Spheria: Small financials looking frothy

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Marcus Burns, Portfolio Manager at Spheria Asset Management, says there's been two reasons for the recent small-cap outperformance. Firstly, the quality of the companies has improved, while secondly, large companies have been performing poorly. While the outperformance has been welcome, he's beginning to see signs of overvaluation. One area he identifies as looking vulnerable is small financials. "It's quite easy to grow as a financier if you promise attractive interest rates. The problem is, you're relying on other parties to finance your business, typically, it's not just internally generated cashflows. You're relying on banks or high-yield bond markets to raise capital." In recent years we've had very easy credit terms. If credit tightens up, he expects to see a massive contraction of earnings and a crisis of cash flows. In the video below, he discusses whether small cap outperformance will continue and identifies three small financials showing signs of froth.

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