The fund managers who hunt for AIM winners, and where they are finding the best opportunities

This month marks 10 years since it became possible to hold Alternative Investment Market (AIM) shares in an ISA. The changes were introduced by then-chancellor George Osborne, who argued that encouraging more investment in small businesses would help spur economic growth. 

Making AIM shares ISA-eligible meant investments in AIM shares were potentially free of income tax, capital gains tax and, after two years, inheritance tax – one of the most generous sets of tax reliefs available to UK investors, according to investment broker the Wealth Club.  

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Over 10 years, the AIM market has changed substantially. The Wealth Club finds that of the 50 largest companies quoted on AIM in 2013, only eight are still in that list today: Jet2, EMIS, HUTCHMED (China) , James Halstead, Polar Capital Holdings, RWS Holdings, Smart Metering Systems and Youngs & Co Brewery. 

In 2013, 30% of the top 50 were speculative oil and gas or mining companies, whereas today energy stocks account for just 6.5%. 

The AIM All Share index has returned 15.4% over 10 years, but has been very volatile. Investing in AIM is therefore a tricky thing to get right, so we looked at how professional AIM investors approach the market, the most common shares they hold, and what stocks they like at the moment. 

How to invest in AIM 

Octopus Investments, a fund manager, has been picking stocks on AIM since 1995, when the market was founded. The team invests in AIM via a range of mandates including the Octopus AIM VCTs, FP Octopus UK Micro Cap Growth, FP Octopus UK Multicap Income and the FP Octopus UK Future Generations Fund. 

It focuses on profitable businesses that have a significant potential for growth, and also have strong profit margins and a moat around their business.  

“This protection can be through intellectual property, know-how, scale, brand, distribution, and relationships, among others. We like to see businesses with strong balance sheets and the ability to reinvest capital. We want to find management teams aligned with shareholders and with a vision to scale the company over the long term,” Octopus said.  

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For Ken Wotton, managing director for public equity at fund group Gresham House, the key to investing in AIM is to monitor three indicators. First, companies must have a competitive advantage or be operating in a growing market, which affords them a degree of pricing power and can boost profit margins. 

Another indicator of resilience is a business’ ability to generate cash, according to Wotton. “Cash is important, as it ultimately drives shareholder returns through reinvestment into growth as well as distributions to shareholders,” he says.  

Finally, a high-quality management team can make an enormous difference to a company’s ability to navigate macro headwinds. 

“Primarily, we look for a track record and a skill set that aligns with the business strategy. Every leader has different qualities, and not every CEO of a previously successful company will be able to navigate the choppy waters ahead. Additionally, alignment of interests is crucial - the incentive structure should motivate the management team to also meet our expectations as shareholders,” Wotton said.  

What fund managers are buying 

The Wealth Club look at funds in the Investment Association’s UK All Companies, UK Equity Income and UK Smaller Companies sectors and picked out which AIM shares were the most popular.  

It found that software companies GB Group and Gamma Communications were the most popular shares, alongside airline Jet2 and translation company RWS Holdings.  

Source: The Wealth Club, August 2023.

Octopus Investments owns Gamma Communications. It says: “The business confirmed a strong first-half trading performance in a recent trading update and highlighted a strong balance sheet with £121.5 million of net cash, which can be used to grow the business over the long term. Gamma’s shares are trading on a price-to-earnings (p/e) ratio of 13.6, this is a 39% discount to its five-year average p/e ratio.” 

The share prices drop has happened despite analysts upgrading profit expectations for the business over the year.  

“We believe Gamma is well positioned in a growth market to capitalise on several tailwinds and has the balance sheet to significantly grow over the coming years,” Octopus said.  

Another company the team likes is Midwich, a Norfolk-based specialist audio-visual distributor with more than 1,500 staff across Europe, North America and Asia Pacific.  

Octopus says: “Midwich recently conducted a successful £51 million equity raise to acquire SF Marketing Inc, a leading value-added distributor of AV equipment in Canada, for a total consideration of up to £36.4 million. The company also announced a strong interim trading update with record first-half revenues of £610 million and operating profits growing by 25% over the half.”  

Despite the strong operational progress and profit upgrades, Octopus points out that Midwich has seen its p/e ratio fall to 10.5, a 42% discount to the five-year average rating.  

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Gervais Williams, manager of Miton UK Microcap, looks for AIM shares with strong balance sheets that can keep growing their businesses.  

The top holdings in his investment trust fit these criteria, he says. They include CyanConnode and Shield Therapeutics.  

Williams says: “In the case of Cyanconnode, they have established commercial traction in India after years of persistence, so in our view they are now well placed as the Indian government lets a series of substantial smart metering contracts. In the case of Shield Therapeutics, it has the first and only approved pill to treat iron deficiency. To date, it has reported rapid growth with the potential to take significant market share over the coming years.” 

Wotton says niche business consultancies have flourished in the past few years, as investors have sought out capital-light industries offering lower-risk and attractive growth prospects. 

One AIM-listed business consultancy he has recently invested in is London-based IT security specialist Crossword Cybersecurity. The company is a managed services provider and software consultancy that supports clients in building cybersecurity systems. 

“In the context of the Russia-Ukraine war and broader geopolitical tensions, the threat posed by cyber-attacks has increased dramatically, and implementing robust defences has risen to the top of the agenda in many boardrooms. As such, the space is underpinned by structural demand drivers, and Crossword Cybersecurity should achieve meaningful growth over the coming months and years,” he said.