«The main reason to invest in mid-caps over the long term is that they tend to outperform their larger peers»

I met Don Fitzgerald, an excellent expert on European mid-cap companies and a very successful fund manager, at the offices of DNCA Finance (an affiliate of Natixis Investment Managers) on Tuesday, 27.06.2023. We had a great conver­sation and I learned a lot of interesting facts about this exciting segment. As the offices are located directly on the world-famous place Vendôme, we decided to enjoy our coffee outside. And as a souvenir I got the cup. Thomas J. Caduff, CEO, Fundplat LLC

• Caduff: Mr. Fitzgerald, the markets are challenging. Economically and politically, many questions are open. How do you assess the situation?

Fitzgerald: Well, the environment is never easy. Today we could be worried about the risks of recession. I would even go further as to say that regardless of whether we enter recession in the near term or not many parts of the economy where demand for goods were pulled forward in the covid period are already flirting with recession. An example here would be the chemicals sector whereas on the other hand many parts of the services economy are still showing robust growth. Regardless of these distortions we have seen time and time again that our companies are able to be agile, adapt to the environment and prove rather resilient. The silver lining however is that we are probably now close to the end of the Central Bank hiking cycle. We’re not saying rates will fall anytime soon but financial markets and equity markets have largely readjusted to the new interest regime. So yes, there are obvious challenges and risks but there is always something to do in financial markets and right now especially in the European mid-cap space.

• Caduff: In uncertain conditions, investors usually tend to invest in large companies. What is the current interest in mid-caps?

Fitzgerald: The main reason to invest in mid-caps over the long term is that they tend to outperform their larger peers. This is largely because they grow a little faster and they are more agile and adaptive than bigger companies. Their managers or anchor shareholders tend to have more skin in the game than larger companies which results in a better alignment of interest and long term value creation. Finally, when larger caps and the cash rich private equity funds look to acquire niche businesses, they need to pay an attractive control premium for small- and mid-caps.

Valuations relative to European large caps are around 20 years lows. Don Fitzgerald

So a great segment in the long term that has been completely left behind. Pure momentum investors might like to try their luck with US technology stocks to play the Artificial Intelligence (AI) theme. However, the patient longer term investors should be considering European small- and mid-caps. Firstly, European equities overall remain out of favour and within European equities the midcap niche is out of favour segment. Valuations relative to European large caps are around 20 years lows, balance sheets remain solid and private equity continue to be active investors in mis-priced public equities.

• Caduff: You have already won numerous awards. What do you do better with your fund than most of your competitors?

Fitzgerald: A lot of the funds in this segment run a very strong style bias towards quality and growth. We also like to own companies of higher-than-average quality with solid growth prospects but more so than many funds we also place a strong emphasis on valuations and like to avoid the most consensual picks. Our fund tends to have more of a blend approach with a mix of steady compounders balanced with companies undergoing a positive corporate transformation or recovery. This approach means we have perhaps more varied drivers to fund performance than others. This portfolio construction helps in terms of overall fund performance but also in terms of regularity of performance, control of volatility and drawdown risk. Also, we are actually aware that we operate in extremely competitive markets, and we are always trying to develop, optimize and improve our investment approach.