AIM Investing – does it hit the mark?

A favourite of tax advisers and stockbrokers, but is ‘The Alternative Investment Market (AIM)’ worth the risk for low to medium risk investors? I’m not convinced. Here’s why.

1. What is the AIM?

The AIM is a market which provides small and fast growing businesses opportunities to generate capital. Since its launch in 1995, approximately £100bn has been raised for over 3,500 companies [1]. It has helped companies like Domino’s Pizza, Booker Group, Hiscox Insurance and – more recently – ASOS, the online retailer, thrive with impressive success stories.

The market is not regulated by a formal regulatory agency, but by the London Stock Exchange (LSE) itself. The more flexible regulations give firms the opportunity to seek outside investment on a popular exchange, while avoiding high compliance and disclosure costs that would be incurred on the Main Market.

2. The risks

Size bias, liquidity risk
The AIM index veers towards smaller companies (FTSE AIM All-Share index median holding has a market cap of £18m compared with the FTSE All-Share’s of £714m [2]) with much lower liquidity than firms that sit on regulated exchanges [3]. Costs to enter/exit investments can be significantly high. It should be noted however, that AIM companies tend to have lower gearing, on average, compared with companies on the Main Market [4].

UK bias
It is well worth remembering that the majority of the companies within the FTSE AIM All-Share index – perhaps not surprisingly – are UK firms (around 80%).

High concentration
The top 10 holdings of the FTSE AIM All-Share index make up 25% of the index, with the largest holding – ASOS – around 5% of this.

Age
Around 30% of the firms within the FTSE AIM All-Share index are under 5 years of age. Research (Gerakos, 2011) has suggested that over a quarter of companies fall out of the index within just one year of admission.

“I’m concerned that 30% of issuers that list on AIM are gone in a year”
Roel Campos, former SEC commissioner

3. The returns

Index returns
Since 2001, the returns of the FTSE AIM All-Share index have been lower than those from the Main Market (FTSE All-Share and FTSE Small Cap). The last 10 years in particular have seen disappointing returns, while both small cap and broad market stocks on the regulated market have risen significantly [5].

From a volatility perspective, it hasn’t been good news either for AIM companies:

3-Year Rolling Volatility of AIM Companies vs Main Market Stocks - Jul 98 to Jun 17
3-Year Rolling Volatility of AIM Companies vs Main Market Stocks – Jul 98 to Jun 17

How the professionals perform
While AIM companies, on the whole, have had disappointing performance in recent years and the additional risks taken don’t appear to have been rewarded, there are certainly opportunities to be made when researching, and investing in, specific AIM companies. For example, managers such as Unicorn and Octopus (amongst many others) have returned 8.9% and 4.9% respectively per year in their AIM Venture Capital Trusts (VCT) compared with -1.1% for the FTSE AIM All-Share between Jul-07 to Jun-17. Note: these are not recommendations.

4. Tax advantages

Tax savings
A major attraction for investment in AIM companies is the tax advantages available to investors. The example below shows the possible IHT savings a simple Business Relief (BR) – formerly Business Property Relief (BPR) – qualifying investment [6] could achieve:

Example of Potential IHT Savings When Using BR Qualifying Investments
Source: Enterprise Investment Partners (2017) Using Business Relief (BR) to Mitigate Inheritance Tax (IHT) | Martin Sherwood and Shane Gallwe, www.youtube.com/watch?v=rzyLupu96pQ

Fees
Recent research [7] suggests that the total charge to deal and exit with a BR manager on average is around 2.8%, excluding the average AMC [8] of 1.4%. This is also discounting any performance fees that may be incurred.

It is important to ensure, for BR investments, that the manager is continually monitoring the trust’s investments to ensure the holdings are retaining their BR status otherwise the tax relief will be lost.

Furthermore, the investor’s attitude, need and ability to take risk should be taken into consideration before jumping in (avoid letting the tax tail wag the investment dog).

5. Summary

To sum up, in agreement with Gerakos et al., historically speaking from a risk/return perspective it is hard to make an argument for AIM investing – especially from a passive (indexing) perspective.

“The AIM is unlikely to be attractive to an investor pursuing a diversified passive portfolio”
Gerakos (2011)

However, it is clear there are huge opportunities within the AIM (e.g. £1,000 invested with ASOS at IPO back in October 2001 would now be worth a staggering £250,000 before dividends!). If it were possible to select a fund manager with the certainty that they would choose the winners consistently there would be a strong argument to invest in AIM companies. But given that over 20 years of manager performance is needed before one can be sure the manager is skilful at doing so, this in itself is a challenge.
Note: From the FCA’s regulatory perspective, these investments should only be purchased by high-risk investors.

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Footnotes:
1 www.londonstockexchange.com/companies-and-advisors/aim
2 www.ftse.com/Analytics/FactSheets, FTSE Russell as at 31 July 2017
3 Gerakos, J., (2011) Listing Choices and Self-Regulation: The Experience of the AIM
4 Mallin, C., (2009) Corporate Governance in Alternative Investment Market Companies: Determinants of Corporate Governance Disclosure
5 Morningstar Direct ©
6 AIM companies are unquoted business and so give 100% relief on IHT after a 2-year holdings period. (Intelligent Partnership (2016) AIM Industry Report 2016)
7 Intelligent Partnership (2017) BPR Industry Report 2017
8 Annual Management Charge

Duncan R Glassey
Senior Partner – Wealthflow LLP

duncan.glassey@wealthflow.com

This article is distributed for educational purposes and should not be considered investment advice or an offer of any product for sale. This article contains the opinions of the author but not necessarily the Firm and does not represent a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but is not guaranteed. Past performance is not indicative of future results and no representation is made that the stated results will be replicated. Errors and omissions excepted.