Don’t try to time the stock market – just do this instead

Questor investment trust bargain: This company’s excellent track record and large discount offers long-term appeal

Timing the stock market is impossible. Certainly, some lucky investors have been known to buy stocks shortly before the start of a rampant bull market. 

Likewise, other investors have, by good fortune, sold their entire portfolio shortly before a major crash. But consistently buying and selling stocks at the perfect moment over a lifetime is not a realistic goal for any investor to have. 

Indeed, Questor should have recommended that readers sell the Montanaro UK Smaller Companies investment trust in September 2021. At that point, its shares were showing a paper profit of 87pc since being tipped as a “buy” in February 2017.

That gain has all but been wiped out in less than two years as investor sentiment towards the UK, and particularly mid and small-cap stocks, has deteriorated. 

The company’s shares now trade just 1pc higher that at the time of our original recommendation, which represents a hugely disappointing return over a period of more than six years.

The trust, though, has an excellent long-term track record. Since it was launched in March 1995, it has generated a total return of 551pc. 

This is significantly better than the performance of its benchmark, the Numis Smaller Companies (excluding investment companies) Index, which has produced a total return of 188pc over the same period. 

And with the company trading at a 12pc discount to net asset value, it offers good value for money on a long-term view.

The company describes itself as a “quality growth” investor. In essence, this means it seeks to buy stocks that are set to benefit from structural growth opportunities. It also equates to purchasing stocks with solid balance sheets, pricing power due to a clear competitive advantage and strong cash flow.

Major holdings include familiar names such as Games Workshop, Diploma and Dechra Pharmaceuticals in what may be best described as a mid and small-cap portfolio. 

In fact, two thirds of the trust’s holdings have market capitalisations in excess of £500m. By way of comparison, the smallest stock in the mid-cap FTSE 250 index currently has a market capitalisation of around £300m.

Since Questor is upbeat about the long-term prospects for both mid and small-cap stocks at a time when they remain decidedly unpopular among investors, it views the trust’s focus on both areas in a positive light.

The company’s holdings are currently biased towards cyclical sectors that have been disproportionately affected by the UK’s economic slowdown. 

For example, the industrials, consumer discretionary and technology sectors account for around 69pc of net assets. 

With the UK economy’s growth rate very likely to dramatically improve over the coming years, as inflation declines and interest rate rises abate, cyclical stocks are set to be the biggest beneficiaries.

Gearing of 10pc will further enhance the trust’s performance in a rising stock market. 

Although share price volatility is likely to be relatively high, especially since mid and small-cap shares are inherently riskier than their large-cap peers, investors who can look beyond short term ups-and-downs are likely to be rewarded in the long run.

Since the trust currently yields 4.5pc, it is a realistic, albeit inconsistent, income investing option. 

It aims to pay out 1pc of net assets per quarter as a dividend. This means that its shareholder payouts will vary markedly as the value of its holdings changes. 

For long-term investors who favour dividend growth over a stable income, the company has significant appeal ahead of a likely rise for the stock market.

When that will take place is impossible to accurately determine. Mid and small-cap UK-listed shares have been cheap for several years, with ongoing interest rate increases and above-target inflation having the potential to hold them back in the short run. 

Conversely, falling inflation, a slowdown in interest rate rises and the UK economy’s widely expected improvement in growth next year could act as positive catalysts on stock prices over the coming months.

As ever, Questor is thoroughly disinterested in short-term performance. Nor does this column seek to time the market. Instead, it aims to unearth investment trusts that have strong track records of performance but which trade at attractive prices. 

With the Montanaro UK Smaller Companies investment trust fulfilling both of these criteria, and small and mid-cap UK stocks having a positive long-term outlook, it remains a worthwhile purchase.

Questor says: buy 

Ticker: MTU 

Share price at close: 99.2p


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