Hermes Investment Management is upbeat about the growth of US small-and mid-cap (Smid) stocks due to the country’s supportive economic policies as well as the solid economic outlook.
Mark Sherlock, head of US equities at the fund house, told Citywire Asia that two of four major economic policies – the reduction of corporate tax rates and the repatriation of overseas dollars -- introduced by the Trump administration, will particularly benefit Smid-cap companies going forward.
‘The Trump administration has proposed that the US corporate tax rate would be reduced from 35% to 15%, I don’t think this will happen, but a possible reduction in corporate tax rate from 35% to 25% is more likely.
‘That change will benefit the economy and companies in general. It will specifically benefit Smid-cap companies,’ said Sherlock, adding that this is because Smid-cap companies are the ones paying a higher tax rate compared to some large-caps.
According to the manager, large-cap international businesses have clever tax structures. They will usually not pay the highest rate of 35% corporate tax, since a part of their money sits outside of the US. Therefore, this part of the money is not taxable within the country.
M&A deals increasing potential
Following this point, Sherlock further explained the repatriation of the overseas US dollar policy. ‘There are between two and three trillion US dollars currently sitting with companies overseas, what will happen when that part of the money comes back?
‘One would expect that a large portion of that money will be invested in capital equipment, new plant machines and perhaps to hire new people; the companies may also buy back their own stocks.
‘But more importantly for those large-cap multinationals, they may go out and spend money on M&A deals. They will buy a number of small but fast-growing businesses to meet their own needs.’
Sherlock said that his strategy involves stocks of around 60 companies, and normally within one year, two or three of the stocks will be bought by a larger company.
'I think should repatriation occur or the money flow back to the US, maybe the two or three businesses in our strategy will be bought, because companies wanted to do something with their money.’
Strong US growth
According to Sherlock, Smid-cap firms have a higher level of exposure to the domestic US economy than large-caps, therefore, a strong US economic environment will benefit the Smid-cap market.
The manager is optimistic about the US economy. ‘If you look at a series of economic indicators, their pickup still remains strong; if you look at the unemployment rate, it is still under 5%; and if you look at some of the wage growth surveys, they are promising.
‘We’ve seen consumer sentiment at a high level; a spike in small businesses sentiment and also the stabilisation or improvement in housing value.
‘Many investors in the US have exposure to the stock market through their retirement or investment plans, and they have participated in the growth of the stock markets in the last few years.'
The manager said that all of these economic indicators have shown that the US economy is in a solid place. ‘We don’t foresee an imminent recession and we think for the next two or three years, the US economy will set a firm tone.’