like the market came into 2026 with some momentum, with the FTSE 100 at record highs prior to the outbreak of the Iran War. Considering some of the headwinds looming over the economy from the war, how positive are you at the moment?
Stevens: It’s possibly talking my own book, but I am positive on UK equities. Now, I think it is easy to make the case that the UK economy is somewhat challenged and remains somewhat challenged. Clearly, there’s been an impact from the Iran War, which has not been positive for it. There’s been inflationary pressures building yet again. We’ve had the trajectory of interest rates very different for the rest of 2026 than what we’d hoped going into the year. The growth rate has been revised downwards.
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We all know that what’s happened has not been positive for the economy. But I suppose I come back time and time again to the old adage that the UK stock market is not synonymous with the UK economy. So, if we take the FTSE All-Share, about three quarters of the underlying sales from the companies in the FTSE All-Share come from overseas. And even if you take a portfolio like our Liontrust Special Situations Fund, that fund has a substantial tilt towards mid and small cap companies versus that FTSE All-Share benchmark. But even that fund has over 70% of the companies’ underlying sales coming from overseas. So, these are international businesses with growth prospects coming from customers located all around the world. So, I think that is a really, really important point to make at the outset.
And then I suppose my bullishness on the asset class comes from the fact it has been out of favor for so long. Because of course, what that has meant is that we’ve reached a point where the relative valuation of the UK stock market in comparison to other developed markets is really very compelling indeed. And the further we go down the market cap scale, the more compelling it is. The impact of the outflows that the market has seen over recent years has had a disproportionate effect on companies further down the cap scale. And as an investor where inherently of course the starting point of any purchase, the price I pay for an equity is going to fundamentally determine the returns I get from that security, holding it for a long time into the future. That gets me excited about the opportunity that I see within the companies that we look at for the funds today.
How Resilient Are UK Small- and Mid-Cap Stocks?
Mayes: And you mentioned investing down the market cap scale. How resilient are the mid cap and small cap sections, which are traditionally more domestically exposed?
Stevens: Yes, I think it’s really important to think about the fact that for active fund managers in the space, we are stock pickers. So undoubtedly, there are areas of the mid and small cap market, which will feel the pinch from what’s going on from a crimping of domestic demand, low confidence, domestic economy. There will typically be those more consumer cyclical sectors, such as housebuilders, retail travel, leisure and so on and so forth. And I think a very good bellwether for that is always J D Wetherspoon JDW. We don’t hold it in our funds. But it’s had a profit warning in recent weeks, saying how difficult it is not only from the point of view of consumer demand being under pressure, but also because of the cost pressures that the business has experienced.
So, absolutely, I’m not trying to say that there isn’t going to be an impact at all. But our job as active fund managers is to try and pick between them and focus on those companies that we think do have the resilience in the face of that challenge. So, for me and my team, we have a tried and tested investment process that traces its origins back over 28 years to when my boss Anthony Cross first launched our Liontrust UK Smaller Companies Fund. And that investment process in a nutshell looks for companies with strong intangible asset barriers to competition that’s going to give them that enduring barrier to competition and pricing power.
We test that by looking at the companies’ cash flow return on invested capital. We’re looking for high-return businesses. And then within our smaller companies, we look to align ourselves with owner managers of these businesses, those with skin in the game, they hold big stakes in their companies.
And what comes out of all of that is twofold when it comes to your question about resilience. One is that those businesses by the stylistic outputs of what we’re doing at the input level are that of quality. So high returns, pricing power, strong balance sheets. And in that sense, from an operational perspective, these are pretty resilient business models. Our Smaller Companies Fund enjoys returns on capital three times that of the market, much higher margins, and the average company in the fund is in the position of net cash, not net debt. So those are stats that give me confidence that those are businesses with a substantial degree of underlying resilience.
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And the other thing is that it naturally leads us into searching for our companies in certain sectors more frequently than others. So, we tend to not have very much exposure at all to those consumer cyclical sectors. But conversely, we have strong exposure to the areas of the market that typically are enjoying a nice structural tailwind. So, areas like industrial businesses, technology, pharmaceutical companies, and so on and so forth.
Some good examples from the small and midcap cap area of the market might be a company like Renishaw RSW. So, Renishaw makes these high precision measurement probes and positioning coders. And it’s selling those systems and software to businesses all over the world in industries as diverse as machine tool manufacturers to those that are manufacturing the semiconductor manufacturing equipment to aerospace and defense. So typically, a nice broad spread of underlying sector exposure as well. Or it might be a technology business like Alfa Financial Software , which provides software to the asset financing industry. Its chief executive describes it as “heart and lungs” software for its customers. It’s really deeply embedded in what they do day to day. And it’s that type of company that we will be exposed to in our funds, which again, I come back to the dual aspect of the sectoral exposure, but also those quality outputs from the companies as well.
What’s the Future for the Alternative Investment Market?
Mayes: And speaking of smaller companies, Liontrust has historically been a big investor in Alternative Investment Market (AIM) stocks. It’s a market that’s undergoing a lot of change. What do you think the future holds for AIM?
Stevens: Big question. I think it’s important to understand, first of all, what has happened to AIM and why it has underperformed so substantially over the last couple of years. That is for a couple of different reasons. It is a market which has a predominance of higher-growth businesses. Therefore, valuations were impacted quite severely as interest rates rose. And the discount rate expectations of investors were then factored into valuations. So, it came under pressure for the same reason that all growthier businesses did at that time.
It’s also got a tilt strongly down the market cap scale compared to the FTSE SmallCap Index. As I mentioned earlier, typically speaking, the outflow dynamic that the market has experienced has exacerbated the impact for those companies further down the cap scale. So, it’s had that to deal with as well. And then of course, as we all know, there’s also been the very damaging policy uncertainty around the status of the IHT tax exemption that the market has enjoyed.
Without commenting too much on what is being discussed and isn’t in terms of the agenda for the future for AIM, I will say that there is an active agenda afoot to try and revitalize the prospects for the market.
For us as investors, we start with the company. So, in a sense, we’re agnostic as to where it’s listed. What we want to achieve is exposure to the type of company that we like that fits our investment process. But I think we really as an industry mustn’t lose sight of the really valuable role that AIM has played for the smaller growth businesses on our market over so many years. AIM has been in existence for over three decades. And there have been some phenomenal success stories from AIM companies over that time. So, if I think about some of the examples from our portfolios and many of these companies, we might have held either all the way since listing or a substantial amount of that journey because the Liontrust Smaller Companies Fund has been going for 28 years.
So, an example would be Craneware CRW in healthcare software, where it’s been listed for some 19 years and has delivered a total return with dividends reinvested of approximately 1,500% over that period, so an annualized return of around 16%. Or Mortgage Advice Bureau MAB1, which has been listed for about 12 years, has just this month, at the beginning of this month, moved to the main market, but has delivered a return of over 400% in that period, an annualized return equivalent of around 15%. There are other examples, Cohort CHRT, for example, defense technology business, again, been listed for around 20 years, and has delivered a return of 1,300% over that period, so an annualized return equivalent of 14%.
You see where I’m coming from here. We mustn’t lose sight of the fact that there are some great compounding growth investments on AIM for patient long-term investors over the years, and I for one think it would be a crying shame if we lost that really quite unique venue for those growth businesses to raise capital for the future.
Mayes: Well, Victoria, it’s been great to chat. Thanks for coming in.
Stevens: Thank you so much.
