Unloved adventurous areas that warrant a closer look

Few would deny that it has been an eventful start to the year with conflict in the Middle East and concern about the hype around artificial intelligence (AI) all creating extreme volatility.

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At such times it is important for investors to think long term and remain patient rather than panic selling. Over time, as history informs us, stock markets recover and volatility is the price that investors must accept when investing since it offers the best opportunity to growth wealth in real terms.

Prior to stock markets reacting to events in the Middle East, there were plenty of adventurous areas out in the cold that warranted a closer look. Given how concentrated stock market returns have been in recent years, amid the dominance of the Magnificent Seven, many areas have been overlooked and offer low starting valuations.

‘Unloved’ smaller companies

Before the Middle East conflict, David Lewis, investment manager in the Jupiter Merlin independent fund team, noted that “encouraging economic growth has catalysed something of a rotation in markets, with many unloved areas beginning to show signs of life”.

In particular, he’s been eyeing opportunities among global smaller company funds. He says: “Global small-cap companies are extremely unloved and inexpensive yet also more geared than their larger-cap counterparts into any economic rebound.”

A recent feature explored funds focused on global smaller companies, mentioning funds including The Global Smaller Companies Trust Ord (LSE:GSCT) and abrdn Global Smaller Companies I Acc.

UK smaller companies are also carrying low price tags and offering plenty of performance catch-up potential versus larger companies. This topic was recently discussed in ii’s On The Money podcast with Richard Staveley, manager of investment trust Rockwood Strategic Ord (LSE:RKW).

“Despite the FTSE 100 delivering returns of over 20% last year, UK small- and mid-cap companies have continued to lag,” says Dan Boardman-Weston, chief executive of BRI Wealth Management. His pick is “the higher-risk option Aurora UK Alpha Ord (LSE:ARR), a concentrated fund, investing in UK companies it believes offer compelling value”.

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As well as there being UK smaller company funds and investment trusts, some multi-cap strategies have a bias to UK smaller companies, including Lowland and Fidelity Special Values.

Small to mid-cap stocks in the biotech sector are also attracting interest. “We see a strong opportunity in small and mid-cap biotech, where valuations remain depressed and large pharmaceuticals are actively seeking acquisitions to rebuild pipelines ahead of major patent expiries,” says Jonathan Alexander, investment manager, diversified assets, Aberdeen Investments.  

Alexander picks out RTW Biotech Opportunities Ord (LSE:RTW), a high‑growth trust managed by RTW Investments. He adds: “With RTW’s significant allocation to this part of the market and their deep scientific and operational expertise, the trust is well positioned to benefit from a renewed wave of M&A alongside a more supportive macro backdrop and accelerating drug innovation.

“There could be downside if some development stage products don’t attain FDA approval and the biotech equity market is notoriously volatile. For adventurous investors, though, it offers meaningful upside potential and differentiated alpha.”

Europe has strong tailwinds

While investors are waiting for a sustained recovery for both global and UK smaller companies, the worm has turned for Europe as a whole. Inflation has been easing, rates have been on a downward trend and increased defence spending is providing a tailwind.

“In Europe, the long-awaited boost from the German fiscal stimulus is starting to come through, with an acceleration in German government spending since September and clear momentum in activity data indicators related to infrastructure such as roads and rail, as well as defence,” says Thomas McGarrity, head of equity portfolio management, RBC Wealth Management. “While European stocks exposed to the region’s fiscal impulse have outperformed the broader European market over 12 months, we believe the substantial infrastructure upgrades required in coming years provide strong tailwinds to industries such as industrials, materials and banks, while valuations are not yet stretched, and earnings revisions remain positive.”

The unconstrained JPM Europe Dynamic (ex-UK) C Net Acc fund is well suited to this environment, with its 25% allocation to Germany. For a single country play, Barings German Growth I GBP Acc looks for companies with low price/earnings-to-growth (PEG) ratios with ample room to grow,  particularly family owned companies where decision-making is typically focused on a longer horizon.

“Defence has shifted from being a cyclical theme to a structural one,” says Tom Poynton, executive director at Baron & Grant. “In other words, investors do not need a world war scenario for the theme to play out – rearmament, intelligence, surveillance, cybersecurity and space-based defence infrastructure are now embedded long-term budget priorities across the US, Europe and NATO more broadly.”

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He adds: “This creates opportunities and not just in traditional defence contractors. Seraphim Space Investment Trust Ord (LSE:SSIT) is a good example, offering exposure to the commercial space and defence ecosystem rather than headline weapons systems. The trust has meaningful weightings to companies involved in satellite imagery, communications, navigation and intelligence – all of which benefit from increased defence and security spending in a lower-intensity but more persistent geopolitical environment.

“Seraphim’s largest holding, ICEYE, is deeply embedded in European and NATO security frameworks and has potential to become a European champion in space-based intelligence – a strategic asset class governments are likely to prioritise for decades.”​​​​​​​

Opportunity knocks for Japan, China, and emerging markets?

As in European markets, many Japanese companies also stand to gain from fiscal policies, as well as generally becoming more shareholder friendly as a result of governance reforms.

“The Liberal Democrat Party’s landslide victory (in early February) strengthened the foundation for Prime Minister Sanae Takaichi’s administration, providing a powerful mandate and the likelihood of proactive fiscal investment in select domestic industries, such as energy, defence and semiconductors,” says McGarrity.

The enormous JPMorgan Japanese Ord (LSE:JFJ) and Baillie Gifford Japan Ord (LSE:BGFD) trusts are both well regarded, but for a more adventurous play, Man Japan CoreAlpha Profl Acc C fund has a value and contrarian approach, which could outperform in the current environment.

Michael Browne, global investment strategist, Franklin Templeton Institute, says China warrants a closer look. “As if 2026 hasn’t already delivered enough adrenaline-driven geopolitics, let’s look at some possible outcomes not currently priced into the market.” Imagine, he says, “if Chinese consumer confidence returns: demand destruction and Chinese deflation are finally over.” He adds: “This is clearly tough for bonds globally and great for equities, particularly any stock (even French luxury) that sells into China.”

Policymakers in Beijing are striving to boost domestic consumption, creating opportunities in subdued sectors such as travel and sportswear.

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Fidelity China Special Situations Ord (LSE:FCSS) is particularly skewed to consumption-led growth, says Tom Bigley, fund analyst at interactive investor. The fund’s manager, Dale Nicholls, “has historically found many opportunities across consumer sectors, with an allocation of 36.1% to consumer discretionary, which is 8% greater than the benchmark weighting.”

The investment trust also has “a clear bias to medium-sized and smaller companies where the manager believes opportunities exist due to lack of coverage. An allocation of up to 15% is permitted in unlisted names, which has enabled management to access growth companies at an early stage, including Pony.ai, a leader in autonomous mobility, and HashKey, the Hong Kong crypto exchange, which have since completed successful IPOs.”

For an exchange-traded fund (ETF) with a bias to China’s transformative technologies, an option is KraneShares CSI China Internet ETF GBP (LSE:KWBP).

Emerging markets as a whole have benefited from a weakening dollar and an influx of capital as investors rotated away from the US, and have successfully shrugged off political instability.

“While tariffs have weighed on sentiment, valuations remain attractive,” says Tomiko Evans, chief investment officer, Crossing Point Investment Management. “Increasing intra-Pacific trade has added resilience, with countries such as Vietnam and Malaysia gaining share within global supply chains and expanding industrial capacity.

“Fidelity Emerging Markets Ord (LSE:FEML) has significantly outperformed its benchmark, supported by active positioning, selective exposure to technology supply chains, and effective discount management.”

For BRI Wealth Management, the “preferred EM options include Schroder Oriental Income Ord (LSE:SOI) for diversified Asian exposure, and Ashoka India Equity Investment Ord (LSE:AIE) for single country,” says Boardman-Weston.