SBH Investment Summit
Fourth Quarter 2023:
Small Cap Growth

Finding Innovation in Small Cap Growth Amid Volatility

Given recent volatility and pullbacks in the market, SBH is finding attractive opportunities in innovative areas. Brian Fitzsimons, CFA, Director of Small Cap Growth Strategies, provides insights on navigating technology and Federal Reserve (Fed) impacts, and finding dislocations around artificial intelligence (AI).

 

Key Takeaways

  • We see long-term potential in AI and believe it will be a force driving efficiency and real disruption but will be selective with our investments given ongoing challenges.
  • Although technology companies are asset light and should benefit from rate relief in the event of an economic slowdown, financials face pressures like slowing loan growth, higher costs, and emerging credit concerns that could be the new normal.
  • Regardless of market volatility, we are finding opportunities in innovative areas like AI and GLP-1 medication and are focused on fundamentally stable growth companies that can perform over a full market cycle.

[Alexis Cann Ford] Let’s start with how you are navigating the ongoing volatility in the Technology sector and what role you believe AI plays in shaping its future going forward.

[Brian Fitzsimons]  I appreciate you taking the time to talk about small cap growth and the exciting things going on in the market. When it comes to AI, it has been a bright spot in what has otherwise been a particularly weak backdrop for most small cap Technology sector stocks. Enterprise information technology (IT) budgets have faced intense scrutiny. In addition, supply chain distortions from building up significant inventories post pandemic are now running into a weak demand environment. Short-term headwinds have been a driver for increased interest for us in the sector, given our long-term investment approach. We believe that good products and services are not permanently impaired despite the near-term headwinds.

We have been underweight the space for a while on fundamental concerns but have been looking to increase exposure given incremental improvement in valuations and fundamental opportunities that we see emerging. Our exposure to semiconductors has been particularly helpful in 2023, given AI-related long-term benefits, and we are starting to see a recovery in certain IT service companies. For the portfolio, we do not want to bet against the long-term success of AI, as we believe it will be a force on the market driving efficiency, creating real disruption, but we need to be selective in the process.

[Cann Ford] Another challenge for the Technology sector has been the rate hiking campaign by the Fed. The Fed has raised rates by more than 5% since March of last year, bringing rates to their highest levels in 22 years in a short amount of time. How has this impacted various sectors in the market, particularly the Technology and Financial sectors?

[Fitzsimons] 2022 was a year of interest rate moves that really impacted valuations for growth stocks. We believe we are mainly through the brunt of this impact, and now the rate questions really relate more to the longer-term impact to companies that need capital to grow or have capital refinancing needs with existing balance sheet situations. When it comes to Technology and Financial sectors specifically, for Technology, most companies are typically asset light and do not require a significant amount of growth capital. If we do see an economic slowdown followed by rate relief, Technology should be an area of outperformance given that valuation benefit around rates.

When it comes to the Financial sector, there is a lot going on there. We are ahead of a potentially meaningful slowdown in loan activity on both the commercial and personal category side, given higher rates. It is also impacting larger consumer purchases that require financing. As we go through this digestion phase, we believe regional banks and aggregates are facing a fair number of pressures on multiple fronts, including slowing growth, higher deposit costs, and funding costs overall, and now emerging credit concerns. There is a lot going on in the Financial sector around interest rates.

[Cann Ford] With those concerns you just mentioned around future growth, as well as both the future growth in the U.S. and globally, how are these factors informing your decisions around the positioning of the strategy to be able to withstand these headwinds? And lastly, are you still finding attractive opportunities within the small cap growth space?

[Fitzsimons] We absolutely continue to find attractive opportunities in multiple sectors, especially given the recent volatility and pullbacks in the market—dislocations around things like AI, the recent introduction of the discussions around GLP-1 medications and other ongoing innovations when it comes specifically to small cap growth. We are focused on finding investment opportunities in fundamentally stable growth companies, meaning they have the ability to generate more consistent growth in cashflow per share over time. And we believe this approach provides support in periods like you are referencing here around recessions and macro uncertainty, given the greater exposure to idiosyncratic investment opportunities within companies and the company-specific drivers that are not just tied to the overall economic growth. We are trying to find companies that we think can sustain over a full market cycle.

 

 

Additional Resources:

Small Cap Growth Strategy

Domestic Equities Insights

 

The opinions expressed in this video are solely the opinions of Segall Bryant & Hamill or an unaffiliated third party. You should not treat any opinion in this video as specific inducement to make a particular investment or follow a particular strategy, but only as an expression of opinions. The opinions expressed in this video are based upon information considered reliable, but completeness or accuracy is not warranted, and it should not be relied upon as such. Market conditions are subject to change at any time, and no forecast can be guaranteed. Any and all information perceived from this video does not constitute financial, legal, tax, or other professional advice and is not intended as a substitute for consultation with a qualified professional. The opinions and statements are subject to change without notice and Segall Bryant & Hamill is not obligated to update or correct any information in this video. For illustrative purposes only.

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