Small Cap Value Report (24 Apr 2014) - Risk management, PURI, BVXP

Thursday, Apr 24 2014 by

Good morning.



Risk Management

Before looking at individual company results, I must make some comments on portfolio risk management. A share that is very popular with retail investors, Quindell (LON:QPP) recently plunged almost 50% on a new shorters attack by a website called Gotham City Research. I won't go into the ins & outs of that here, as it's neither a small cap, nor something I can comment on at Stockopedia, because I have personally been short of the shares for some time, and indeed have been very bearish in my comments here about the company since 2012.

The reason I mention it though, is my shock and dismay at reading some bulletin board comments about how some people have said that the shorters have ruined their lives, inflincting huge financial damage on individual investors. The reason I am shocked is that anybody could be so reckless, and stupid, as to expose themselves & their families to huge financial loss on an AIM share dropping 50%.

This shows appalling lack of risk management, which is the vital first step that all investors must put in place before they even get started. You MUST have portfolio rules to manage risk in any circumstances, as follows;

1. Diversification - the simplest way of managing this is to set a maximum percentage of your portfolio that any share can reach. Personally I have a 15% rule - i.e. that I keep a running total of all my portfolio on a spreadsheet (which consolidates all positions, however held - e.g. ISA, SIPP, spread bet accounts, etc), and then ensure that no individual share can represent more than 15% of the overall portfolio. This ensures that when (because it is inevitable with small caps) something goes wrong, and your biggest holding drops by 50% on a profit warning, that you can emerge relatively unscathed. With a 15% rule, the maximum you can ever lose is 7.5% of your portfolio, if your largest share plunges by 50% in price. That's just happened to me too, but not on Quindell shares, but on SpaceAndPeople shares. It hurt me financially, but it came nowhere near causing me financial ruin. That wasn't an accident. It was because I had set a sensible rule on maximum position size. So position size is one thing, and diversifying into various sectors…

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Realm Therapeutics plc, formerly PuriCore plc, is a biopharmaceutical company. The Company is focused on leveraging its immunomodulatory technology to protect and improve the health of adults and children. The Company has initiated drug development programs based on its hypochlorous acid technology. The Company is engaged in the development of small molecule therapies with potential application for the treatment of diseases in a number of therapeutic areas, and an initial focus in dermatology and ophthalmology. The Company has developed proprietary formulations of its technology, with anti-inflammatory and immunomodulatory benefits. Its pipeline of products include PR013 and PR022, which are in Phase I. PR013 is indicated for allergic conjunctivitis and PR022 is indicated for atopic dermatitis. Realm Therapeutics, Inc. is a subsidiary of the Company. more »

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Bioventix PLC is a United Kingdom-based biotechnology company. The principal activity of the Company is the development and supply of antibodies. The Company specializes in the development of sheep monoclonal antibodies (SMAs) for use in immunodiagnostics focusing on the areas of clinical diagnostics and drugs of abuse testing. The Company's non-vitamin D business consists of antibodies, NT proBNP (heart failure), testosterone, Free Triiodothyronine (FT3) (thyroid hormone), estradiol, and various drugs, such as tetrahydrocannabinol (THC)/cannabis, and progesterone. The Company offers products for indications, such as thyroid, fertility, oncology, cardiac, vitamin D, drug of abuse, infectious disease and miscellaneous. Its sheep hybridoma technology produces cell lines that secrete SMAs. The Company offers a panel of SMAs to 25-OH D and has various 25-OH D2 and 25-OH D3 specific antibodies. It sells its products through direct sales and through distributors. more »

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  Is LON:RLM fundamentally strong or weak? Find out More »

51 Comments on this Article show/hide all

fek47 24th Apr '14 12 of 51

In reply to post #82866

I take being misled badly, that's for sure!

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Paul Scott 24th Apr '14 13 of 51

In reply to post #82868

Hi Kenobi,

Risk management requires that all positions should be valued at the current market price, not at your purchase price. This does indeed mean that your top performing shares become overweight in your portfolio. I deal with that by top-slicing my best performing shares, to bring them back under my 15% maximum position size.

Although I don't top slice automatically, I think about it carefully in each individual case. So I allow myself "stretch" up to 20%, if a share keeps going up in price, and I'm super-confident about it - e.g. if there's been some spectacularly positive news about the company, and the market is still digesting it, with the shares likely to go much higher, then I would not sell.

Rules are made to be broken in my view (but only when it's your own money), but you have to have a bloody good reason to break any of your core rules. Also if you're managing anyone else's money, then the rules you've agreed with them have to be observed rigidly in my view.

Cheers, Paul.

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Henry Walpole 24th Apr '14 14 of 51

Thanks Paul for the very good advice re risk management. I've just accepted your challenge and although my largest holding Synety (LON:SNTY) is just less that 15% of my overall portfolio a 50% fall would be quite painful!!

Incidentally, for Mac users Investoscope software is brilliant for managing multiple portfolios as it presents a consolidated view of all your holdings across multiple ISAs/SIPPs etc. This makes it easy to spot when you've become overweight in a particular stock.
Note: I've no connection with the company - just a satisfied user of the software.

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ridavies 24th Apr '14 15 of 51

Hi Paul. I echo thoughts that you are feeling better. I agree with all your comments and they are good advice IMHO.
However, no one so far as I am aware has mentioned the ethics of shorting. I don't do it - maybe to my cost - but I presume that in a hypothetical case (which is quite possible I would guess) a share I hold with the hope of a rising price based on performance can be 'borrowed' and used against me in a carefully planned exercise to reduce the price and then make money by buying back in at the lower price? In fact, with gearing that process can be multiplied several times over. I feel that your shorting should be limited to selling a holding you have in that share to reflect your lack of confidence in the company. Similarly with your going long - buy the share.
Even accepting the current system of short and long positions, I regard these organized raids as being no less wrong than insider trading which is an illegal act. I would like to see the same limits put on trading. I expect it will never happen, but that is one of the major problems wrong with our financial system and the same sort of behavior led to a near cataclysmic result in 2008-9. For those of us who save, it was catastrophic and we will be picking up the tab in terms of annual reductions in the value of our money for several decades - if we live that long.
Just a thought to balance the absence of morality in all I have read so far - yet if I remember rightly it was your comment on the morality of the potential behavior built into the model of Staffline that encouraged me to think about it again and eventually to sell my stake far too early. My fault - always up to individuals to take or reject advice / comments, from whatever source.
That said, I enjoy reading your comments and value the experience behind them..

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superrupededupe 24th Apr '14 16 of 51

In reply to post #82869

Get over it. No you don't. You take seeing your investments decrease in value badly, that's for sure!

If SAL had 'misled' you in the other direction and their statement had said "Actually, things have gone a lot better than we expected only last month, a couple of unexpected orders have come in and we are going to make more money than we previously thought..." I doubt you'd be bleating so much.

I agree that management do not come out of this smelling of roses, but they are guilty of hubris and not dishonesty. Continuing to make unfounded allegations is not really cricket.

You should temper your own disappointment, sell, and move on to the next one. With such a diversified portfolio you should have plenty of other businesses to focus on.

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Dinocras 24th Apr '14 17 of 51

Hi Paul,

Interesting discussion on risk. Agree that it's key to manage your risks and that setting a max % for an individual share is a good discipline. Personally I set 10% as a general max stretching to 15% if I have one on the up that I'm confident in. But for some of my shares that I consider to be at the riskier end of my portfolio I halve those figures; so for the more speculative investments I hold such as Zanaga Iron Ore (ZIOC) or Mirada (MIRA) I would look hard at top-slicing at a 5% holding.

I too got hit by SAL and sold them when the bad news came out - unpleasant but not a problem, in fact my total portfolio value hardly changed on the day. Of course the opposite in also true, that a 50% rise would not have had a major impact either. But being at the upper end of the age scale (even older than you) preservation of capital is more important to me; although my non-investor friends think I'm completely balmy and taking huge risks whereas I think they are paying dearly for avoiding risk - so it's horses for courses I guess. Two aphorisms I hold dear are "don't lose money" and "most investors don't take on enough risk" though I think that latter one is aimed more at people like my non-investing friends and not readers of your highly informative blog.

Happy investing


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Bezhe 24th Apr '14 18 of 51

Well done on writing Investing 101. Every aspiring investor should read this page before spending any money.

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Paul Scott 24th Apr '14 19 of 51

In reply to post #82872

Hi ridavies,

Re shorting, I accept there are differing views on this. I've also struggled with the morality of shorting in the past, but these days I believe it is an essential part of an orderly market. If people are not able to short over-valued companies, then bubbles will continue to expand until they are so huge, that the eventual collapse will cause utter carnage to the financial system.

Take ASOS or OCDO for example. Both reached ludicrous over-valuations, and eventually short sellers find a weakness, and bring the price sharply down to reality again. ASOS is now still expensive, but not in dangerous bubble territory any more. So in my view the short sellers who helped bring down the share price there have actually performed a vital service in snuffing out an irrational boom.

For a market to function healthily, there need to be mechanisms for share prices to rise and fall, to bring them back into line with reality. That means, that love them or hate them, shorters perform a necessary function.

These days there is no issue with borrowing shares. I just place a down spread bet with a SB company, and they simply match off my down bet against another client's up bet. So no stock borrowing is necessary. The SB company simply sits in between a bull and a bear on the same stock, and pays the winnings out to the client who gets it right, funded by the other client who lost.

Where shorting becomes unethical is where misinformation or lies are spread. However, that is just the flipside of the coin for all the ramping & lies that is peddled to push up share prices! So anyone presenting false or misleading information about any share should be rightly condemned, irrespective of whether they are trying to pump the share price up, or pull it down. Everyone talks their own book, and personal opinions are fine, whether bullish or bearish. However, deliberate lies are not fine, and should be punished by the market regulators. Note that by far the overwhelming bulk of misinformation out there, is overly bullish comment! So a little bit of balance from shorters is surely a good thing?

Look at all the abuse I get when I point out the negatives in popular shares. My name is dragged through the mud on advfn, people try very hard to shut me down, but you know what? In the long run, I'm usually correct! And the fools who only wanted their shares to be ramped, and tried to silence dissenting voices such as mine, end up losing their money. Karma.

So overall, a healthy market needs a healthy dose of scepticism. Bulls and bears are needed. Providing everyone speaks the truth, and/or just airs personal opinions, then it's fine. When people start lying by ramping/deramping, then they should be rightly condemned.

Thinking about 2008, the shorting bans didn't really work, and can be seen by markets as being counter-productive measures driven by panic. In a capitalist system you've just got to let market forces play out in whichever way they are going. There will be winners & losers from that process.

As regards individual shares, if you want to avoid being attacked by shorters, then just stick to buying good quality, reasonably priced companies. If a shorter attacks such a company, absolutely nothing happens.
What shorters do is to seek out pockets of over-valuation, and weakness. Then they go for the jugular. The person who is in the wrong, is the person who is holding the over-valued share! Also I feel that if people are so stupid that they can be panicked into selling by something written on a bulletin board or Blog, then more fool them. If they had done their research properly, then they would see a shorting attack as a chance to buy at an artificially favourable price. If they are right, then the shorters will have helped them make a big profit.

Regards, Paul.

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fek47 24th Apr '14 20 of 51

In reply to post #82873

Superrupededupe, in response to your points:

- if management had announced a big upgrade 3 weeks after the last update, I would also have sold due to questions around the reliability of their forecasting. Although yes, I accept I would have been pleased with the outcome, rather than furious as I am now.

- I did sell straightaway.

- Yes, fortunately my well diversified portfolio has done well subsequently. I am up 5% in the last 3 days (on paper at least) even after the SAL debacle. If you know of a low TER tracker that can produce that kind of return, please let me know and I'd be happy to put my entire portfolio into it!

- Re the 15%/5% limit on one investment, surely I don't have to explain to you the mathematics of the outperformance you need to recover from a 50% fall in a holding which represents 5% of your portfolio, versus the situation if it represented 15% of your portfolio?

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Paul Scott 24th Apr '14 21 of 51

In reply to post #82877

Hi fek,

You said;

- Re the 15%/5% limit on one investment, surely I don't have to explain to you the mathematics of the outperformance you need to recover from a 50% fall in a holding which represents 5% of your portfolio, versus the situation if it represented 15% of your portfolio?

That point isn't valid though. Because the winners will also be larger in a 15% portfolio, as opposed to a 5% portfolio.

So in my portfolio, I've lost half my money on SAL, but I've more than doubled my money on FCCN. Both were similar sized positions, so overall I'm still up. That would be pretty much the same situation in both the 5% portfolio and the 15% portfolio.

So to my mind it's more about your appetite for volatility. If you can cope with increased volatility without being phased by it (which I can), then 15% is fine.

Although I also agree with Terry's previous comment that a lower % should be used for higher risk shares. So if something was high risk/high reward, then I'd probably not put more than 2-3% of my portfolio into it.

The trouble is though, you never really know for sure which shares are the most risky. I thought SAL was safe as houses, and was astonished at their profit warning. Equally, I was really nervous about being wrong on FCCN. But as it turned out, my best performer this year has been the one I was most worried about, and the worst performer has been the one I was most confident about!

So it really goes to show that we try our best to predict the future, but ultimately small caps investing can sometimes be little more than educated guesswork. There's a considerable element of luck involved too.

Regards, Paul.

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narp 24th Apr '14 22 of 51

In reply to post #82874

Non investors probably hurt themselves more by avoiding risks they imagine they might regret than by taking risks they really do end up regretting.
People who avoid actions that they think might later hurt are buying emotional insurance that they do not actually need.

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Paul Scott 24th Apr '14 23 of 51

In reply to post #82879

The other point to consider is that people often confuse risk and sentiment.

So nearly all my biggest & best investments wins have been when I have totally ignored negative market sentiment, because I had worked out that the market was dramatically wrong, and had priced in far more risk than actually existed.

The best example being Trinity Mirror (LON:TNI) at 25p in 2012, when despite me explaining in great detail why the shares were a ridiculous bargain on a PER of 1, not many people could overcome the crushing negative sentiment around the share to buy in size. We can now see that it was the most obvious bargain of the last few years - free money just sitting on a plate really, but people were reluctant to take it, due to sentiment generally being foremost in peoples' minds, ahead of real risk.

So I think separating the two is vital. That's when sometimes it's good to tune out of Bulletin Boards completely, as they can badly cloud your judgment.

Take SAL now. It's actually lower risk at 70p (because there are no solvency issues, and the bad news is all in the price now) than it was at 140p. Yet we were all far more positive about the share when it was double the current price early last week! What we didn't realise is that there was big risk lurking unseen, about to be revealed.

That's why I think there can be good money to be made buying after profit warnings. You've got to be so selective though.

Regards, Paul.

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fek47 24th Apr '14 24 of 51

In reply to post #82880

I'll bet you a 3 Michelin * dinner that Spaceandpeople (LON:SAL) put out another profit warning in the next 12 months!

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superrupededupe 24th Apr '14 25 of 51

In reply to post #82881

That is just meaningless. Besides, I'm a bargain-hunter - I wouldn't feel comfortable in a 3 Michelin * restaurant, regardless of who is paying.

The issue of risk and diversification is an interesting one.

My attitude is guided by the fact that I don't need the amounts I'm investing in order to maintain my lifestyle. So I can take comfort from the fact that if all of my investments went to zero I would live no differently. Yes, I would be upset, but it wouldn't change how I lived.

Once you've established the maximum downside you can tolerate (mine is 100%) then you are left judging your ability and inclination to do a lot of research into each stock you purchase. I've decided that I am prepared to do quite a bit of research (reading company statements etc) before investing and that I am quite prepared to be very patient with my holdings.

In light of the above I consider over-diversification to be a much greater risk than under-diversification to my portfolio. Risk is mitigated by the work that you do before entry into the position, rather than spreading your portfolio across lots of positions that you can't possibly have researched properly. Have few eggs in the basket and watch those eggs carefully.

Setting arbitrary % limits at which you will sell, top-slice etc. is only going to hinder you from running the winners, which is where the money is really made. All that over-diversification will do is average out your performance to something approaching mediocrity.

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Commanderbox 24th Apr '14 26 of 51

Good article
I was passing through Bloomsbury and popped into the SAL AGM; but could not stay for the full grilling.

I am not a shareholder, but am curious to understand the company better after recent events – which the market may have over-reacted to. Who knows?

Here is my take on the meeting (please note that I know very little about SAL)
+ CEO is humble, not a great salesman (which I like). He contritely explained the recent issues in a lot of detail. He is also financially aligned with shareholders – which he was keen to re-iterate.
+ As Paul mentions above, SAL’s issues do not seem to be related to negligence, a flawed budgetary process or deliberate attempts to mislead the market. I think SAL was genuinely caught out by multiple negative events.
+ Some of the shortfalls are due to temporary budget variances, others seem to be more endemic to the industry.
+ I guess my main concern, therefore, is that the permanent variances suggest the emergence of a more challenging competitive environment for SAL.
+ SAL generates just over 10% ROIC which suggests it has limited competitive advantages.
+ Are there any barriers to entry in this industry? I would have thought it would be relatively easy for a start-up to compete – though not many would bother for 10% ROIC.
+ Until I do some proper work on SAL I would not value it at more than 10x earnings. Perhaps there is a bit of upside given today’s stock price?

As I have mentioned, I know very little about this business - I have barely read the annual report.

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davidtalbo 24th Apr '14 27 of 51

With regard to risk analysis and portfolio analysis generally, it would be useful if Stockopedia, as well as offering individual portfolio analyses, also allowed an amalgamated analysis of multiple portfolios (for example, SIPP, ISA, share, family, etc.). This is one of the suggestions on the Feedback Forum, Top Ideas which Stockopedia are considering implementing, but it has received surprisingly few votes. I would urge posters who have multiple portfolios and want to assess their overall investment portfolio easily to add their vote to this idea.

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alexdonnelly 24th Apr '14 28 of 51

Hi paul

I was a shareholder in qpp until today. Have been wary after reading pauls comments and my looking at the cash flow. I currently look at gearing but will read pauls suggestions on this.

Many thanks for the effort you go to sending out your daily updates



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cig 24th Apr '14 29 of 51

In reply to post #82864

"How can you possibly keep an eye on the performance of 50 businesses, anyway?"

You can by simply making long term bets that don't require day to day monitoring. Most short term news is either irrelevant noise in the long term, or significant but included in the price either at the open or during the first hour, which for most people is impractical to trade, and after which you're usually back to a fair deal for the circumstances.

If you have a portfolio of 50 five year bets, you will rotate 10 stocks a year, so less than 2 trades (1 buy 1 sell) a month, which is not that taxing.

I bet most investors would improve their performance if for some reason they got news with a one-week delay as it would prevent some emotional instant reactions and mitigate overtrading. (I try to follow a "never trade news on the day" rule personally.)

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ericb 24th Apr '14 30 of 51

i often read the business pages several days late - it can be quite illuminating !!

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Boros10 24th Apr '14 31 of 51

Hi Paul

Absolutely fabulous article on risk management. Some great advice and so well written.

Thank-you for commenting on Bioventix which hints at some of the attractions of this stock. I have taken the liberty of writing a more extensive review which can be found at



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About Paul Scott

Paul Scott

I trained as an accountant with a Top 5 firm, but that was so boring that I spent too much time in the 1990s being a disco bunny, and busting moves on the dancefloor, and chilling out with mates back at either my house or theirs, and having a lot of fun!Then spent 8 years as FD for a ladieswear retail chain called "Pilot", leaving on great terms in 2002 - having been a key player in growing the business 10 fold. If the truth be told, I partied pretty hard at the weekends too, so bank reconciliations on Monday mornings were more luck than judgement!! But they were always correct.I got bored with that and decided to become a professional small caps investor in 2002. I made millions, but got too cocky, and lost the lot in 2008, due to excessive gearing. A miserable, wilderness period occurred from 2008-2012.Since then, the sun has begun to shine again! I am now utterly briliant again, and immerse myself in small caps, and am a walking encyclopedia on the subject. I love writing a daily report for on most weekday mornings, constantly researching daily results & trading updates for small caps. Cheese! more »


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