Why I’m bullish as investors leave ASX small caps

Harley Grosser (0:00)

In the short and medium term, we are extremely bullish on this space, because you want to go into the places where people are running away from. You want to go where capital is scarce, because there's just a higher chance of mispricing of good businesses. We've already found some, and we're out meeting companies at the moment.

Patrick Poke (0:24)

On this episode of the Rules of Investing podcast, I speak with Harley Grosser, co-founder and co-chief investment officer at HD Capital Partners. We discuss why he's bullish on small caps as other investors leave the sector, how he puts capital preservation into practice, and the opportunities he sees in LaserBond and Premium.

Stick around to hear his pick for a five-year investment and why he thinks it could benefit from growing investment in treatments for neurological disorders. My name is Patrick Poke, and this podcast is brought to you by Livewire Markets. Hey, Harley, how are you doing today? Good to be chatting again.

Harley Grosser (1:02)

Good, Pat. Pleasure to be here. Looking forward to it.

Patrick Poke (1:05)

Likewise, like a few of my guests recently, we have spoken before, which it's nice to catch up with a few people after an extended period of time. Coincidentally, we spoke almost exactly five years ago. I've got it as August 2021 So again, just coming out of the worst part of the COVID lockdowns, and I think we were kind of in the post-COVID upswing by that point.

I was having a look back at that interview, and when we spoke, you were kind of mostly invested in micro and even kind of nano caps back then.

I remember you writing about some stocks on the website that were kind of in the like 20, 30, 40 million dollar market cap range and going, hmm, I'm not actually sure we can put that in our newsletter. It might be too small. We might have too much of an impact on the market. But I did notice when having a look at what you're into these days that you've kind of moved a little bit up the market cap, not significantly, but a little bit up that market cap spectrum. I'd be curious to know, you know, what prompted the change and does it tell us anything about kind of the current state of the small cap market in Australia?

Harley Grosser (2:36)

Sure. So yeah, it has been five years. Hopefully, we do the next one in a shorter time than that. Hopefully. Look forward to this discussion. So I think to add some context to that and the shift that we've made, like you're absolutely right that we have made a shift upwards in terms of the size and scale of the businesses that we invest in, we're still very much in small caps, what most people would define as small caps. Some helpful context might be that right at the beginning when we set up the business, we're in our ninth year now, we structured it with an open mandate, which means that we can effectively invest anywhere. We have and always will be smaller company specialists, that's where we think we're good. But how we take advantage of that is very flexible and is up to us to find the best way. So we can and have invested in public and private, in equity, in debt, we've started companies in the fund. We have a private roll up at the moment. It's been a really good journey so far. And so that's just to say that we've always had a rapid mandate, a little bit more broad than what the typical call it small cap manager may have. And we did that because we want to be able to move to wherever the best opportunities are. That's just some context on what we've done.

One little thing that I think is worth pointing out, and this is just how our industry classifies or categorizes listed companies, is we go nano cap, micro cap, small cap, mid cap, and we use market cap as the metric to define them. I think that's kind of flawed in a way. I know why we do it and it simplifies things, but it's kind of flawed. It's not the way that we think about it. In an extreme example, the ideal investment for us, and I'm sure for many listeners, would be a very big, large, profitable business that gets so cheap, it is now classified by market cap as a micro cap. That's the dream, you want to buy them as small and as cheap as possible, but we want these days more substantial, profitable businesses while still being in that small cap space. So if you look at what we own today, most of the fund by weight is in companies that are 20, 30 million dollar EBIT companies, if not a little bit more. They're still classified as small caps by almost everyone else in the market using that traditional way to define it.