High quality compounders are gems, but rare beasts for UK investors

High quality, compounding stocks are the holy grail for small cap investors. Many of these operate with disruptive business models and normally have some form of technology embedded that creates a barrier to entry. These stories can compound, year after year, for 10-20 years if onboarded at an early stage, and if the business models are profitable. Unfortunately for UK investors, while many of these business models exist, the cream of the crop are usually run as private businesses before being listed onto the US markets, rather than the UK ones, lured by the higher valuation multiples. But to do that you need critical mass and a market capitalisation over >£500m ideally. The most common mistake I've seen investors make with these stocks is selling out when the valuation starts to become toppy, failing to appreciate their ability to continue outpacing expectations. In my experience, when the sole reason for selling a stock is its valuation, when the growth runway is long, and the company is small, this is often a mistake.

But there are some in the UK markets and Alpha FX is an underappreciated choice

Because of this, these long term compounders are generally under £500m in the UK and are few and far between. There are several I like the looks of, including Sopheon (LON:SPE), Ideagen (LON:IDEA), On the Beach (LON:OTB), Bioventix (LON:BVXP), Zotefoams (LON:ZTF) and Tracsis (LON:TRCS). However, my pick of the bunch heading into the new year, is a £230m player called Alpha FX. The stock has stormed out of the gates since it listed in April 2017, raising £13m, but in my opinion, Alpha FX has all the hallmarks of a high quality compounder, with potential to smash current market expectations over the course of 2019. At 630p to buy, my price objective is 945p in one year's time.

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What does Alpha FX do?

Alpha FX (LON:AFX) is an FX provider. The company's heritage was in providing FX solutions (consultancy, technology platform, spot and derivative trades) to small and medium sized corporates, but has scaled rapidly, to an expected >£20m of revenues this year. Clients have also been scaling up, and disclosed names now include the likes of…

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