International Small Caps Are One Crazy Ride

When done right, they significantly outperform their larger counterparts

Advisory Research Managing Director Jonathan Brodsky focuses on the small-cap international space. Is he crazy, off-balance, a masochist, maybe?

Brodsky responds with a world-weary sigh; he’s obviously gotten the question before, given the extreme volatility small caps have experienced in the past few years (even for small caps), which, combined with all that’s happening in Europe, China and elsewhere, makes for a brave or suicidal play, depending on one’s viewpoint.

“People freak out when they hear ‘small-cap international,’ but it’s something I’m heavily interested in and an area of my expertise,” he said Thursday at the 2012 Morningstar Investment Conference in Chicago. “If it’s done right, Fama and French and many others have proven that the small-cap space, and specifically small-cap value, outperforms their larger counterparts.”

By "area of expertise," Brodsky meant a degree in international relations, a stint at the Securities and Exchange Commission under the reign of William Donaldson and time spent living in China (he speaks Mandarin), so he knows the areas in which he invests.

“I also spent time earlier in my career as a banker in San Francisco,” he added. “I was in the investment business there right as the dot-com bust happened, so I learned about the destruction of value, which was tough. That’s why I’m now so focused on the creation of value.”

Advisory Research is a value-oriented firm committed to finding “attractively priced companies with quality balance sheets,” Brodsky said.

Their international small-cap value strategy focuses on value-oriented companies (obviously) with market capitalizations within the range of the MSCI EAFE Small Cap Value Index at time of purchase. The investment process is “a team-oriented, bottom-up approach that focuses extensively on the balance sheet. Internal research identifies companies selling at an attractive valuation relative to their net asset value with focused and competent senior management teams that are committed to unlocking value.”

The portfolio is diversified across 60-80 holdings, and portfolio turnover generally ranges between 30-40% annually.

The Chicago-based firm has been in the asset management business since 1974, and received the small- to mid-cap value award as the 2009 Separately Managed Account Manager of the Year by Prima Capital and Investment Advisor. It currently manages $9 billion in total assets for wealthy individuals, privately held companies, university endowments, private and public foundations and pension and profit-sharing plans.

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