Do you see a dislocation in prospects between US small caps and the rest of the world?

Well, we have seen some quite dramatic performance divergence by the regional small cap markets so far in 2025. We entered the year, where it was all about US exceptionalism, and people were talking about Europe being tariffed into extinction. Here we are, only a few months later, and European and Japanese markets have starkly outperformed US markets in the small cap space.

Where do we go from here? Well, that’s quite difficult to gauge. I would say that economic growth prospects in Europe look some of the strongest we have seen for really quite some time. But I also think that we are going to see a pivot from the US administration, where hopefully we see a number of trade deals announced over the course of the next couple of months, and a greater focus on fiscal expansion. The so-called ‘Big Beautiful Bill’ being sworn into law in the early part of July – hopefully, the boost to growth that we see come from that – but also a big deregulation drive over in the US. So essentially the growth policy elements within the MAGA (Make America Great Again) agenda should hopefully see sentiment towards the US actually improve from its weak starting point so far in 2025.

So, I don’t have a strong view of one region over another, but I could make a strong argument for small cap over large cap within each region.

Do investors get a lot of AI exposure in small caps?

This is a question that I get a lot, in fact. The simple answer is, look, in small cap, you are not going to get the same AI exposure as what you get in large cap. And what do I mean by that? We don’t have ‘hyperscalers’ in the small cap space, competing with your Google, Microsoft, Metas of this world. But I do think that AI is going to have a disproportionately positive impact within the small cap space. And it really comes with the idea of the productivity gains that come with AI.

And if you think about the areas of the market that are going to benefit most from that, it is those companies that have a larger portion of their costs in labour. Disproportionately large employers of the workforce, and if you look at the small cap versus the large cap market, it is very clearly in the small cap area of the market that we should see those productivity gains.

Also within small caps, because of the size of these companies, quite often we are seeing them being able to integrate AI into their processes actually much sooner than some of the larger companies. And when I look at the [small cap] universe and I look at the stocks we can invest in, I see retailers integrating AI into their online platform, giving you a personal shopper experience. I see AI being used to fill in insurance forms for US doctors to speed up that process, again, involved the small cap market. Again, there I see European-based market research companies using AI to generate strong banks of data to help inform their retailer and consumer end markets and clients there. So I see AI being used all the time within the small cap space, and ultimately the productivity gains I think will be felt the most within the small cap area of the market.

Is there still a valuation case for small caps?

I think there is. If you look at the small cap valuation right now, just in terms of forward PE, if you look back through its history, it is trading on just above 16x forward price-to-earnings. So that is roughly in line with its historical average. So, I would say that is not a bad entry point. It is not dirt cheap, but, you know, it certainly wouldn’t be deemed as expensive. And at a time where I believe we are going to see an acceleration in underlying growth, it should play out in terms of higher earnings growth, I think there is great opportunity for upside there.

Where it gets particularly interesting, I think, still, you know, we have mentioned this a number of times over the last few years; small caps are trading on a meaningful discount versus their large-cap peers. Despite us being in a rate-cutting cycle. And I think if we continue to see rates come down, and it looks like we are going to get more doveish sentiment and maybe a more doveish Chair of the Fed (US Federal Reserve) coming in next year (2026), I think that valuation discount versus large cap will come under the microscope a little bit more, and there is a good chance we see that gap narrow.