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What causes market corrections – and are we due for one now?

• Trump’s policy uncertainty, particularly around tariffs, has soured investor sentiment and helped unwind 2024’s market themes including the Magnificent 7
• Small and growth stocks underperformed in February, which our Global Funds offset by getting earnings calls right in the recent reporting season
• With the S&P 500 down -9% (at writing from highs) investors are fretting about whether this is a correction or the start of a bear market
• We examine the history of corrections and find 3 major causes that can help investors define the likely severity of a sell-off
• We also explore which sectors and factors provide investment safe havens for investors during sharp corrections
• Despite the recent sell-off, we find there is some evidence to suggest this ‘correction’ could be short and shallow, providing investors with a window of opportunity

After January’s rally, global share markets (with the notable exception of European and Chinese share markets) took a step back in February, a dynamic that continued into March at writing.

Despite a generally solid February Q4 reporting season out of the U.S., markets are starting to get fed up with the new Trump Administration’s policy uncertainty.

Tariffs remain front and centre here with everyone still guessing about their ultimate motivation and extent. Are they to stem illegal immigration and fentanyl? To raise U.S. government revenue to pay for tax cuts? Are they just on Canada, Mexico and China? What is the tariff rate? When do they take effect? The possibilities go on and on!

When these questions go unanswered, or are changed or delayed daily or weekly, companies and consumers unsurprisingly respond by reducing their activity until uncertainty is resolved.

The changing political and policy uncertainty has soured investor sentiment and helped turn many of the market themes from 2024 on their head in 2025.  Last year’s outperformance of the Mag7, U.S. share market, and momentum and growth factors have now given way to European, value and defensive stock leadership.

Small cap underperformance has continued, though, with the Russell 2000 down over -5% in February, only edged out by the Japanese share market (Nikkei) as the worst performers in the month.

February 2025 Ophir Fund Performance

Before we jump into the Letter, we’ve provided a detailed monthly update for each of the Ophir Funds below.

The Ophir Opportunities Fund returned +1.3% net of fees in February, outperforming its benchmark which returned -2.8%, and has delivered investors +23.0% p.a. post fees since inception (August 2012).

Ophir Opportunities Fund Factsheet

The Ophir High Conviction Fund (ASX:OPH) investment portfolio returned -2.5% net of fees in February, outperforming its benchmark which returned -3.7%, and has delivered investors +13.7% p.a. post fees since inception (August 2015). ASX:OPH provided a total return of +5.6% for the month.

Ophir High Conviction Fund Factsheet

The Ophir Global Opportunities Fund (Class A) returned -1.9% net of fees in February, in line with its benchmark which returned -1.9%, and has delivered investors +17.4% p.a. post fees since inception (October 2018).

Ophir Global Opportunities Fund (Class A) Factsheet

The Ophir Global Opportunities Fund (Class B) returned +0.2% net of fees in February, underperforming its benchmark which returned +0.4%.

Ophir Global Opportunities Fund (Class B) Factsheet

The Ophir Global High Conviction Fund (Class A) returned -2.3% net of fees in February, underperforming its benchmark which returned -1.9%, and has delivered investors +13.1% p.a. post fees since inception (September 2020).

Ophir Global High Conviction (Class A) Fund Factsheet

The Ophir Global High Conviction Fund (Class B) returned -2.2% net of fees in February, underperforming its benchmark which returned -1.9%, and has delivered investors +25.1% p.a. post fees since inception (June 2023).

Ophir Global High Conviction (Class B) Fund Factsheet

Asset Returns – February 2025

Source: JP Morgan

Despite the Ophir team having a great Q4 reporting season, with our Global Funds in February getting our earnings calls right, it didn’t really show up on the scoreboard for the month, with both funds down around -2%, similar to our benchmark.

As a small cap growth-orientated investor this was because, within our SMID (small/mid) cap benchmark, mid-caps outperformed small caps, and value stocks outperformed growth stocks during the month.

Source: Bloomberg. Data as of 28 February 2025.

Those stocks with price momentum – which we typically have some exposure to as we’re looking for those companies doing well and outperforming the market’s growth expectations – were sold off hard, too, in February.

While this might have seen us ‘swimming upstream’ during the month, as we’ve stated many times before: if you get the earnings right – which we did during the reporting season –the share price performance will ultimately look after itself long term.

A history of U.S. drawdowns

With the S&P 500 down just over -8% from its all-time high in February, many investors are asking whether this is a correction (a >10% fall), or is there a bear market (a >20% fall) around the corner for the U.S.? And given the U.S.’s dominance, a bear market for global shares?

As we show below for the S&P 500 (since the mid 1960s) and the Russell 2000 (since the late 1970s), there have been plenty of falls greater than -10% and -20%, with even the odd fall of more than -30% or -40%. The only fall greater than -50% during this period was the gut-wrenching GFC.

Source: Ophir. Bloomberg.

Many of the biggest drawdowns (peak-to-trough falls) were associated with U.S. recessions, including those in the early and mid 70s, the ‘81/82 recession, the ‘90/91 recession, the Dot.com Bubble with its early 2000s recession, and of course the 2008/09 GFC, as well as the brief Covid-19 recession in 2020.

The benefits of understanding corrections

Why care about understanding market corrections in the first place?

One obvious answer is: knowing what tends to cause corrections might help you avoid them. But, despite thousands of studies and books trying, it is very difficult, or perhaps even impossible, to identify corrections ahead of time with sufficient accuracy to be useful.

While you may not be able to time a correction by going into or out of cash, if you understand what causes corrections you can identify when you are in the ‘danger zone’; where a correction is more probable. You then may be able to mitigate some of the fall by skewing your portfolio to companies with stronger fundamentals and less risk.

Knowing what caused a correction can also help you can understand what will likely stabilise it and trigger a market rebound.

The three causes of corrections

In the table below our friends at Piper Sandler have categorised every U.S. share market correction greater than -10% going back to 1964. There have been 27 of them! Or about one every 2.2 years.  (Get used to them long term investors!)

Source: Piper Sandler.

As you can see, most of the deepest falls are associated with recessions. The 1987 Crash, and the 2022 fall courtesy of the rapid hiking of interest rates by the U.S. Fed, are key exceptions.

Importantly, most corrections are driven overwhelmingly by valuations (price to earnings ratios) shrinking as risk aversion increases, rather than corporate earnings falling off a cliff.

Each correction can be grouped into three main causes:

1. High interest rates
2. Higher unemployment
3. Exogenous global shocks (such as the Asian Financial Crisis or Euro Debt Crisis)

Of course some of these can overlap and have other intertwined causes, but there is usually one of these three causes that stands out as the major reason the correction starts and ends.

History shows that not all correction causes are created equal

The most important insight history tells us is that the cause of the correction will go a long way to explaining how deep and long it is.

The six charts below are great ones to commit to any investor’s memory bank.

S&P 500 Drawdowns Peak to Trough

S&P 500 Drawdowns Duration (Weeks)

Source: Piper Sandler.

They tell us that:

1. Higher rates have historically caused, and lower rates ended, the most corrections (52% of them), followed by higher unemployment (30%) and global shocks (18%). However, since inflation targeting was introduced in the U.S. in the 1990s, inflation and hence interest rates have been less volatile and caused fewer market corrections.
2. Those corrections associated with job losses should be the most feared because they typically see the largest falls (-36% on average) and last the longest. This is probably because they are the most likely to see corporate earnings fall the most, alongside valuation falls.
3. Those corrections based on exogenous global shocks tend to be the ‘best’, with similar average falls to those caused by higher rates (around -16%), but global shock corrections tend to be shorter lived.

While rising interest rates or unemployment might indicate a correction is ahead, getting the timing right is always difficult because markets are forward looking and the correction may begin when market participants EXPECT rates or unemployment to increase, before they actually do. It can still be useful though to understand the cause, because when rates or unemployment stabilise that can signal that the correction may be coming to an end, with a rebound to follow.

Almost by their very definition, exogenous global shocks are unpredictable, but at least their resolution can provide some guidance on what the market needs to see before it recovers.

How different sectors perform in corrections

Perhaps the most useful part of this history lesson is understanding which parts of the market do better when staying invested during a market correction. (And staying invested will be the best outcome for most investors.)

Here the evidence is pretty clear, though not infallible. First, at a sector level, during a market correction the sectors that tend to perform better provide more stable, reliable and defensive revenue and earnings.

Which ones are they?

Typically, Real Estate, Health Care, Consumer Staples and Utilities.

Each has, on average, outperformed the U.S. share market as a whole during the 15 market corrections that we have data for going back to 1990.

Each also has an 80% or better ‘Hit Rate’ – that is, they have outperformed the market in at least 4 out of every 5 corrections.

What do these sectors have in common?

Their revenues and earnings tends to fluctuate less, generally because consumers don’t cut spending on them easily (everyone has to pay their utilities, grocery or doctors bills). They can therefore provide something that is prized in market uncertainty: more certain returns to their shareholders.

Source: Piper Sandler.

The type of stocks (‘factors’) that outperform in sell-offs

But investment ‘factors’ are better guideposts for investing during corrections than Sectors. (Factors is just a fancy investment term for common characteristics of different stocks.)

So, what are the best and worst factors during market corrections?

Source: Piper Sandler.

The table above shows that during corrections there are a few types of stocks that tend to underperform:

• Those with more volatile share prices compared to the market (so called higher Beta)
• Those with volatile revenues; and
• Smaller stocks.

By contrast, stocks with higher-quality cash flows, less debt and less volatile prices outperform.

It’s perhaps unsurprising that when markets are falling a lot, investors favour those businesses they can be more certain of their fundamentals and their share prices.

Important Point: While smaller companies tend to fall more during market corrections, the key exception to this in the table above is the 2000 to 2002 Dot.com-related market falls, where smaller companies significantly outperformed. This period shares some similarities to today where U.S. small caps have been the cheapest compared to large caps since the Dot.com Bubble. This was a key reason 25 years ago U.S. small caps fell less – they started from much cheaper valuations.

Where does that leave us today?

With the U.S. share market on the precipice of a correction (>-10% fall), it seems U.S. tariffs are the most likely cause of the drop and would fall in the ‘global exogenous shock’ bucket.

Neither interest rates nor unemployment has moved higher in the last few weeks to cause the sell-off. In fact, the most recent move in both short and long-term interest rates in the U.S. has been down.

It remains a risk, though, as tariffs are inflationary. So, it can’t yet be ruled out that the Fed may need to reverse course and hike rates as a result.

The U.S. unemployment rate has been moving up from its low in 2023, but this isn’t a new occurrence, and it is still near multi-decade lows.

If history is any guide this is good news because, as we’ve seen, exogenous shocks tend to see smaller market falls that recover more quickly.

Investors need to watch, however, that tariffs and policy uncertainty in general in the U.S. don’t morph into something more sinister like a recession, which would see job losses and a likely further fall in the share market. For now, though, this doesn’t seem the most likely outcome as the typical recession precursors like rising interest rates and lax credit conditions are absent.

We don’t even know if the U.S. share market will enter a correction at this stage.

At Ophir, we always remain bottom-up stock pickers first and foremost.

This is ultimately where our ‘edge’ lays, and what has driven the vast majority of our outperformance over the long term. Though from a portfolio management perspective we are not ignoring the lessons of history about what sectors and factors tend to do well during share market sell-offs.

We see this as just part and parcel of prudent management of ours, and our investors’ capital.

As always, thank you for entrusting your capital with us.

Kindest regards,

Andrew Mitchell & Steven Ng

Co-Founders & Senior Portfolio Managers

Ophir Asset Management

This document is issued by Ophir Asset Management Pty Ltd (ABN 88 156 146 717, AFSL 420 082) (Ophir) in relation to the Ophir Opportunities Fund, the Ophir High Conviction Fund and the Ophir Global Opportunities Fund (the Funds). Ophir is the trustee and investment manager for the Ophir Opportunities Fund. The Trust Company (RE Services) Limited ABN 45 003 278 831 AFSL 235150 (Perpetual) is the responsible entity of, and Ophir is the investment manager for, the Ophir Global Opportunities Fund and the Ophir High Conviction Fund. Ophir is authorised to provide financial services to wholesale clients only (as defined under s761G or s761GA of the Corporations Act 2001 (Cth)). This information is intended only for wholesale clients and must not be forwarded or otherwise made available to anyone who is not a wholesale client. Only investors who are wholesale clients may invest in the Ophir Opportunities Fund. The information provided in this document is general information only and does not constitute investment or other advice. The information is not intended to provide financial product advice to any person. No aspect of this information takes into account the objectives, financial situation or needs of any person. Before making an investment decision, you should read the offer document and (if appropriate) seek professional advice to determine whether the investment is suitable for you. The content of this document does not constitute an offer or solicitation to subscribe for units in the Funds. Ophir makes no representations or warranties, express or implied, as to the accuracy or completeness of the information it provides, or that it should be relied upon and to the maximum extent permitted by law, neither Ophir nor its directors, employees or agents accept any liability for any inaccurate, incomplete or omitted information of any kind or any losses caused by using this information. This information is current as at the date specified and is subject to change. An investment may achieve a lower than expected return and investors risk losing some or all of their principal investment.  Ophir does not guarantee repayment of capital or any particular rate of return from the Funds. Past performance is no indication of future performance. Any investment decision in connection with the Funds should only be made based on the information contained in the relevant Information Memorandum or Product Disclosure Statement.

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Have you been wondering why there are so many more delayed flights since COVID? It’s because manufacturers are struggling to clear production backlogs, so planes are getting older.

We started thinking about who could benefit from this dynamic and it led us to our recent investment: Chicago based Aerospace and Defence company, AAR Corp (NYSE: AIR).

The aviation supply chain crisis

We have closely followed the global aviation supply chain for several years, and we have owned various companies from the sector during this period. However, we recently started digging deeper into the space following the persistent disruptions to both aircraft and engine production.

Manufacturers, most notably Boeing & Airbus, have struggled with supply chain bottlenecks, labour shortages and material constraints, all of which has led to delays in new aircraft deliveries and spare parts.

Airlines and operators have been forced to extend the life of their existing fleets. That has increased demand for maintenance, repair, and overhaul (MRO) services, as well as driven a surge in the used and surplus parts market.

Source: Company Reports, KeyBanc Capital Markets Inc.

All of this comes as the global commercial fleet already has an average aircraft age of ~15 years vs retirement age of ~23 years.  At the same time, we will likely see sustained growth in global passenger miles for the foreseeable future.

Source: IATA, Airline Monitor, KeyBanc Capital Markets Inc.

On the hunt for who could benefit

Given this backdrop, we asked: which small-cap companies could benefit from this dynamic over the medium-long term? We met with a multitude of players in the ecosystem, including:

• Parts distributors/MRO (maintenance, repair and overhaul) operators like VSE Corp (NASDAQ: VSEC);
• Original Equipment Manufacturer (OEM) suppliers like Woodward (NASDAQ: WWD), recently listed Loar (NYSE: LOAR) and Montana Aerospace (SWX: AERO); and
• Aircraft/engine lessors like Willis Lease Finance Corp (NASDAQ: WLFC).

We even flew to Montreal to meet CAE (TSE: CAE), the global leader in simulation-based training for aviation.

But we found one stock that stood out – AAR Corp (NYSE:AIR).

AAR gave us by far the cheapest and least-discovered exposure in the sector.

That naturally warranted a deeper dive. So, we contacted the company for a meeting and got on the next flight to Chicago.

At the time of our meeting, thousands of investors were downtown for the industrial sector’s Baird Industrial Conference – only 25 miles away – missing what we believed to be the main attraction! (As serial entrepreneur and PayPal co-founder Peter Thiel famously said, “the most contrarian thing of all is not to oppose the crowd, but to think for yourself.”)

Digging a little deeper into AAR

AAR Corp is an independent provider of aviation services to commercial and government customers worldwide.

The company purchases, sells, and leases new and used commercial jet aircrafts. It also leases a variety of new, overhauled, and repaired engines and engine products for the aviation aftermarket.

Operations are categorised across three core segments:

• Parts Supply
• Repair & Engineering; and
• Integrated Solutions

(Expeditionary Services is a largely immaterial legacy segment).

Business Segment Overview

Source: AAR Corp

AAR differentiates itself from its larger OEM competitors, by offering independent aftermarket solutions. This enables airlines, MRO’s, and military operators to reduce costs and improve supply chain efficiency.

What we’re most excited about

The secular tailwinds supporting growth in both parts supply and MRO activities is attractive. However, we are most excited about the potential for AAR to double market share in parts distribution.

AAR is the largest independent supplier/distributor of factory new parts, with approximately 10% market share. AAR look to partner with OEM suppliers on an exclusive basis to sell their product into the aftermarket (the market for replacement parts and accessories) – that is, they effectively act as a sales force extension for OEM suppliers, allowing the OEM suppliers to leverage AAR’s global sales network and relationships.

Satair (Airbus subsidiary) and Aviall (Boeing subsidiary) are the two largest competitors in this market with an estimated combined market share of 40-50%.

However, OEM suppliers and airline/MRO customers are increasingly partnering with independents like AAR because they offer greater pricing flexibility, better aftermarket reach, and faster inventory turnover.

Our recent channel checks suggest this dynamic is still in its infancy.

Over the next 3-5 years, we believe AAR can more than double their market share, significantly outgrowing the aftermarket industry.

Parts Supply: Distribution

Source: AAR Corp

Used Serviceable Market recovery provides a nice hedge

The USM division focuses on sourcing, repairing, and reselling used aircraft components, primarily engine materials. Instead of purchasing directly from OEM’s, AAR procures parts from lessors, airlines, and MRO’s, often from retired or surplus aircraft.

These parts are then inspected, repaired, and recertified before being resold into the aftermarket, providing a cost-effective alternative to new OEM parts.

This model is particularly attractive due to strong demand for engine materials amid supply constraints from OEM’s, making USM a high-margin and growing segment of AAR’s business.

Given the supply chain issues noted above, USM has been subdued primarily due to lower-than-expected aircraft retirements, which limits the supply of used parts.

If new aircraft deliveries accelerate and airlines phase out older fleets, we expect the USM business to recover, which often comes at higher margins. This provides a natural hedge to the business should we see any slowdown in aftermarket/MRO activity.

A win-win scenario

Having mapped out the whole ecosystem, we believe AAR offers the best return profile across the widest variety of industry outcomes.

Its USM business will benefit if aircraft production rates normalise and more planes are retired and stripped for their parts. But AAR will gain share in parts distribution.

Most other companies only win if one outcome is true.

Source: Ophir, Bloomberg.

As seen in the chart above, AAR has been delivering sound earnings growth with a largely unchanged multiple since September 2021.

We expect top-line growth combined with operating leverage to drive ~20%+ EPS CAGR over the next three years.

This will aid in deleveraging the balance sheet from the current 3.2x net debt to EBITDA level with management targeting 2.0x “two years after the recent Triumph acquisition”.

This will likely drive a multiple re-rating, with AAR currently trading on ~14x our next twelve-month EPS versus the closest peers VSEC on ~24x.

So next time your flight is delayed, it’s probably because the aging plane needs a new part, and AAR could be the one to provide it.

Learn more about the Ophir Global Opportunities Fund and Ophir Global High Conviction Fund today.

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Idea Bonanza!

• In another good month for equity markets, January saw all of the Ophir funds outperform, with gains of at least +4% each, driven by good early Q4 earnings results for our Global Funds.
• The Mag-7 took a back seat in performance during the month, and many investors are asking whether DeepSeek’s AI has turned their once-powerful moats into mere puddles.
• Investors are focused on what could spark small-cap outperformance, but they should also be judging small caps on their superior reward-to-risk ratio relative to large caps which, in our opinion, should deliver outperformance over the next 5 years.
• While small-cap performance has been hampered by sluggish earnings growth, there are promising signs this could be about to change.
• In January we made the trek to the Needham Growth Conference in New York, leaving with a record number of fantastic ideas which should serve to significantly strengthen our portfolio.

At Ophir, we have notification alerts set up on our phones with many of the major news outlets including The Australian Financial Review, The Australian, The Wall Street Journal, The New York Times, Bloomberg News …  the list goes on.

This year it has felt like almost every time a notification has popped up, in the headline has been the word ‘Trump’ or ‘Musk’. We don’t expect that to change much over the next four years. We just have to get used to it.

For investors, though, it helps to remember that, over the long run, almost the only thing that matters for a company’s share price is its earnings.

Not tariffs, interest rates, inflation, immigration policy, DOGE spending cuts, how many ‘illegal aliens’ are getting deported this week from the U.S., or whether a new ‘Riveria’ is being created in the Middle East.

Of course, some of these things will matter for some companies’ share prices, but mostly in the short term.

At a portfolio level, over the longer term, politics and government policy runs a distant second (or third or fourth) behind the idiosyncratic drivers of a company’s earnings.

Overwhelmingly, the things that have always mattered the most in investing will continue, such as:

• The size of a company’s addressable market
• The value the company offers its customers compared to its selling price
• Its ability to scale cost effectively
• The size of any moats that protect it from competition
• The strength of its balance sheet
• Its bargaining power with suppliers, and
• The gap between current and assessed value of the business

It’s easy to forget this when the volume of Trump or Musk articles goes stratospheric.

January 2025 Ophir Fund Performance

Before we dive further into the Letter, we’ve provided a detailed monthly update for each of the Ophir Funds below.

The Ophir Opportunities Fund returned +5.2% net of fees in January, outperforming its benchmark which returned +4.6%, and has delivered investors +23.0% p.a. post fees since inception (August 2012).

🡣 Ophir Opportunities Fund Factsheet

The Ophir High Conviction Fund (ASX:OPH) investment portfolio returned +6.6% net of fees in January, outperforming its benchmark which returned +5.1%, and has delivered investors +14.1% p.a. post fees since inception (August 2015). ASX:OPH provided a total return of +2.0% for the month.

🡣 Ophir High Conviction Fund Factsheet

The Ophir Global Opportunities Fund returned +5.1% net of fees in January, outperforming its benchmark which returned +3.1%, and has delivered investors +18.0% p.a. post fees since inception (October 2018).

🡣 Ophir Global Opportunities Fund Factsheet

The Ophir Global High Conviction Fund (Class A) returned +4.5% net of fees in January, outperforming its benchmark which returned +3.1%, and has delivered investors +13.9% p.a. post fees since inception (September 2020).

🡣 Ophir Global High Conviction (Class A) Fund Factsheet

The Ophir Global High Conviction Fund (Class B) returned +4.3% net of fees in January, outperforming its benchmark which returned +3.1%, and has delivered investors +28.1% p.a. post fees since inception (June 2023).

🡣 Ophir Global High Conviction (Class B) Fund Factsheet

The Mag-7 finally takes a backseat

Putting aside some of the noise, it was a good month for equity markets overall in January, and for the Ophir Funds.

Each of the Ophir Funds were up +4% or more, and all outperformed for the month.  A pleasing result, particularly for the Ophir Global Funds where the performance was driven by good Q4 earnings results for some of our stocks.

After a muddle through the first half of January, major equity indices put on solid, to- in some cases great, returns in the second half of the month.

What was most interesting was that U.S. exceptionalism and Magnificent-7 led outperformance over the last couple of years, took a back seat.

While the S&P 500 was up +2.7%, the Mag-7 actually underperformed, rising just +2.5%. The equal weighted S&P 500 (where all 500 stocks get a 0.2% weight) rose +3.4%, which highlights that smaller large caps did better than the behemoths.

The perennially underperforming European equity market (Euro Stoxx 50) put on a whopping +8.0% – eclipsing that index’s all-time high from way back in the year 2000!

It also reverses, albeit for just a month, a little of the 25-year underperformance of the European versus the U.S. share market.

­­The question for investors is whether this the start of a rotation in leadership for this current bull market in shares that started back in October of 2022?

Space Race redux

Undoubtedly the big news in January that put a chink in the armour of some of the Mag-7, and particularly U.S. chipmaker Nvidia, was Chinese firm DeepSeek.

We won’t go into the details here because it’s been thoroughly covered by the press. But many were calling it a ‘Sputnik’ moment for the U.S. – that is, the U.S. might not be as far ahead in the AI ‘arms race’ as previously thought. This had echoes of the USSR’s 1957 launch of Sputnik, the first earth-orbiting satellite, a development which shocked Americans and helped trigger the space race between the U.S. and Russia.

This raises several questions:

• Is DeepSeek’s R1 – China’s new open sourced ‘reasoning’ AI large language model (LLM) – close in performance to the best U.S. models like Open AI’s ChatGPT? It appears so.
• Is it significantly cheaper to build and train than the best U.S. models? That’s what is being claimed, with some saying R1 was built for only 5% of the cost of U.S. models, though others argue that figure is understated.
• And has DeepSeek made some significant advances in software architecture that helped provide great performance at low cost? It seems the answer here too is yes, with U.S. competitors acknowledging the smarts behind DeepSeek’s code.

What is undeniable, though, is the meltdown that Nvidia’s share price suffered. After the DeepSeek announcement on the 27^th January, Nvidia fell -17.0%, wiping out US$593 billion in market cap from the then-largest listed company in the world.

To put that in perspective, below are the 30 largest listed companies in the U.S. below $US500 billion in value at the time.

Source: Jefferies.

So, in other words, Nvidia’s market cap loss was the equivalent of McDonalds and Coca Cola being wiped from the face of the earth. (New Secretary of Health and Human Services RFK Jr has assured us he’s not taking away McDonald’s, one of Trump favourite foods!)

Source: X (Donald Trump Jr)

Moats or puddles?

All eyes during the recent U.S. reporting season were on the big capex plans of the hyperscalers, such as Meta, Google and Microsoft. Given DeepSeek’s seemingly cut-price AI LLM build job, investors wanted to know the hyperscalers weren’t wasting that big capex spend.

Investors have given them the benefit of the doubt for now.

As Microsoft CEO, Satya Nadella, said: “Jevons Paradox strikes again! As AI gets more efficient and accessible, we will see its use skyrocket, turning it into a commodity we just can’t get enough of.”

The logic of the ‘Jevons Paradox’ is that a lower cost to produce = lower cost to consumers = higher demand from consumers as AI is built into all sorts of products.

But while the news from DeepSeek seems good for consumers and demand for AI applications more generally, the question now is whether the ‘moats’ for Meta, Google, Microsoft, and Co, are now more like shallow puddles in AI – that is, easier to be attacked by smaller upstarts?

What could spark small-cap outperformance?

Speaking of smaller upstarts, as small-cap investors, probably the most frequent question we get asked is: “We get small-cap valuations are very cheap versus large caps globally, but what might be the catalyst for small-cap outperformance?”

It’s an excellent question.

While small-cap valuations are very cheap globally versus large caps – and particularly in the U.S. where they really haven’t been this cheap in 25 years – small caps, in our opinion, will likely outperform large over the next 5-10 years.

It’s trickier to identify when that outperformance may start.

Firstly, we’d say don’t try pick the start. It’s better to focus on the fact that ultra-cheap relative valuations provide an asymmetric return payoff in small versus large caps. That is, should mean reversion in valuations occur like it has historically, small caps have more limited relative downside (it’s hard for them to get much cheaper in a relative sense) but much larger upside than large caps. This is why we are personally putting more money into our Ophir Global Funds now.

Earnings growth set to broaden out to small caps

One thing that’s likely been holding back small-cap outperformance is that for much of the last two years aggregate earnings of U.S. small caps (which make up almost 2/3’s of the global small cap market) have been stagnant. (Side Note: this is not the case for our Ophir Global Funds where through stock picking we have continued to be able to find companies growing earnings significantly).

This stagnant aggregate U.S. small cap earnings can be seen in the chart below with the yellow line of U.S. small cap earnings-per-share growth moving sideways, whilst mid, large and mega-cap earnings have grown.

Source: Bloomberg, Ophir

Why?

The Fed’s rate rise cycle has basically caused a bifurcated U.S. economy. Large caps earnings have been boosted by very strong Mag-7 earnings. But small caps, which hold disproportionately shorter-term floating-rate debt, have suffered under the weight of higher interest costs.

This may be about to change though.

Interest rates, not just in the U.S., but globally, are now being cut (yellow line below). That should lead to a cyclical upswing in the U.S. economy – as measured by the Institute of Supply Management’s New Orders Index – a key leading index of manufacturing activity in the U.S. (red line below).

Source: Piper Sandler

Historically, as seen in the below chart, upswings in manufacturing activity have tended to see a broadening out of earnings growth in corporate America.

Never before have we seen more than two years in a row of flat or negative aggregate earnings growth across U.S. small caps. So there is some hope that 2025 represents a return to growth and leads to further liquidity flowing into and supporting the cheap small-cap valuations.

Source: Piper Sandler

Big conference conversion

In last month’s Letter to Investors (read here) we spoke about how the election of Donald Trump has given a shot in the arm to U.S. small business optimism.

Over November and December, the NFIB Small Business Optimism Index jumped the most in any two-month period in the Index’s 50-year history!

The percentage of small business owners expecting the U.S. economy to improve in the next year also recently reached near record levels.

With this background we were very excited to head one of our favourite small-cap conferences globally in January, the Needham Growth Conference in New York.

Over a few days, we had 28 one-on-one company meetings.

Normally at conferences like this we would have 2 or 3 high-quality ideas that result in 1 or 2 investments.

This year we had 9 ideas! And we think 4 or 5 investments might come from it.

High grading the portfolio

Small-cap businesses are definitely more bullish heading into the New Year, with a new market and US-economy-friendly administration in place, and major central banks cutting rates (ex the Bank of Japan who is doing its own thing!).

On one hand our cautious nature has the team asking: have we lowered our threshold for great ideas?

But for us (Andrew and Steven), who have seen this movie before, our muscle memory would tell us it’s more likely that, overall, the businesses we have seen are indeed more confident that they can grow earnings faster than last year and faster than the market expects.

This is great news for our Global Funds because it keeps pressure on the portfolios and increases the quality of ideas.

If we do have 5 new stocks come into the Global Funds, the threshold for getting in usually means they are at least an average weight stock of say 3-4%.

This in turn means the bottom 5 get pushed out, and the strength of the overall companies in the portfolios gets high graded.

That is exactly what we want. New year, new ideas and high pressure for only the best companies to remain in our Funds.

As always, thank you for entrusting your capital with us.

Kindest regards,

Andrew Mitchell & Steven Ng

Co-Founders & Senior Portfolio Managers

Ophir Asset Management

This document is issued by Ophir Asset Management Pty Ltd (ABN 88 156 146 717, AFSL 420 082) (Ophir) in relation to the Ophir Opportunities Fund, the Ophir High Conviction Fund and the Ophir Global Opportunities Fund (the Funds). Ophir is the trustee and investment manager for the Ophir Opportunities Fund. The Trust Company (RE Services) Limited ABN 45 003 278 831 AFSL 235150 (Perpetual) is the responsible entity of, and Ophir is the investment manager for, the Ophir Global Opportunities Fund and the Ophir High Conviction Fund. Ophir is authorised to provide financial services to wholesale clients only (as defined under s761G or s761GA of the Corporations Act 2001 (Cth)). This information is intended only for wholesale clients and must not be forwarded or otherwise made available to anyone who is not a wholesale client. Only investors who are wholesale clients may invest in the Ophir Opportunities Fund. The information provided in this document is general information only and does not constitute investment or other advice. The information is not intended to provide financial product advice to any person. No aspect of this information takes into account the objectives, financial situation or needs of any person. Before making an investment decision, you should read the offer document and (if appropriate) seek professional advice to determine whether the investment is suitable for you. The content of this document does not constitute an offer or solicitation to subscribe for units in the Funds. Ophir makes no representations or warranties, express or implied, as to the accuracy or completeness of the information it provides, or that it should be relied upon and to the maximum extent permitted by law, neither Ophir nor its directors, employees or agents accept any liability for any inaccurate, incomplete or omitted information of any kind or any losses caused by using this information. This information is current as at the date specified and is subject to change. An investment may achieve a lower than expected return and investors risk losing some or all of their principal investment.  Ophir does not guarantee repayment of capital or any particular rate of return from the Funds. Past performance is no indication of future performance. Any investment decision in connection with the Funds should only be made based on the information contained in the relevant Information Memorandum or Product Disclosure Statement.

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Ho Ho Ho… Hum

• 2024 saw the fifth best year in the U.S. share market in the last quarter century, led by large caps, with material underperformance (albeit still positive) for small caps
• Last year all Ophir Funds delivered strong outperformance and met their long-term investment objectives
• We’re particularly pleased that our outperformance in 2024 was driven by our investment process, which focuses on stock selection, rather than other investing “factors”
• The outlook for further U.S. interest rate cuts may be diminishing, but there is renewed optimism in small businesses and a continuing strong U.S. economy should finally deliver the anticipated earnings growth (and share price performance) of small caps

We hope Santa delivered what you wanted under the tree because he didn’t deliver what investors were hoping for – a Santa share market rally in December.

Perhaps it was too much to ask for after November’s generally stellar gains across the major bourses.

The cause of December’s weakness?

The most obvious was the U.S. Federal Reserve. Despite cutting rates by 0.25% during the month, the Fed signalled there may not be many more cuts (with a non-zero chance of no more cuts!) in 2025.

Most share markets fell in December, with the S&P 500, Russell 2000, MSCI Europe and MSCI Australia Indices down -2.4%, -8.3%, -0.5% and -3.1% respectively (local total returns).

Fortunately for unhedged investors, including those in our Global Funds, much of the fall in the U.S. share market was offset by a falling Australian Dollar, which helped protect returns when converted to the domestic currency.

But, overall, 2024 was still a great year for the global share market. Though, admittedly, this was mostly because U.S. large caps had such a stellar year … again!

The S&P 500 ended up +25.7% (total return) in 2024 – the 5^th best calendar year return in the last 25 years. You know what beat it out for 4^th spot? 2023 – with a return of +26.8%.

And when you consider 2019 (+31.3%) and 2021 (+30.6%) hold first and second place over the last quarter century, it’s hard to escape the conclusion that being invested in the biggest companies from the biggest economy in the world has been a great place to be recently.

Share markets rose in 2024 because of several factors:

1. U.S. macro risks, like recession, high inflation and employment worries, generally fell;
2. The Fed started cutting interest rates;
3. Trump was elected, raising economic and market hopes; and
4. The AI train rolled on, boosting the Magnificent 7’s earnings and share prices.

December 2024 Ophir Fund Performance

Before we jump into the Letter, we’ve provided a detailed monthly update for each of the Ophir Funds below.

The Ophir Opportunities Fund returned -2.5% net of fees in December, outperforming its benchmark which returned -3.1%, and has delivered investors +22.7% p.a. post fees since inception (August 2012).

🡣 Ophir Opportunities Fund Factsheet

The Ophir High Conviction Fund (ASX:OPH) investment portfolio returned -5.4% net of fees in December, underperforming its benchmark which returned -3.4%, and has delivered investors +13.5% p.a. post fees since inception (August 2015). ASX:OPH provided a total return of +0.0% for the month.

🡣 Ophir High Conviction Fund Factsheet

The Ophir Global Opportunities Fund returned -0.9% net of fees in December, in-line with its benchmark which returned -0.9%, and has delivered investors +17.4% p.a. post fees since inception (October 2018).

🡣 Ophir Global Opportunities Fund Factsheet

The Ophir Global High Conviction Fund (Class A) returned -1.3% net of fees in December, underperforming its benchmark which returned -0.9%, and has delivered investors +13.0% p.a. post fees since inception (September 2020).

🡣 Ophir Global High Conviction (Class A) Fund Factsheet

The Ophir Global High Conviction Fund (Class B) returned -1.2% net of fees in December, underperforming its benchmark which returned -0.9%, and has delivered investors +26.3% p.a. post fees since inception (June 2023).

🡣 Ophir Global High Conviction (Class B) Fund Factsheet

Small cap struggle

Last year small caps continued to underperform large caps, and nowhere was this more evident than in the U.S.

In fact, in 2024, U.S. small caps (Russell 2000) lagged large caps (S&P 500) by +13.3% – the most since 1998.

A good chunk of this came in December just gone, where the almost 6% underperformance delivered the 5^th worst monthly underperformance by U.S. small caps to U.S. large caps this century.

Longer term, as seen in the chart below, U.S. small caps have now underperformed for four years in a row.

Source: Ophir, Bloomberg. Calendar year returns are provided for the S&P 500 (US Large Caps) minus the Russell 2000 (US Small Caps) from 1980 to 2024.

But Ophir Funds provided great returns and outperformance in 2024

Whilst one-year returns are too short a period to get overly excited about, we are happy that, despite the small-cap underperformance, the Ophir Funds provided returns between +21% to +45% over 2024:

• Starting off with our Ophir Opportunities Fund. Despite operating for more than 12 years now, we’ve been able to continue with the good results, returning +42.8% last year.
• Not as strong but still a great outcome, our Ophir High Conviction Fund provided an investment portfolio return of +21.2%. But based on its ASX listed price, it returned an even higher +26.7%, as its discount to Net Asset Value shrank over the year.

Ophir Australian Funds – Performance to 31 December 2024

• Turning to our Global Funds, given their high level of stock overlap, they provided very similar returns at +45.1% and +44.7% each for the Global Opportunities Fund and Global High Conviction Fund.

Ophir Global Funds – Performance to 31 December 2024

Source: Ophir. Bloomberg. Data as of 31 December 2024.

These numbers mean that the Ophir funds even outperformed the Australian and global large cap Indices in 2024.

While we would never want investors to extrapolate those sorts of one-year numbers into perpetuity, or think we are going to repeat them year in and year out, they have comfortably met our long-term goal of 5% outperformance versus our market benchmarks, and the 15% absolute return per annum we target over the long term.

It was stock picking that drove Ophir’s 2024 outperformance

So what drove the outperformance in the Ophir funds last year?

As we highlighted in our Investment Strategy Note last month (link) it has continued to be stock picking.

We show this below for our Global Opportunities Fund (which is mirrored very closely with outperformance from our Global High Conviction Fund).

When we look at the ‘factors’ (see article linked above for further details) or common characteristics that might have caused this outperformance, we see things like our allocation to different countries, the market sensitivity of the companies we held in the portfolio (‘beta’), or the size of those businesses, amongst other things, made very little contribution to our outperformance.

Source: Ophir. Bloomberg. Data as of 31 December 2024. Benchmark is the MSCI World SMID Cap Index NR (AUD). Factor analysis uses proxy of Bloomberg Global Developed Mid Small Index.

Ultimately, it was good old fashioned stock picking (here formally called “selection effect”).

This is great news because that is what our investment process targets.

If it was exposure to some other factor – like being overweight U.S. stocks when the U.S. share market did well (which would show up as a positive “Country” factor attribution) – we’d be worried (and so should you!) because it’s not a sustainable way to outperform with our investment process. We don’t try to invest based on factors other than stock picking because a) it’s very difficult to do; and b) we have no skill in it.

We are happy our hard work finding mispriced companies that are growing faster than the market expects has been rewarded in 2024.

Of course, the work doesn’t stop. We need to keep “pounding the rock” (see link to this great motto from the NBA San Antonio Spurs Hall of Fame coach Greg Popovich here).

We are acutely aware new investors are coming on board all the time and for you our very long-term returns are just numbers on a page, not tangible results.

U.S. small business gets excited about Trump 2.0 from 2025

Returning to U.S. small caps, one thing holding back the relative performance of U.S. small caps over the last few years is that their earnings have not been growing as fast as their larger brothers and sisters, such as the Magnificent 7.

When may that change?

We were encouraged in December when the NFIB (leading U.S. small business association) Small Business Optimism Index – closely followed by economists – jumped 8 points in November after Trump’s election win.

This was the third-biggest monthly jump in U.S. small business optimism in the last half century! It also took the reading back above its 50-year average of 98, a level it had been below for the last almost 3 years.

Source: Bloomberg. Data to 31 December 2024.

As NFIB Chief Economist Bill Bunkelberg wrote at the time:

“The election results signal a major shift in economic policy, leading to a surge in optimism among small business owners. Main Street also became more certain about future business conditions following the election, breaking a nearly three-year streak of record high uncertainty. Owners are particularly hopeful for tax and regulation policies that favor strong economic growth as well as relief from inflationary pressures. In addition, small business owners are eager to expand their operations.”

*At writing the December data for the NFIB Small Business Optimism Index was released, showing another gain, and the highest reading since late 2018. Interestingly, the net percent of owners expecting the economy to improve rose to a net 52%, the highest since the fourth quarter of 1983!

We are hearing this from the coal face from our portfolio companies too. Optimism is up. Hiring and capex intentions have increased. We’ll be keeping a keen eye on how this translates to company guidance for revenues and profits this year that will be provided at full-year 2024 results in late January and February.

This optimism needs to be tempered with the more recent news that potentially little further rate cut relief is ahead in the U.S., which may limit further valuation increases.

But here too we may have a silver lining.

U.S. rates may not come down much from here, simply because the U.S. economy is in such strong health. And that bodes well for small cap earnings too – especially if we see a friendly Trump 2.0 policy mix for domestically orientated U.S. small-cap businesses.

We are excited about the new year ahead having returned from a brief break and raring to go. The investment team is in a great place, and we can’t wait to get stuck into reporting season for our portfolio companies that starts later this month. We think we own some great businesses that should pleasantly surprise the market and help build on 2024’s investment returns.

As always, thank you for entrusting your capital with us.

Kindest regards,

Andrew Mitchell & Steven Ng

Co-Founders & Senior Portfolio Managers

Ophir Asset Management

This document is issued by Ophir Asset Management Pty Ltd (ABN 88 156 146 717, AFSL 420 082) (Ophir) in relation to the Ophir Opportunities Fund, the Ophir High Conviction Fund and the Ophir Global Opportunities Fund (the Funds). Ophir is the trustee and investment manager for the Ophir Opportunities Fund. The Trust Company (RE Services) Limited ABN 45 003 278 831 AFSL 235150 (Perpetual) is the responsible entity of, and Ophir is the investment manager for, the Ophir Global Opportunities Fund and the Ophir High Conviction Fund. Ophir is authorised to provide financial services to wholesale clients only (as defined under s761G or s761GA of the Corporations Act 2001 (Cth)). This information is intended only for wholesale clients and must not be forwarded or otherwise made available to anyone who is not a wholesale client. Only investors who are wholesale clients may invest in the Ophir Opportunities Fund. The information provided in this document is general information only and does not constitute investment or other advice. The information is not intended to provide financial product advice to any person. No aspect of this information takes into account the objectives, financial situation or needs of any person. Before making an investment decision, you should read the offer document and (if appropriate) seek professional advice to determine whether the investment is suitable for you. The content of this document does not constitute an offer or solicitation to subscribe for units in the Funds. Ophir makes no representations or warranties, express or implied, as to the accuracy or completeness of the information it provides, or that it should be relied upon and to the maximum extent permitted by law, neither Ophir nor its directors, employees or agents accept any liability for any inaccurate, incomplete or omitted information of any kind or any losses caused by using this information. This information is current as at the date specified and is subject to change. An investment may achieve a lower than expected return and investors risk losing some or all of their principal investment.  Ophir does not guarantee repayment of capital or any particular rate of return from the Funds. Past performance is no indication of future performance. Any investment decision in connection with the Funds should only be made based on the information contained in the relevant Information Memorandum or Product Disclosure Statement.

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Why we Trust this Pilot to take off

November didn’t disappoint share market investors. A Trump-led rally shot the S&P500 (U.S. large caps) up +5.7% and the Russell 2000 (U.S. small caps) up +10.8% — the best monthly return for each index this year.

That was nothing compared to Bitcoin, which exploded +38.5%.  Trump is seen as a ‘BFF’ (Best Friend Forever) to the crypto market.

Aussie large-caps followed the U.S. up, adding +3.2%, though Aussie small caps lagged somewhat, rising +1.3%.

The big monthly return in U.S. small caps captured the headlines though, as the market has started to price in the potential benefits of Trump’s proposed tax cuts, as well as his more protectionist policy agenda. Both should disproportionately benefit smaller and more domestically orientated U.S. businesses.

We have been delighted at the recent surge in small-caps and in this month’s Letter to Investors we lift the lid to see just what’s driving the recovery. So far, it’s largely been a story of improving valuations. But could an earnings recovery kick in and help propel small-cap share prices even higher?

We also take a close look at Trustpilot, a stock that is bringing credibility and trust to internet reviews. We watched the company for some time before buying in October this year. As you’ll see, the company and its share price have huge upside potential and it’s a stock we’re particularly excited about.

U.S. large cap Santa rally is set to continue

It’s been a banner year so far for the heavyweight U.S. share market with returns year-to-date the strongest in at least 25 years.

Source: Piper Sandler. Data to 26 November 2024.

About 17% of the 27% rise in the S&P500 this year to the end of November – or in other words a little more than half – has been expanding valuations (price to earnings ratio) as macro risks have been priced out.

The market has more comfort that U.S. inflation is under control, no recession is imminent, and election uncertainty has now been resolved.

Seasonally, we are also in the best two-month stretch for the U.S. share market (November and December), and there seems to be little that could get in the way of the Santa rally into year end.

Historically, PE re-rating is usually the precursor to a market rally as the market is forward looking despite declining or anaemic profit growth. So, the question on everyone’s mind is – will history repeat as it has done many times before?

November 2024 Ophir Fund Performance

Before diving into this month’s Letter, we’ve provided a detailed monthly update for each of the Ophir Funds below.

The Ophir Opportunities Fund returned +4.2% net of fees in November, outperforming its benchmark which returned +1.3%, and has delivered investors +23.1% p.a. post fees since inception (August 2012).

🡣 Ophir Opportunities Fund Factsheet

The Ophir High Conviction Fund (ASX:OPH) investment portfolio returned +7.5% net of fees in November, outperforming its benchmark which returned +3.5%, and has delivered investors +14.3% p.a. post fees since inception (August 2015). ASX:OPH provided a total return of +9.6% for the month.

🡣 Ophir High Conviction Fund Factsheet

The Ophir Global Opportunities Fund returned +11.9% net of fees in November, outperforming its benchmark which returned +6.8%, and has delivered investors +17.8% p.a. post fees since inception (October 2018).

🡣 Ophir Global Opportunities Fund Factsheet

The Ophir Global High Conviction Fund (Class A) returned +12.6% net of fees in November, outperforming its benchmark which returned +6.8%, and has delivered investors +13.7% p.a. post fees since inception (September 2020).

🡣 Ophir Global High Conviction (Class A) Fund Factsheet

The Ophir Global High Conviction Fund (Class B) returned +11.5% net of fees in November, outperforming its benchmark which returned +6.8%, and has delivered investors +29.1% p.a. post fees since inception (June 2023).

🡣 Ophir Global High Conviction (Class B) Fund Factsheet

A ray of light in small-cap earnings?

While U.S. large caps have seen earnings rise 10% this year (+17% valuation increase = the 27% S&P500 return), it’s been tougher in U.S. small-cap land where earnings (earnings per share or EPS in the chart below) have gone slightly backwards. Small businesses there have been suffering through more recession-like conditions.

The +16% return in the S&P600 index this year (another U.S. small cap index along with the Russell 2000) has been all driven by expanding valuations that still remain very cheap at around 19x forward earnings versus U.S. large caps at around 26x forward earnings.

Valuation increase drives all the return for U.S. small caps this year

Source: Piper Sandler at as 26 November 2024.

Valuation increases, though, are not a sustainable way to generate investment returns and do have an upper limit. Ultimately, earnings per share (EPS) growth is needed to drive the market higher over the long term.

As seen in the chart above, declines in annual earnings for U.S. small caps (S&P600) have been relatively rare. Yet it looks like both 2023 and 2024 will see U.S. small-cap earnings decline in aggregate.

The last time a decline occurred two years in a row was during the GFC in 2008 and 2009, though earnings fell much more back then, before surging strongly in 2010.

This gives some more hope that we may be nearing the end of the lengthy earnings falls or stagnation for U.S. small caps we have seen recently.

Our Funds’ portfolio companies are generating superior earnings growth

Certainly, the share market appears willing to give the new Trump administration – combined with the dialling back in monetary policy restriction from the U.S. Fed – the benefit of the doubt at present that better times are ahead for small-cap earnings.

We maintain a keen eye on small-cap earnings revisions and a handful of other key leading indicators for small-caps’ earnings to see if this is playing out.

Anecdotally, we are seeing an increasing number of our portfolio companies in the U.S. appearing more confident in their end markets given the current political and monetary policy setup. We’ll be watching closely whether this translates into increases in company guidance at their fourth-quarter results due in late January and throughout February early next year.

If it transpires, we will likely become even more positive on cyclically orientated businesses, and those that are leveraged more to the economic cycle.

Regardless, given the huge opportunity set at our disposal in our Global Funds at Ophir, and despite the slower broader backdrop for U.S. small-cap earnings this year, we still have not had trouble keeping average earnings growth in these Funds from our portfolio companies in the +20-25% range.

Trustpilot: Good things come to those who wait

“Trust is like the air we breathe – when it’s present, nobody really notices; when it’s absent, everybody notices.”  Warren Buffett

Trustpilot (LON: TRST) is a London-listed, Danish-founded consumer business operating a review website, which hosts reviews of businesses worldwide. Around 1 million new reviews are posted each month.

Reviews are written by any consumer with a Trustpilot account who has had a recent buying or service experience, as long as they follow the Guidelines for Reviewers, and don’t have a conflict of interest with the business they’re reviewing.

Consumers who’ve had an experience with a business can create a Trustpilot account and write an unsolicited review (“organic reviews”). Businesses can also ask their customers to leave a review by invitation. There should be no bias in the way customers are invited to review, with no offer of payment or incentive.

What sets Trustpilot apart is their commitment to transparency and neutrality. They ensure the platform is a trusted space where customers feel heard, and businesses can demonstrate their integrity.

A commissioned study conducted by Forrester Consulting on behalf of Trustpilot found that organisations deploying Trustpilot achieved a remarkable 401% return on investment over three years. These organisations experienced significant benefits, including improved customer acquisition and operational efficiencies.

Additionally, Trustpilot helped increase web traffic by 25% in the first year, 30% in the second, and 35% by the third year. These metrics underscore Trustpilot’s pivotal role in enhancing business performance through trust and transparency.

Trustpilot’s business model has strong network effects. As more consumers use Trustpilot to review more businesses, more domains and businesses are added to the platform. More businesses claim their profiles, and over time become customers.

As the flywheel keeps spinning – this drives organic growth, strengthens the brand and market position, while simultaneously and creating high barriers to entry.

Trust follows the adage of “goes up the escalator and down the elevator” demonstrating barriers/ time to build adequate consumer reviews yet easy loss of confidence in website if reviews aren’t honest.  If the business can overcome this dynamic, then it should build adequate moat to monetise model as difficult for competitors to replicate.

Lofty initial expectations came back towards earth

We first met Trustpilot management during the 2021 IPO process. Despite evidence of good early momentum across the business, we passed on valuation grounds. At the 265p IPO price we were being asked to pay too much for potential success in the U.S. where there was limited penetration at the time.

Patience pays off

Source: Ophir, Bloomberg. Data to 30 November 2024.

This was a good decision because Trustpilot’s share price declined materially after peaking towards the end of 2021 and tracked broadly sideways from mid-2022 and much of 2023 due to macro factors.

Stock-specific factors also impacted the share price. The initial roll-out in the U.S. was ‘scatter-gun’ and lacked focus. That was a key element holding us back from buying the stock.

Yet because of its unique business model and significant market opportunity, we continued to follow the company.

But during 2023 we noticed Trustpilot’s approach to the U.S. became much more focused. The company homed in on a few core verticals (e.g. financial services, education).

This improved growth and more specifically net revenue retention (another way to describe customer retention). That was the evidence we needed to see before re-engaging with the company.

So in early 2024, we met with management in their U.S. headquarters in Denver. We were impressed with the ongoing execution in the UK, as well as the momentum that was building in other jurisdictions globally, including the U.S.

We subsequently caught up with the company on a handful of occasions over the next few months, after which we invested in the company. Our patience and valuation discipline allowed us to see the company execute for several years and, ultimately, we initiated our position below the IPO price.

We see big upside for the company and its share price for several reasons:

1. The UK and other markets remain underpenetrated

The UK is Trustpilot’s most penetrated region. However, with 1H24 bookings of US$47m in a serviceable addressable market (SAM) of ~US$1.7 billion this equates to only ~5% penetration.

Source: Ophir. Company Financials.

This provides a meaningful growth runway; while also providing a reasonable blueprint for what the terminal/mature economics of the business may look like for the group.

2. Trustpilot continues to show strong network effects

Since 2018 UK bookings have grown at a ~20% compound annual growth rate (CAGR), while sales and marketing dollars have remained broadly stable, based off our internal estimates for the UK division. This demonstrates the strong network effects when consumer awareness hits a tipping point.

Source: Ophir. Company Financials.

3. The company is still seriously undervalued

Our comparative analysis shows that businesses with a similar growth and margin profile to Trustpilot’s UK business trade on 8-9x annual recurring revenue (ARR).

This results in a UK valuation of ~US$1 billon and implies we are paying ~US$500 million (or 3x ARR) for Europe & the Rest of the World (RoW) and North America, which combined are 10x the SAM of the UK.

4. Data shows strong momentum globally

We think near-term momentum will show acceleration in the U.S. and EU/Row based off our data tracking, calls with regional experts and tracking of onboarded and paying companies.

For key markets and verticals, we closely monitor Google search visibility, the quality and volumes of reviews as well as engagement and conversion. We also track corporates who are signed up and paying them.

Our data tracking shows Trustpilot’s robust performance in established markets such as the UK. It also demonstrates the critical U.S. market is accelerating alongside Germany, France and Italy, which are core to the Europe/RoW segment.

Source: Ophir, Google Trends.

5. Trustpilot’s U.S. position continues to strengthen

When compared to competitors in the U.S., such as Stamped, Yotpo, Bazaarvoice and Birdeye, Trustpilot has demonstrated more consistent performance and a positive trajectory. This suggests a strengthening of its position in the U.S. market. The strong interest levels against a backdrop of competitor volatility suggests Trustpilot is on the path to becoming the pre-eminent platform in the trust and review ecosystem.

Source: Ophir, Google Trends.

A significant runway for growth

Given their large markets, significant upside to penetration, high long-term margins and limited competition due to high barriers to entry, as well as strong network effects, we see significant upside for Trustpilot.

As management continues to execute, the market will get more comfortable with the long-term growth opportunity in North America, Europe and the Rest of the World.

This is a great example of how being patient and waiting for a better entry point can pay off. By applying our GARP (growth at a reasonable price) investment philosophy at the time of the IPO, we were effectively given a free look at how the business executed for the following 3 years.

As always, thank you for entrusting your capital with us.

Kindest regards,

Andrew Mitchell & Steven Ng

Co-Founders & Senior Portfolio Managers

Ophir Asset Management

This document is issued by Ophir Asset Management Pty Ltd (ABN 88 156 146 717, AFSL 420 082) (Ophir) in relation to the Ophir Opportunities Fund, the Ophir High Conviction Fund and the Ophir Global Opportunities Fund (the Funds). Ophir is the trustee and investment manager for the Ophir Opportunities Fund. The Trust Company (RE Services) Limited ABN 45 003 278 831 AFSL 235150 (Perpetual) is the responsible entity of, and Ophir is the investment manager for, the Ophir Global Opportunities Fund and the Ophir High Conviction Fund. Ophir is authorised to provide financial services to wholesale clients only (as defined under s761G or s761GA of the Corporations Act 2001 (Cth)). This information is intended only for wholesale clients and must not be forwarded or otherwise made available to anyone who is not a wholesale client. Only investors who are wholesale clients may invest in the Ophir Opportunities Fund. The information provided in this document is general information only and does not constitute investment or other advice. The information is not intended to provide financial product advice to any person. No aspect of this information takes into account the objectives, financial situation or needs of any person. Before making an investment decision, you should read the offer document and (if appropriate) seek professional advice to determine whether the investment is suitable for you. The content of this document does not constitute an offer or solicitation to subscribe for units in the Funds. Ophir makes no representations or warranties, express or implied, as to the accuracy or completeness of the information it provides, or that it should be relied upon and to the maximum extent permitted by law, neither Ophir nor its directors, employees or agents accept any liability for any inaccurate, incomplete or omitted information of any kind or any losses caused by using this information. This information is current as at the date specified and is subject to change. An investment may achieve a lower than expected return and investors risk losing some or all of their principal investment.  Ophir does not guarantee repayment of capital or any particular rate of return from the Funds. Past performance is no indication of future performance. Any investment decision in connection with the Funds should only be made based on the information contained in the relevant Information Memorandum or Product Disclosure Statement.

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For our Global Opportunities Fund, November 2024 was its best single month of performance since its inception in October 2018, some 74 months ago. A pleasing result. Similarly, for our Global High Conviction Fund, November was its second-best performance month since inception in 2020.

When we have sizable out or underperformance relative to our benchmarks, we are really interested in understanding what caused that performance.

Is it because of some intended, or perhaps even unintended, ‘factor’ exposure? (A factor is a fairly obtuse term for a collection of stocks that share a common characteristic, such as size, value, geography or industry.)

Or is it because of good old-fashioned stock picking?

At Ophir, over the long term, we would obviously expect our stock picking skills to explain most of our outperformance, rather than factors, which investors can increasingly gain exposure to cheaply elsewhere.

Lifting the lid on November’s outperformance

Let’s firstly examine what drove November’s outperformance.

If we take the Global High Conviction Fund, below we show the Fund’s November performance versus its benchmark (left chart). And in the right chart we show the breakdown of its outperformance by various different factors, such as country, beta (a fancy finance term for companies whose share price tends to go up more when the share market goes up), style and size exposure … but also by ‘selection effect’.

GHCF November Performance Review

Source: Bloomberg & Ophir. Data as of 30 November 2024. Benchmark is the MSCI World SMID Cap Index NR (AUD). Factor analysis uses proxy of the Bloomberg Global Developed Mid Small Index.

Selection effect is the proportion of the outperformance versus the benchmark that you can attribute to specific companies Ophir has selected, after subtracting off any factor exposures/bets.

(At Ophir, our investment style gives us two primary factor exposures: ‘small cap’ and ‘growth’. We don’t overpay for that growth and investment consultants call our style Growth at a Reasonable Price, or GARP for short. But we don’t expect our style to deliver outperformance over the long run. It is the stocks we pick within that style that allow us to outperform.)

What the analysis shows is that selection effect, or stock picking, has contributed the lion’s share – in fact 81% of the outperformance for November.

This is a very similar number for our Global Opportunities Fund given the high overlap in stock holdings (75-80% overlap by weight).

This is crucially important because outperformance through stock picking is exactly what our investment process targets and what we spend all our time trying to achieve. It is also the most sustainable form of outperformance, in our view, given factor tailwinds can easily reverse and become headwinds (like we saw in 2022 when our small-cap growth style went against us).

The main Factor contributor to performance in November was country allocation, which made up 14% of the outperformance. This was mainly through us being overweight (versus the benchmark’s allocation) to U.S. companies whose performance tended to be better in the month, and underweight Japanese companies (we have zero allocation compared to the benchmark’s 10% allocation) which tended to have poorer performance.

What about the past year’s outperformance?

While it’s great that stocking picking has been the major driver of performance in November, it’s just one, albeit strong, month.

But if we zoom out a little, performance over the last year in the Ophir Global Funds has also been strong. The Global Opportunities Fund and Global High Conviction Fund are up +55.0% and +54.5% respectively, versus their common benchmark up +28.2%.

GHCF 1 Year Performance Review

Source: Bloomberg & Ophir. Data as of 30 November 2024. Benchmark is the MSCI World SMID Cap Index NR (AUD). Factor analysis uses proxy of the Bloomberg Global Developed Mid Small Index.

As shown above, if we perform the same analysis for the +26.3% outperformance over the last year in the Global High Conviction Fund, we see that 105% of the outperformance was driven by stock picking. An even better result than November.

How can stocking picking have driven more than 100% of the outperformance?

Easy. It’s because the ‘factor’ attribution to outperformance was actually negative -5%. That is, factor exposures of the Fund hurt relative performance.

What were the bigger factor headwinds to relative performance over the last year for the Global High Conviction Fund?

• This time Country exposure went against us. Being overweight French stocks hurt as the French share market underperformed.
• Also, size went against us. That is, larger companies tended to outperform smaller companies in the global share market over the last year.

It wasn’t all bad news, though, from a factor perspective.

Relative industry weights, and exposure to higher price momentum and higher beta stocks all added positively to returns.

It’s just on a net basis; factor exposures were a headwind.

Ophir’s hard work and stock picking skills paying off

The key takeaway remains though, just like November, the strong outperformance over the last year has been driven overwhelmingly by stock picking.

This is great news for investors.

It means the Ophir investment process is working. It means outperformance over the last year is not being primarily driven or being given any ‘free kicks’ from intended or unintended exposures to certain common characteristics of stocks – so-called ‘factor’ exposures that investors might be able to buy cheaply elsewhere.

Over the last year for our Global Funds, we did over 1,000+ company meetings to help us understand which companies we think will outperform. Not only did we meet with the company itself, but its customers, suppliers, competitors, industry experts, ex-employees … the list goes on. Many of these meetings are in person, traveling all over the world to gather our insights.

The hard work has been paying off both recently and over long term time periods, as shown by our Funds long-term track records.

Outperformance doesn’t necessarily happen in any given month or year. But it’s great to see that this year it has.

And, of course, the work continues.

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No one else wanted to look here, but we found a bargain

After a hot streak of five months, the global share market took a breather in October. The MSCI World Index (in USD) fell -2.0%; the S&P500 got off a little lighter, down -0.9%. It was a surge in the U.S. 10-year Treasury bond yield, which rocketed up +0.5% in the month to 4.3%, that weighed on share market valuations across the world.

Not only did long-term interest rates in the U.S. move sharply higher over the month, but so too did expectations for short-term rates. Only four 0.25% Fed cuts are now expected this cycle (at writing), down from eight 0.25% expected at the start of October.

Why such a sharp move higher in short and long-term interest rates in the U.S.? In short there are two key reasons:

1. U.S. economic data has continued to surprise on the upside. The unemployment rate has dropped back to 4.1%; inflation has continued to moderate back towards the Fed’s 2% target; and real GDP growth is running above trend at just a shade under 3%.
2. In October polls showed momentum was swinging towards Donald Trump and a Republican win in the November U.S. election (which, unless you’ve been hiding under a rock has subsequently been proven right with a big win earlier this month). Trump’s policy platform of tariffs, reduced immigration and tax cuts are all inflationary, so markets started pricing in higher rates. The day after the election, November 6, when it was clear Trump had won, the U.S. 10-year jumped 0.16%. Most of this rise came from higher inflation expectations (10-year breakeven inflation expectations).

A natural hedge

For Australians invested in unhedged global shares (such as those in Ophir Global Funds), October’s pullback in global share markets, and more specifically the U.S. share market, was totally offset by a big fall in the Aussie Dollar versus the U.S. Dollar.

The benchmark for our Global Funds, the MSCI World SMID Cap Index posted a negative total return of -2.6% in October. But when converted to $AUD, it rose +3.1%.

Being unhedged for your global shares is usually a positive for Australian investors during declining markets. When global shares fall, the Australian Dollar often (though not always) also falls.

October 2024 Ophir Fund Performance

Before we jump into the Letter in more detail, we have included below a summary of the performance of the Ophir Funds during October. Please click on the factsheets below if you would like a more detailed summary of the performance of the relevant fund.

The Ophir Opportunities Fund returned +5.1% net of fees in October, outperforming its benchmark which returned +0.8%, and has delivered investors +22.9% p.a. post fees since inception (August 2012).

🡣 Ophir Opportunities Fund Factsheet

The Ophir High Conviction Fund (ASX:OPH) investment portfolio returned +3.7% net of fees in October, outperforming its benchmark which returned -0.8%, and has delivered investors +13.6% p.a. post fees since inception (August 2015). ASX:OPH provided a total return of +0.0% for the month.

🡣 Ophir High Conviction Fund Factsheet

The Ophir Global Opportunities Fund returned +3.4% net of fees in October, outperforming its benchmark which returned 3.1%, and has delivered investors +15.9% p.a. post fees since inception (October 2018).

🡣 Ophir Global Opportunities Fund Factsheet

The Ophir Global High Conviction Fund (Class A) returned +3.3% net of fees in October, outperforming its benchmark which returned +3.1%, and has delivered investors +10.7% p.a. post fees since inception (September 2020).

🡣 Ophir Global High Conviction (Class A) Fund Factsheet

The Ophir Global High Conviction Fund (Class B) returned +3.2% net of fees in October, outperforming its benchmark which returned +3.1%, and has delivered investors +21.3% p.a. post fees since inception (June 2023).

🡣 Ophir Global High Conviction (Class B) Fund Factsheet

Two charts you should know about

Before we get into our stock in focus for the month, we wanted to highlight two quick charts we think you should know:

1. Ophir Global Funds: A strong year driven by stock picking

The Ophir Global Opportunities Fund and the Ophir Global High Conviction Fund had a tough late 2021 and early 2022 when interest rates ripped higher and small-cap growth valuations got torched. But over the last year their performance has surged.  While their benchmark, the MSCI World SMID Cap Index NR (AUD), was up about 26% in the last 12 months to the end of October, both Funds were up about 46%. That’s about 20% outperformance!

So what drove that outperformance?

Source: Ophir & Bloomberg. Data as of 31 October 2024.

In the chart above we show how $100 invested a year ago into the Ophir Global High Conviction Fund has grown versus the same investment into our official benchmark. We’ve also included different size (mid, SMID, small, micro) and style (growth & value) indices.

It’s clear that the last year’s outperformance was not due to size factors – as you can see mid, SMID and small caps all performed similarly and were lagged by microcaps. Growth and Value styles of investing also provided very similar results.

So Ophir’s small-cap growth company bias didn’t generate the outperformance.

What was it then?

It was good old-fashioned stock picking.

All the top contributors to performance beat the markets expectations on their earnings results and raised guidance for future results. That’s exactly what our investment process targets and that – rather than size or style – is the most sustainable form of outperformance for our funds.

2. The valuation ‘catch up’ still hasn’t happened

Some investors might have been wondering if the Ophir Global Funds’ strong performance over the last year was because small-cap valuations simply caught up with the stocks that have led this bull market since 2022 – ie. large caps and the Magnificent 7?

Source: Ophir and Bloomberg. Data to 31 October 2024.

But as you can see in the chart above, both small (gold line) and large (grey line) caps have both benefited from valuations (here price to earnings ratios) increasing. Yet the gap (shaded area) has not closed.

So, it’s still highly likely there is a period ahead in the next five years where small caps will catch up and outperform large caps due to their much cheaper starting valuations.

On a relative basis, small caps are the cheapest they have been in a quarter century and to us they represent a once in a generation relative opportunity to large caps. This year’s strong performance in the Ophir Global Funds has not changed that.

Stride: The company no fundie wanted to see

In January 2021 vaccines were rolling out, people were starting to travel again; and the share market had flipped back from ‘stay at home’ stocks to the ‘re-opening trade’. That was when we attended the Needham Growth Conference in New York and found one of our best stocks of the last few years.

The Needham Conference is one of the biggest small-cap investment conferences. Fund managers were lining up to meet the management of companies primed to capitalise on the tidal wave of services spending as consumers emerged from hibernation.

So, what did we do?

We asked the conference organisers: “What are the companies at the conference with the least requested number of meetings by fundies?”

The company that no one wanted to see was Stride (NYSE:LRN). Stride provides online education solutions to kindergarten through Year 12 students in the U.S. and their solutions are used in the classroom. But originally and still, they are used by students homeschooled for various reasons including bullying, parental preferences; even for child actors.

When we were all going to ‘work from home’ during COVID, students were going to ‘learn from home’. Stride’s share price rocketed from around US$20 to over US$50 between March and August 2020 as demand, and expectations of demand, for their products and services ballooned.

But by January 2021, the time of the Needham Conference, the balloon had popped. As students returned to school, investors thought there’d be no durable increase in demand, so Stride’s share price returned to US$20. In any case, fundies had turned their attention elsewhere.

What we found when we decided to dance with the ‘wallflower’ Stride

Stride was the proverbial ‘wallflower’ at the prom. But we decided to dance with Stride and we found:

• A company structurally benefitting from increasing adoption of virtual schooling more generally (despite schools having been reopened), which could lead to sustained growth in a market in which Stride was a leader.
• Defensive revenue growth of 8-10% revenue, underpinned by state government budgets that fund the 70 schools across 35 US states in which Stride had solutions.
• This was flowing through at high incremental profit margins, driving what we expected would be 20%+ earnings growth.
• A depressed EV/EBITDA (Enterprise Value to Earnings Before Interest Tax Depreciation and Amortisation) valuation multiple of just 5x.

Of course, we never just take what the company says at face value, so we got to work. We checked data around individual school’s login traffic; called enrolment centres for intel, including the number of open enrolment applications; spoke to public and private school peers around market share changes; and spoke with school district budget allocators to ensure funding was rock solid.

We initially bought Stride later in January 2021 between US$22-25. And we have held ever since, building our conviction and knowledge around the business.

And boy has it delivered. From financial year 2020 through to 2024 it has:

1. Doubled revenue from US$1.04 billion to US$2.04 billion
2. Improved EBITDA margins from 11% to over 18%, and
3. 10x’ed profit from US$24.5 million to US$240 million (12 months to Sept 2024)

Fuzzy Panda tests our conviction

But then last month our conviction was really tested.

Fuzzy Panda (FP) – no not a Sesame Street character, but a well-known short-selling organisation – released a report on the 16^th October dubbing Stride “the last COVID over earner”.

The stock tanked over -9% on the day, but Stride was down -24% if you include the falls leading up to the report, when FP was clearly putting on their short position.

FP was essentially claiming that Stride was a big beneficiary of the US$190 billion in Federal emergency relief funding program for U.S. schools during COVID. The funding was ending in September 2024 and FP warned Stride’s profits were about to “fall off a COVID cliff”.

Australian investors in ASX listed companies probably aren’t that used to “short reports” as they’re not that prevalent domestically. However, they are big business in the U.S. and par for the course if you’ve been investing there long enough. The playbook is simple.

Take a short position, put out a scary short report questioning the company’s profits, many investors shoot first dumping the stock (regardless of the merits of the short report), the shorter closes the short by buying back the stock at the now lower price, pocketing a tidy profit.  Sometimes there is merit to the short report, sometimes it’s just hot air.

Over the last three years we have owned the stock we have spoken with Stride’s management on multiple occasions each quarter. We have found them diligent, trustworthy and conservative.

But we also did more work.

We already knew from the publicly available individual school budgets that the federal COVID funding was used to offset funding from the states during COVID. But we also went through the corresponding publicly available state budgets in detail that showed the states were increasing their education spend to offset the federal grant funding that was ceasing. So, this gave us comfort there was no big looming funding shortfall from state schools for Stride’s offering. This gave us the conviction to hold through the short report.

When Stride reported its September quarter results aftermarket on the 22^nd of October, it blew the market’s expectations away. both at a revenue and profit level.

The next trading day the stock popped around +40%!

Source: Ophir & Bloomberg. Data as of 31 October 2024.

The future of Stride

So where to next for Stride?

Even though they are the largest online education provider in the U.S. by enrolment, they are still very underpenetrated across schools. They can also fuel growth by entering or expanding into education verticals including:

1. Experiential learning: Through extended, augmented and virtual reality modes; AI voice and chat learning software; and games and simulation teaching solutions.
2. Learning support: Building out their tutoring business which we think could add 30-40%+ to today’s earnings over the medium to longer term, given their existing relationships with students and teachers.
3. Workforce and talent development and acquisition: Providing certifications to the increasing number of U.S. high school leavers who are shunning four-year college degrees and opting instead to directly enter jobs. Stride already owns a business called Tallo, which connects students from Stride-powered schools to opportunities (the Tallo app has 1.7million users already!).

A long career ahead

Today, Stride is still growing earnings at 20%+. That’s two to three times the market’s growth. Yet it operates in a defensive end market with a large share of its revenues underpinned by state government education budgets. It’s a great all-weather stock.

But its valuation is lower than the market. Stride trades on a still cheap 13x price to earnings ratio. Most of the share price move since we have owned has actually been driven by earnings growth and not valuation expansion. We think it could still be a 20x P/E business.

So while it’s been a great performer for our Funds, we still think there is a long ‘career’ ahead for Stride.

…the hard work pays off

It would have been easy to crack during the Fuzzy Panda short drama and sell Stride.

The only way to know whether to ‘keep the faith’ or to ‘fold’ is to put in the work and back yourself. It won’t always work out on your side, but if you go the extra mile, it will more often than not.

We are proud of the team and the work they have done which allowed us to keep our conviction in Stride.

We’re also glad we took that meeting that no one else wanted back in 2021!

As always, thank you for entrusting your capital with us.

Kindest regards,

Andrew Mitchell & Steven Ng

Co-Founders & Senior Portfolio Managers

Ophir Asset Management

This document is issued by Ophir Asset Management Pty Ltd (ABN 88 156 146 717, AFSL 420 082) (Ophir) in relation to the Ophir Opportunities Fund, the Ophir High Conviction Fund and the Ophir Global Opportunities Fund (the Funds). Ophir is the trustee and investment manager for the Ophir Opportunities Fund. The Trust Company (RE Services) Limited ABN 45 003 278 831 AFSL 235150 (Perpetual) is the responsible entity of, and Ophir is the investment manager for, the Ophir Global Opportunities Fund and the Ophir High Conviction Fund. Ophir is authorised to provide financial services to wholesale clients only (as defined under s761G or s761GA of the Corporations Act 2001 (Cth)). This information is intended only for wholesale clients and must not be forwarded or otherwise made available to anyone who is not a wholesale client. Only investors who are wholesale clients may invest in the Ophir Opportunities Fund. The information provided in this document is general information only and does not constitute investment or other advice. The information is not intended to provide financial product advice to any person. No aspect of this information takes into account the objectives, financial situation or needs of any person. Before making an investment decision, you should read the offer document and (if appropriate) seek professional advice to determine whether the investment is suitable for you. The content of this document does not constitute an offer or solicitation to subscribe for units in the Funds. Ophir makes no representations or warranties, express or implied, as to the accuracy or completeness of the information it provides, or that it should be relied upon and to the maximum extent permitted by law, neither Ophir nor its directors, employees or agents accept any liability for any inaccurate, incomplete or omitted information of any kind or any losses caused by using this information. This information is current as at the date specified and is subject to change. An investment may achieve a lower than expected return and investors risk losing some or all of their principal investment.  Ophir does not guarantee repayment of capital or any particular rate of return from the Funds. Past performance is no indication of future performance. Any investment decision in connection with the Funds should only be made based on the information contained in the relevant Information Memorandum or Product Disclosure Statement.

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On the 5th of November 2024, U.S. voters resoundingly elected Donald Trump as the nation’s 47th President.

New governments inevitably bring about change. In most instances new policies are forgotten and business continues as before.

Yet sometimes a new government can attempt radical reform – such as the repeal of the Glass Steagall Act or the implementation of the Affordable Care Act (Obamacare) – that may require a total reassessment of the opportunities and risks facing listed companies.

Not only has Trump won the Presidency, but the Republican Party appears on track to control both the House and Senate. A clean sweep could pave the way for Trump to implement radical reform and upend the outlook.

In the lead-up to the election, the tightness of the race resulted in some market swings as the probabilities of outcomes shifted between candidates, but overall, markets didn’t see a significant amount of volatility. However, since the election, the Trump trade has been well and truly on.

Source: Ophir, Bloomberg.

But do elections really alter the fortunes of equities, particularly when the governing party changes? And should investors be concerned about the potential impact of the Trump victory on the stock market and other markets?

The impact of elections on equities

We looked at how the S&P500 Index traded through each U.S election since 1960. The period covers 16 elections, with nine Democrat wins and seven Republican victories.

As you can see, on average, the S&P500 rose 10.2% in the first twelve months following a U.S. election. When the government changed hands, the increase in the S&P500 was less material at 6.0%.

Interestingly, in the first year following a Democratic win, the S&P500 index has generated stronger returns than a Republican win. This may sound counter-intuitive, as conventional wisdom suggests Republicans are better for markets given their pro-business stance.

Source: Ophir, Bloomberg.

As we look deeper into the data, the return profiles following elections since 1984 have been more attractive, with the same Democrats vs Republican trends holding true.

Source: Ophir, Bloomberg.

Presidential performances

Typically, a change in government is good for U.S. equities, which can be seen in the chart below.

However, individual terms and specifically the first year following an election can be heavily influenced by idiosyncratic factors that aren’t necessarily linked to the governing party:

• Bill Clinton’s two terms in office saw the fastest market rally. The S&P500 gained of 203% over eight years. The rally was fuelled by the repeal of the Glass-Steagall Act, which allowed commercial and investment banks to merge and expand financial product offerings.
• During Barak Obama’s term the S&P gained 148% gain in a post-GFC rally. Had the financial crisis occurred during Obama’s tenure (instead of just before), it would have weighed down the market returns through his term.
• Under Ronald Reagan, the market rose 105% with the Black Monday crash of 1987 causing the underperformance.
• The Iraq war and the September 11 attacks dragged the market down 32% under Bush Jr.

What policies is Trump looking to implement?

Now that Trump has won the presidency and likely both chambers of Congress, he has a platform to enact sweeping and impactful change.

Trump plans include, but are not limited to:

• Reduced Corporate tax rates
• Reduced personal taxes through reduced social security taxes, no tax on tipped income or overtime pay as well as reductions for first responders and military.
• Increased tariffs, particularly on China.
• Propping-up fossil fuel industries, particularly oil and gas.
• Potential deportation of unauthorised immigrants.
• Mixed outcomes on defence with a potential pull back from Ukraine and Europe more broadly, but a likely redirection towards China.
• Building a U.S. Strategic Bitcoin Reserve of 1 million Bitcoin over the next 5 years.

Resulting from these policies we could see:

• Upward pressure on inflation, reducing the rate in which the Federal Reserve will cut rates.
• A strengthening in the U.S. Dollar as higher rates makes the U.S. relatively more attractive for investors seeking higher yields.
• Deregulation will benefit sectors including financial services, technology and fossil fuels. The Trump campaign, for example, promised to reduce environmental protection and expand U.S. energy production (oil and gas drilling).
• Ongoing support for cryptocurrency markets

How will Trump’s victory impact small caps?

As highlighted above, markets reacted positively to the Trump Presidency with the S&P500 up 3.5% and the Rusell 2000 up 5.8% in the week since the election.

Michael Kantrowitz at Piper Sandler and Co points out this is the fourth time small caps have seen an outperformance spike compared to large caps more recently. This has been driven by multiple expansion, with the market pricing in a better outlook for growth and earnings.

Source: Piper Sandler & Co, November 2024

So why do we think this time is different to the last three?

Given the protectionist nature of Trump policies, this should support U.S. companies who operate domestically. By their nature this tends to favour smaller companies that haven’t yet grown enough to justify offshore expansion.

While increased inflationary pressures from Trump’s policy agenda could impact the profit margins of smaller companies, this will likely coincide with an improved growth outlook. Against this backdrop, we believe strong top-line trends could drive upwards EPS revisions across the Russell 2000. Should this transpire, it could act as the catalyst for the significant valuation gap between large and small caps to begin to close.

At Ophir we focus on businesses with resilient earnings that can perform throughout market cycles. Our positioning remains a mix of cyclical and defensive names, and we have high conviction that our Funds will perform through the market cycle.