Transcript
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Speaker: Welcome back to Vantage. Small cap actually was a great performing asset class in the first half of 2026. I am delighted to talk to a prominent UK small cap investor. And if you haven't seen his video, it's on the Edison website. Delighted to have Richard Stavely of Rockwood Strategic back with us. And we're going to build on that video from here. So for investors who are less familiar with Rockwood Strategic, Maybe you could just briefly introduce yourself, the trust and what you're trying to do and how you go about doing it.
Speaker: Sure, and great to be back, Neil. Thanks very much for having me. Pleasure. um So Rockwood Strategic is a main market listed investment trust. We're now nearly 200 million in size. We have a concentrated approach, about 25 holdings, and we're focused on the smallest stocks in the UK stock market. So the majority majority of our stocks purchased will be under 250 million pounds in terms of valuation. That's much lower than the average UK smaller companies fund.
Speaker: I've been running it since late 2019 and before that i'd actually run UK small companies portfolios for many years, and nearly 20 years and before that I was a chartered ah charted accountant. and I run the fund from Harwood Capital which is a hybrid family office with a range of other strategies like private equity, private credit, property and and debt.
Speaker: Okay, and um you you started mentioning some of the differentiation between you and some of the others. So there's around 19 AIC, UK smaller companies um funds out there and when you when you look at it.
Speaker: I'd love to understand how you think you're different. What makes you genuinely differentiated in just another ah another fund manager trying to play the smaller companies effect?
Speaker: Sure. So there are there are a number of key factors here. Just in out of interest, I looked yesterday and we're now the eighth largest of the 19 funds. And I just mention it because some of people in the first instance of what was getting going would have gone, we're a bit too small for for them. But now we're now we're right up there with the other with the big boys in terms of size.
Speaker: um In terms of differentiation, there are some critical aspects. Firstly, the concentration piece. So 25 holdings, but the top 10 are the majority of the capital of fund. So we're really focused into best ideas rather than a broad spread of um of ah of investments.
Speaker: The second thing is our value and recovery bias, and that's the style of our investing. So most, the majority those 19 funds are kind of quality growth biased, which is what most people instinctively think of in terms of UK smaller companies. But as a style of investing, recovery investing works across the market cap, and we find that in small companies, there are lots of opportunities when things aren't going very well yeah and the shares get very depressed that there's opportunities for change ah typically either operational strategic or management changes needed to unlock the shareholder value and that's what interests us rather than sort of finding a sort of multi-year growth company that that that sort of things that is definitely different
Speaker: The third piece, which is very important, is ah we are um active. So we're not activist, although on occasion it does get to the sort of heated levels that people would associate with the headlines some people put out in the in the newspapers. But we're kind of constructively engaged with the companies that we have. So we take stakes. In fact, of the 25 holdings, 18 of them, we have over 5% of the company's shares. Meaning we could call an EGM if they didn't listen to us and we thought we were talking cents and other shareholders would be supportive of the changes we were were suggesting. And 13 of the 25 holdings we've actually proposed board members onto to or even have our own board position. yeah That is real differentiation. There's no other fund in the market like it. Now, there are ah four funds doing more active approaches out of the 19, but the vast majority are all less engaged, broader portfolios that approach. The final piece, which I think is probably the most critical for any, I would say, well, for minute for many types of investors, is that most of those funds will be benchmarked against one of the indices in UK small cap. Typically, the Deutsche Numis index, which is the bottom 10% of the market, does that couple with the FTSE small, but it's mainly Deutsche Numis.
Speaker: We are focused on absolute returns, making money specifically, not relative returns, and we're paid and and our fees are based based off that. That mentality means that we look for every stock that I want to buy for Rockwood, or we're looking to buy for Rockwood. isn't a member of an index that I'm tracking or worrying about the performance. and It basically needs to be something that can go up at least 100%. So we have an investment thesis that it literally needs to be based on our recovery expectations for profits, our moving to fair value, there is 100% And the final piece around that is we lean into the investment trust ah sort of benefits, meaning we've got long term capital. yeah And we say 100% sounds like a a lot for a share to go up, but not if you say it takes three to five years. And so many investors are worried about the shorter term timeframes for them for them being judged over. And we just say to only anyone looking at Rockwood, look, judge us over rolling five-year periods. That's how we invest. But over those periods, we're trying to look for stocks that can go up by 100%, and we'll let the index or the markets do do what they do. That should be enough for everybody. Yeah, that that translates roughly to sort of 15% IRR over five years, right? That's correct. Which is eminently achievable if you've OK, so um you can't have missed it.
Speaker: yeah UK Small Cap, happy hunting ground for acquirers, take privates, trade bids. um You know, it's been in the headlines, not just in the first last six months, but probably the last two, three years.
Speaker: What's it telling you about the sort of valuation gap? and Does it make you excited about the opportunity? And in particular, what does it mean when you're running concentrated portfolios? Sure. So there's a number of things there to to to unpick, I guess. The the first is is that what you've got is other types of investors or I it's just think even more importantly, people in the real world running real businesses yeah saying our stocks are mispriced. yeah They're saying the valuations are low, that they're good businesses, that there's opportunity to own the future returns from those businesses. And they're prepared to pay a lovely little premium to to yuki to what the stock market is saying. Now, as you say, it's been quite surprising because this has gone on now for two or three years. Literally this morning when this is being recorded, we had a bid for Mighty. yeah which has been around for my entire career. Literally 30 years, Mighty has been on the stock market. And we had Rotor last week, Gucchin House so lot last week, it it goes on. But it seems to, that evidence to me, which says externally unbiased people are saying these stocks are super cheap and great opportunities, the kind of asset allocation industry and the wealth management industry isn't reacting by increasing their allocations. So the backdrop has been flows out of UKs and yeah UK small caps for consistently for months on end. So I mean, literally months on end. I think it's 47 months of of money coming out.
Speaker: That, what does that mean? That means that um we we know it's validated externally and we know there's the opportunity. For our specific strategy, there's two two aspects to it.
Speaker: you know The fact it's concentrated means if we get that control premium, so if a bid comes in and we get a 30%, which is the average, I think it's actually ticking up in the last couple of years, so maybe up to 35%, the average control premium paid to own the whole company. We'll get that into the n NAV growth of Rockwood, and that's probably accelerating what we think we'd have got eventually from from the stock market. um It does give us liquidity, and as I mentioned at the start, this is a kind of a liquid strategy. We're taking illiquid stakes to try and create and spot value value. But bids coming left, right and center means there's liquidity from that part of the market. So we don't have to fully rely on the stock market. Now, we are getting liquidity from the stock market. So companies like Galliford Tri recently, or one of our best winners of company called Filtronic, we've sold to other fund managers rather than get a bid. of But that's going on.
Speaker: Now, there are ah the royal sum just to finish off, this feels a bit long-winded, Neil, but just ah I think it's a relevant point, is that um a lot of the fund managers that have much more diversified funds, obviously all these bids without any IPOs, it's shrinking the the pool. yeah And the universe is contracting. And I can state clearly and honestly at the moment it's not a problem for Rockwood. It might eventually be. But because we only have 25 holdings, we're looking on average to buy to four stocks a year. Can we find four stocks a year with the 600 stocks under $250 million on AIM? There's another 200 and odd on the main market under AIM. It's not a problem. but for So in terms of other strategies, it might be slightly different picture.
Speaker: So I'd love to actually understand the process as well. can you Can you talk us through how you actually go about finding great quality businesses, or potentially great quality businesses, because some of these might need fixing, but at great valuations, and what are the attributes of an ideal investee company for you? um The process is is pretty simple. um we have the The funnel has two parts to it. Firstly, we quantitatively screen yeah using our computer systems for quantitative characteristics that we know ah have a high preponderance for being the types of investments we want to make. They're relatively simple. There's only a handful of them. But the the value in doing it is that the machines are completely unbiased. they They force you to look at stocks that you might naturally not feel you want to look at. But they're saying, no, Richard, on these factors that you said are important to you, go and have a proper look. So we do that systematically. And alongside that, because I've been doing this a long time and also because
Speaker: face it, Harwood also have a very significant network, both of us do. So we have a significant network and the network, people often, stockbrokers or even more regularly company management teams, you know where they've moved on, or indeed ah actual other fund managers will come to us and say, you know we know this is the sort of thing you're looking for. And that's an in, that's an inorg that's a sort of organic, kind of unstructured way, but that's also, we have to be truthful, that's that also happens too.
Speaker: once what we're looking What we're looking for then, our initial due diligence will involve, it's mainly fundamental. We are are integrating AI into definitely the sourcing of fundamental information. I can't tell you exactly what mechanisms we're using because it's competitive advantage, we think, at the moment. But that's speeded up our process of kind of filtering out the next the next stage. But we will after our due diligence, we then will we then and um I have an investment advisory group. yeah So it's not a committee. It's a group of individuals who collectively add up to 200 years of investing experience. They're all fund managers. They've all done it in the UK.
Speaker: And they're great guys. They've got their own networks. they've got and And they've got their own experiences with various stocks. And they see the research that I write at that point as full of...
Speaker: usual typos, unfilled out paragraphs, but the the the main bones are there. yeah yeah yeah And then they will say, you know, oh, that's a bit, um that risk you put as the fifth risk, Richard, that yeahp that's that's the most important risk. You should really prioritise that. Or one of them might go, oh, i know I know Jeff. He's on the board there. I'll make an introduction to Jeff. He'll he'll he'll be a sympathetic ear to change if we're trying to change things or or indeed, you know, it might be, I know that finance director, he's blimmin' useless. That'll be the source of the problems, Richard. So we'll do that. I'll then take that advice on board because I trust them and I think that they, you know, they're great guys. and then integrate it into the research and then decide later on whether to go for the investment or or not. We typically buy 2% to 4% in the first instance and then we're trying to move it up to 5% to 10% plus and then we'll run our winners. that's So that's the kind of process. One thing I'd just point out, because we've got less stocks, we've got a lot more time for monitoring. So the engagement piece and the monitoring piece are much more intensive than a lot of fund managers tend to do after after they've bought a stock. Often they only meet the companies once a year or or maybe maybe twice.
Speaker: What are we looking for? What we're looking for is depressed share price, yeah depressed profitability yeah slash returns. So return on equity or return on capital low, low but low margins and depressed valuation.
Speaker: Those are the key three characteristics, which are the source of alpha. And then we're mean revisionists. So what we want to do is we want to look at did this company used to make decent returns, not necessarily the one the highest quality ones that certain fund managers would say, we only buy brilliant companies like this, but good returns and fine returns, but used to be at this level of returns.
Speaker: And then they're now making low level returns. And then we want to say, right, we then need to do diligence. Is there an opportunity to mean revert those profitability or returns back to where they they were?
Speaker: Normally, when your when your returns have gone through a period of decline like that, the market kind of gives up on you. They don't believe in the future. They extrapolate what's been happening and they also put a low valuation on. So our valuation work will be on what did it used to be valued on when it was performing fine? What are its peer what are the peers that are doing a good job valued on? What are the transactions happening? And we look at that, those those sorts of factors.
Speaker: Often then we find, as I mentioned at start, we we need we see that change is needed to get to turn to turn the turn the ship round. it might be the disposal of division, pivoting of strategy, it might mean need new management or a sharper board more focused on sharehold shareholder value. And um in relation to that, we'll engage with the with all the stakeholders about um that that change that's that's needed um And we'll run it through. We establish you know what the target a recovered returns will be, what the target recovery valuation will be, due diligence that, and then buy for the three the three to five year. Okay. Give us an example of an engagement where you know you think it's led to a material better outcome for shareholders as a result of you know your recommendations or suggestions. Sure. um there's
Speaker: there's a I think if there's a great example we we can talk about in a moment. But before I do that, what I would say, and it sounds odd, it feels like I've been doing this in age, but it's own' I've been running the fun for like six six years. yeah There are obviously, there are a number of things that we've done in quite a few of the holdings in the in the last two to three years where it's definitely too early to see what we expect those changes to have done. yeah So hopefully when we come back again in a year or two's time we'll go this and that. But just to be honest, in terms of the maturity of the profile, we've done quite a lot at a range of companies where the fruits of those changes, it's it's unrealistic have expected them to manifest themselves yet.
Speaker: But a great example of one where it has would be Funding Circle. yeah So Funding Circle, two and a half years ago when we first purchased it, it might actually be three three now. It ah it had listed at 1.5 billion by Goldman Sachs led the led the IPO of that. And three years ago, it was valued at 125 million pounds market cap Even though the like the most recent results we looked at when we started looking at it stated they have 250 million of cash. yeah So quite a lot of cash. Now obviously the market was saying you know or and implying
Speaker: that they were going to burn through all the cash. Although this is where at this part of the market down in the weeds of 100, 200 million market cap, it wasn't really implying it. It was just felt it just the momentum had just carried on and on. And they weren't really doing the work at all because actually the funding circle was getting much closer to profitability than it had been at the at the IPO. um Now they were sitting on all this cash and they were saying quite openly, we don't need it all, it's sort of excess, we've got more cash than we need for our business plans. So I thought, well well surely um buying back shares would be just a natural thing. So I went to speak speak to the board, to the advisors and importantly to other um shareholders, institutional shareholders, household names, who and they said, you know, we've we've said they should do that but they don't think it's, and you know, we don't think it's going to. I said, well well, let's just do this with a bit more earnest. well we'll We'll lead the charge. So we led the charge and we said, look, you need to start buying back your shares.
Speaker: Secondly, the world's changed. and of Running loss-making businesses, which was fine interest rates were zero when you listed, you know isn't fine any anymore. So we need to accelerate the move to profitability. And I haven't really seen proper cost-cutting approach from you guys. you know I think you need to step up and do and do a bit of that. plus I think that at that point, i may I may be called out on this for the the nerds, but I think there were literally 10, was something like 10 board members. We were at 125 million market cap. They were still sort of thinking here and actually we were here. and And guess what? It didn't need to get, it was all constructive. The penny dropped and subsequent as we'd bought, by then we'd bought three and a half percent of the company.
Speaker: they They initiated their initial buyback. They've since done two more. They're still in the process of doing one. They then went on to the finance director, did change. The board's been sharpened up, evolved and got smaller. They announced a cost-cutting programme to take 15 million pounds out of the profit out of the cost base and as a result, gone into profits a year early than they expected, which was taken well by the market. And all shareholders, including all those stakeholders we spoke to before, have now benefited. I think the shares are now up. I think it's been a five-bagger now yeah relative to where we first bought. And still, and this is where we're running our winner. We think Funding Circle, by the way, for those that are thinking, oh, we've missed it or should have bought three years ago, it's fine. We think Funding Circle is going to be a billion-pound company again. So lots of upside still.
Speaker: Yeah, great. um And like that mean that there is this concern that there is, you know, smaller companies, is there's a liquidity trap there, right? um so Because, you you know, outside of bid interest coming in, you just might stay there for a very long time. You've articulated some of the ways that you can effect that change, you know, go in, talk to the companies, start doing things which are constructive.
Speaker: It would be nice if we got some external help to to put the the wind back in the sails. And we have been talking about reform in the market. Now, I don't want this to be any kind of political statement. yeah But and let's focus it in terms of in the ideal world, what are the changes that we might hope to see?
Speaker: from a policy level, a government level, that you think might make a difference to this to not just the smaller but companies market, but the UK market as a whole?
Speaker: Sure. um and In terms of intro to that, I think it's important to compartmentalize the issue in the way I think about this. The first is the reason why small caps haven't been performing overall is because of the flows.
Speaker: yeah so So the flows have to change, all the other stuff, but if the if the other stuff doesn't happen and the flows did stay as they are, it's still not going to work. okay So it has to translate into moving positive flows rather than positive out.
Speaker: And it's I think it's worth saying that in 2026, as we do this now, um you know, the House of Commons pension fund has 1.2% in yeah uk equities. The average pension fund, we understand, is at 3.5% UK equities. The MSCI weight is 4. So the the process of pension funds and large pools of capital selling all the euro equities is over. and That's behind us yeah So all we need now is people to start buying to stop selling. Now, there is a bit more still to come out of wealth managers if they just just lazily copy what happened in the pension fund industry.
Speaker: But actually, we're already, even with wealth managers, below the levels that other countries have in terms of exposure to their domestic stock market. So there's no reason why they have to go all the way like the the pension pension funds have.
Speaker: The second thing is the is interest rates. And interest rates, I think, are the primary driver, not government, to getting the small cap outperforming large and and getting getting flows. And interest rates were starting to fall before Iran. um And indeed, all the data would suggest, I think most people can see, that the economy is sort of spluttering a bit.
Speaker: And probably 3.75 feels still a bit too high for this economy. And they could be cutting a bit more. So those should come and that will be quite positive. But to to to turn the the situation around on a sustainable basis, you're absolutely right. I think we do need some help from government. So there are three aspects to it.
Speaker: The first is ah British ISAs, afforded by the taxpayer. we get we We allow people not to pay tax that they should pay, which they pay on corporate on on capital gains tax, by having things sheltered in their ISA.
Speaker: Afforded by us, you could just go, you've got to invest in UK-listed stocks and UK-listed funds, which obviously would be like Rockwood, but I don't mind. if it just be that would be key if you could to decide what they want. That would be number number one. um I think the second piece is about ah the large pools of capital which are sort of one step away from government. And I think Labour actually get this. So they've talked quite a lot about local government schemes, quasi-public schemes. And I find it, um um you know, ah find it it's very difficult to argue against that local authorities
Speaker: shouldn't invest the money like in the in the like in the local ah in the yeah UK economy, in UK shares. Interestingly, for those that are ah watching Rockwood very closely, a very significant local authority pension fund has just become an over 3% shareholder of Rockwood. okay So we think some of the more enlightened local authorities are getting ahead of maybe the sort of stick maybe that might be coming and saying, well, actually, well, we you know, we can see the opportunity here. Let's let's invest more in the UK.
Speaker: Now, the one i'm going to be the most controversial about, I'm afraid, is is stamp duty, which there are a big portion of the market think is absolutely critical to really rehabilitating the the market, but for an investor who buys and then holds for five years and then sells, it's not really a big deal for me. I can see why elements, but if we, and overall liquidity would help the market, so I can see why it would be a positive thing, but it's not something that I'm i'm you know i'm particularly fu fussed about. um I think from the government overall, and I guess I think probably everyone in the country, whether you're interested in markets or not, knows this is what we want. We just want a bit of continuity and a bit of stability. yeah And, you know, please, can we just have that? And that would probably be all you need domestically for people to start thinking, well, actually, UK small caps, now there's a bit more stability, bit more continuity, interest rates falling, the nudge is there.
Speaker: Let's look at those UK allocations and maybe start to question those huge allocations to very expensive ah US technology stocks. Yeah, yeah extraordinary yeah that you can buy SpaceX. the the The risk appetite is there. If you can buy SpaceX and and the UK, certainly there is something there.
Speaker: And I ask the question because once one of the things that stood out on the Rockwood video that I mentioned at beginning is you know you invest in British companies, you know you want Britain to do well, you're a British fund manager and it really sort of came through that this is there's a drive there. Okay.
Speaker: Well, I'll just add one point on this, Neil, that i just to put in, for those that really want the stark contrast of the two the true opportunities from a valuation perspective, for some say, well, valuation doesn't matter. the good Good for them, that's not how it, but for those who that think it might matter or think that there might be a point where it matters more, you know there are now i think it's 20% of the S&P are on 10 times sales. Rockwood's portfolio is on less than one time sales. One time sales. It's just a huge gap now between America and UK small cap.
Speaker: Yeah. um But great. So look, I mean, if if you had some key messages for viewers of this to take away, what would they be? if If you wanted people to know about Rockwood, what would be the two or three things that you want them to sort of remember?
Speaker: We're differentiated. yeah And we're not making that up because you can see that our performance profile, for those that have looked at it, is differentiated over the last few years.
Speaker: I think secondly that the market is depressed and on its knees and we've delivered those returns despite it being difficult. We could be in for an interesting ride if things become a bit a bit easier. And I think thirdly, you know we are stock picking fund that care deeply and passionately about British stocks and British investments and stock picking and turnarounds, recovery situations. I think those are the three key things.
Speaker: Richard, as always, huge pleasure to have you on the show. Thank you very much. Thank you very much, Neil.
