Explained: When will small-cap investors catch a break?

Small-cap UK stocks still can’t catch a break. Despite outperforming their large-cap peers during May, many remain stuck in the valuation doldrums.

That’s the recurring theme in Shore Capital’s latest monthly, where analyst Rob Sanders again stresses that “UK equities, especially at the smaller end, remain undervalued”.

This isn’t a new idea, but it’s one that keeps ringing true. While indices like the FTSE 250, AIM and the FTSE Small Cap all gained more than the FTSE 100 last month, they still trail over the past year.

The FTSE Fledgling and AIM All-Share, for example, posted monthly gains of more than 8% in May, but they’re still well off the pace when you zoom out.

Sanity check

If you want a simple sanity check on value, just look at the steady stream of M&A activity.

May brought the busiest month for bids and approaches in a while, with companies such as H&T Group PLC (AIM:HAT), Deliveroo PLC (LSE:ROO) and Kinovo PLC (AIM:KINO, OTC:BILBF) among those receiving takeover offers.

According to ShoreCap, these bids are a “clear indicator of the relative value of UK equities”.

And it's not just the valuations attracting suitors. The companies themselves are holding up well.

ShoreCap notes that the “vast majority of companies continue to meet expectations”, with positive updates far outweighing negative ones.

Yes, there are some downgrades, and Trump’s tariffs have introduced new uncertainties, but the fundamental story is of businesses doing just fine, often better than the share prices suggest.

Catch-up time

So why hasn’t the market caught on? One explanation lies in what ShoreCap calls the “de-equitisation” of the UK. Companies are being taken private, bought out, or simply buying back shares at a much faster rate than they’re raising fresh capital.

That’s partly a function of undervaluation: why issue new equity when your stock feels too cheap? But it also reflects a lack of growth investment. ShoreCap would prefer to see firms reinvesting to drive higher margins and revenue, rather than shrinking themselves.

Zooming out, ShoreCap also revisits some longer-term themes. Over the past 50 years, the make-up of global indices has shifted massively: industries like tech have taken over, and the US has extended its dominance.

But ShoreCap argues this reinforces the need for innovation. If the UK can tap into that, through sectors like renewables, fintech or advanced manufacturing, it could turn around not just sentiment, but performance.

More context

There’s a global context, too. US equities remain dominant, but ShoreCap believes there’s scope for a rotation out of US Big Tech, especially if interest rates continue to fall and investors look for cheaper growth elsewhere.

And while Trump’s trade policies add a layer of noise, recent trade deals between the UK and the US, India and the EU could help offset some of that disruption.

All told, ShoreCap is sticking to its guns: “We continue to view the smaller end of the UK market as particularly undervalued.”

That alone won’t turn things around. But if enough investors (or bidders) reach the same conclusion, there could be more to May’s small-cap rally than a seasonal bounce.