The FTSE 250 is a great place for me to start when looking for a new investment opportunity. The companies in the index have lower market capitalisations than those on the main FTSE 100 index. Ad they’re sometimes neglected by investors.
The difference in market value is bigger than I expected, with an average FTSE 250 capitalisation of £1.5bn. This is considerably lower than the £20bn average of the FTSE 100. So these relatively smaller companies can produce unique investment opportunities as more prominent investors don’t as heavily monitor them.
Hidden opportunities
This is a key reason why the FTSE 250 is somewhat neglected by large institutional investors compared to the primary market.
As a result, high-quality companies can, at times, trade at levels that don’t reflect their underlying fundamentals. This is especially apparent within the growth sector. The appeal of rapidly growing companies can be volatile. This can really hinder the share price in the short term. How so? Well, a lack of sizeable investors means there’s often nowhere for the share to go but down.
One potential opportunity is AJ Bell (LSE: AJB), a UK-based investment platform. The stock has struggled in the last two years, down 12.5% in 2021 and 9% in 2022. This comes after a solid start to its listed journey, rising almost 80% in 2019 during its first year as a FTSE 250 company. Despite this share price performance, turnover and bottom-line profit have been growing consistently for the last six years. Both of these are at their highest level in the firm’s history after continual increases.
Strong core metrics
When looking at AJ Bell’s figures, I’m very impressed. The company has very high-profit margins and earnings generation on invested capital. Furthermore, debt levels are low, and free cash generation is strong. These core fundamentals are considerably above the index average, primarily due to its business model. Online service providers are able to grow earnings without significant increases in costs, boosting efficiency.
Another encouraging factor is that it’s currently paying a dividend of 2%. That’s also forecast to grow by 4.8% next year, reaching 2.1% in 2023. This dividend has been delivered consistently for the last three years and has grown for the previous two. It’s worth noting that this is quite unusual for a growth company, as additional income is often used to expand the business.
Not exactly cheap
Despite these appealing fundamentals, the company currently has a price-to-earnings (P/E) ratio of 32.2. And this is forecast to reach 32.1 next year. This is still relatively high, given the share price decline over the last two years. Furthermore, turnover and earnings per share (EPS) growth are forecast to rise considerably below the three-year average. This could indicate that the company is reaching its growth peak. And if it can’t continue to gain significantly, it won’t be able to justify its premium P/E ratio.
However, I think that AJ Bell is still an excellent opportunity to buy a high-quality growth company with very strong fundamentals, so this warrants paying a premium. Therefore I’ll be adding the stock to my portfolio soon.
