Stockwatch: Down, but far from out

Following last week's piece on Jupiter Fund Management, I should mention another aspect of high yields exacted from equity-oriented financial stocks. Company brokers are perceived as having riskier earnings than asset managers, given capital-raising can be cyclical and retainer fees for advice are a relatively smaller aspect than in asset management. If corporate clients put off investment decisions, as is the post-referendum worry, fees get scarce. The global climate of uncertainty may also contribute to hesitation.

What such fears overlook, however, is the "cult of equity" remaining attractive for corporate financing e.g. including debt reduction also. The Bank of England governor has reinforced it, asserting the likelihood of an interest rate cut, and global markets have surged in the expectation of further stimulus by central banks.

As I have explained in macro comment pieces, it continues to affirm "buy the dips": even if there is a bubble aspect in equities, a weight of money has nowhere else to go. It's still possible to find attractive yields among equities as those from bonds shrivel even to negative. Asset managers can benefit, but so can brokers which help firms tap into this demand.

Corporate broking shares hard-hit by sentiment

Yet the market is taking a decidedly negative view of brokers serving small to mid-cap firms - prime examples being AIM-listed Cenkos Securities and Numis Corporation which provide advice, capital-raising, equity research and market-making.

This is not recent: sentiment has kept weakening since 2014, when small-caps consolidated after a 2012-13 boost, leading to doubts for how long the brokers can prosper.

Admittedly, small to mid-cap firms are more UK oriented, hence exposed to slowdown, but this can get (overly) priced in. Numis has drifted 44% from 345p in spring 2014 to about 195p currently, on a forward price/earnings (PE) ratio of about 8 if forecasts are realistic, and yielding 6.3% covered twice by earnings (these are Edison forecasts - i.e. paid for - but in signing them off, Numis should have ensured they were in line with budget.)

Cenkos has put its 2015 profits slip down to a change in fundraisings initiatedCenkos has fallen 51% from 244p in 2014 to about 120p, poor sentiment reinforced by having been broker to Quindell plc - re-named Watchstone Group. There appear no forecasts implying (as with Numis having to pay) such stocks have fallen from the radar. Cenkos' 2015 dividend of 15.0p covered 1.6 times by earnings, equates to a near-14% yield, hence scope to reduce the payout and the yield remain competitive. The stock's drifting this low suggests the market is unconvinced, yet also jaundiced.

Cenkos' 2015 pre-tax profit fell 26% just below £20 million whereas Numis grew its own by 7% to £26.1 million - although Cenkos' profits were still its second-highest after 2014's record year, with £3 billion equity fund-raisings last year including £1 billion for BCA Marketplace plc.

Cenkos has clarified its 2015 slip as due to a change in fund-raisings initiated - more towards investment funds and larger deal sizes - also lower market-making activity. Year-on-year it doesn't look great, albeit in medium-term context is still respectable.

Business models are financially attractive

Despite an aspect of cyclical revenues, it is worth respecting high margins and cash generation, conducive to payouts. This argues for buying such stocks when they are well down.

Since flotation in 2006, Cenkos has returned £102.2 million cash to shareholders, equivalent to 154.8p per share. Additionally, in the last financial year, cash flow was sufficient to enable share buybacks equivalent to 30.0p per share.

Director buying last April shows executives believe it's in value range Its 17 May AGM statement was encouraging, if vague, citing a "satisfactory" pipeline and outlook for the full year, engaged in significant fund raisings despite challenging markets.

Anecdotally, from client company announcements, it appears Cenkos has been involved in plenty of smaller fund-raisings, albeit nothing substantial since a £185 million placing by Benchmark Holdings last December, where interestingly they have been replaced by Numis Corporation.

Last April, three Cenkos executive directors bought a total 153,818 shares at prices from 121p to 145p, so they believe it's in a value range - although since the Brexit vote none has added. While Cenkos may not be the best quality play, its progress is respectable and its pricing merits attention.

Numis has a profile edge over Cenkos

A cautious stockmarket may favour a cleaner profile, hence the case for Numis. Market uncertainty was worse in January/February 2016 than now, yet Numis still managed to build on strengths: a recent Experian survey of financial advisers ranks it first for deal volume, and it was voted "best adviser - corporate sponsor" in the UK stockmarket awards 2016.

Interim results for the six months to end-March show revenue up 24.3% to a record £56.8 million, enabling adjusted pre-tax profit up 35% to £19.3 million and a 40% advance in adjusted earnings per share to 14.0p.

Numis's risk/reward profile looks attractive despite Brexit implying uncertainty These numbers were based on raising £1.2 billion equity funds, nearly 9% of total equity funds raised on the London Stock Exchange, and Numis says its second half has "started well and our deal pipeline is strong."

The current chief executive is to step down this autumn (yet remain on the board), being replaced by a 33- and 38-year-old as joint chief executives; affirming the sense of a transaction-oriented business that demands energy.

So, the underlying risk/reward profile for Numis looks attractive despite the referendum implying some uncertainty for capital-raising. While the directors (as at Cenkos) have not added to their shareholdings since the Brexit vote, the chief executive owns 8.2% of the equity and two other executive directors, 3.0% and 4.9% respectively. 2016 should affirm growth, but it may be premature to assume much about 2017. Yet the dividend is material and well-covered to allow for earnings slippage, hence a circa 6% yield provide support.

Small to mid-cap brokers are overlooked in a clamour of Brexit financial advice; yet these two have been making worthwhile returns and with "buy the dips" proving valid, the stockmarket will remain central to corporate finance. So consider Cenkos as a contrarian play and Numis as industry leader.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.