Investment Clubs

[ November 2, 1999 ]

Smallcap or Not Smallcap, That Is the Question!

By Mark Goodson (TMFFatBlokeMarge)

In the first Investment Club article, I wrote briefly about the factors that made me want to start an Investment Club in the first place. This part will concentrate on the investment performance and strategy thus far for H&G and the Brass Monkey Investment Clubs.

As soon as H&G had accumulated enough money to make its first investments, we had a discussion on Investment Policy (bear in mind this was January 1995, long before the Motley Fool UK was born). Because we were all novices, we decided on a "safety first" ploy, with the majority of the funds going into blue chips, and the remainder into smallcaps. No-one at that stage had any ideas as to how long we may be investing for, and to be honest we had adopted the attitude that the money we invested would be lost forever! Granada (LSE: GAA) and Marks & Sparks (LSE: MKS) were the first blue chip investments, and the remaining third of the fund went into a speculative company called Hobson (I think they were in the food production and distribution business).

Now history will tell that we actually did pretty well on all those 3 investments, but they were not exactly the most exciting shares in the world at that time. Other shares were leaping up and down like frenzied salmon, whereas ours were comparitively plodding along at a snail's pace (in fact they weren't, but they seemed to be). The members had been bitten by the stock market bug! They were hooked, and volatility was the buzzword. We wanted excitement, we wanted to see huge price movements (preferably in an upwards direction). Please also bear in mind that the whole market was very bullish at that time, and it seemed pretty simple to make money in the stock market -- all one had to do was buy some shares! The company in which the money was invested appeared to be immaterial.

Well, two-and-a-bit years passed, and Brass Monkey was started with a full complement of 20 members, each coughing up a £500 joining fee. H&G was showing about 50% gains and most of these had been fostered by investing in small companies. Brass Monkey consequently adopted a 100% speculative investment policy and the whole £10,000 was blown across 5 small companies. Then, BANG! Smallcaps hit a bit of a downturn. It didn't hurt H&G too much, as there were 2 years' worth of gains already built in the prices, but for Brass Monkey it was a disaster. Seriously, this happened in month 1, and in the first 4 months of Brass Monkey's life, over 35% was wiped off the unit value (and bear in mind that the fund was being increased by £500 worth of subs every month!). But it recovered, and after 1 year Brass Monkey was showing a 10% gain, and H&G had doubled the fund -- in 3.5 years! A tremendous performance! And all through following an aggressive 100% smallcap investment policy. Who said anything about the market being risky?

Now the danger here is that when times are good, you really do forget that shares prices can go down as well as up. BANG! Collapse number 2, in the summer of 1998, when smallcap prices generally dropped through the floor. Then, as if to add insult to injury, BANG! BANG! Another collapse in October 1998. The result of this was that Brass Monkey was back to losing about 40% and nearly all of H&G's gains were eliminated. Ouch!

Some of the companies have recovered, some haven't. But both clubs this year have switched some funds into blue chips, such as Tesco (LSE: TSCO), National Power (LSE: NPR), Powergen (LSE: PWG) and Lloyds TSB (LSE: LLOY). The theory here is that even if there is a top 100 crash, these companies will recover quicker than smallcaps because of their increased liquidity. Smallcaps, and more speculative investments generally, are highly suitable for Investment Clubs because any risks are shared between the members, but there has to be some stability in the portfolio. Individuals wouldn't place 100% of their portfolio in companies like Dodgy Mining Resources, or loseyourshirt.com, and it follows that there is no reason clubs should either. It becomes too disheartening for members when prices fall, and you don't want members crying into their beer on a monthly basis, do you? Far better in the long run to adopt a Foolish approach, and sacrifice a little of the risk for a potentiallly more solid portfolio that isn't going to give the treasurer palpitations on valuation day.

Readers of the previous aricle will know that I plan to start a new club every 2.5 years, with a club maturing every 5 years (H&G excluded -- that will run for the long term in the background). At the time of writing the second 5-year club, called "The Dirty Harry Investment Club", has just held its inaugural meeting. I'll comment on how that went in the next article, together with mentioning how to go about choosing bankers and a stockbroker for your club.

Until then, Fool On!

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