Fourth Quarter 2021

Small Cap Commentary | Fourth Quarter 2021

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Small Cap stocks ended the fourth quarter of 2021 almost exactly where they began, rising only 2.1% during the period. That is not to say that the last ninety days were dull, however. Midway through the quarter, the Russell 2000 Index experienced a correction of over 12% on fears of Covid resurgence and Fed tightening. Despite these headwinds, the Russell 2000 did rebound to a 2.23% return in December, and as we look forward to 2022, we believe that many small cap companies are well prepared for the coming year with record earnings performance, improved balance sheets, and strong demand backlogs.

Following a record performance in 2020 with a 19.9% total return, small cap stocks returned 14.8% in 2021. This performance was the largest difference from large cap stocks since 2003 as the S&P 500 Index rose 28.7% for the year. From the pandemic bottom on March 18, 2020, small caps stocks are up 131%, while large cap stocks are up 104%.

A few other observations from the year:

The Punch Small Cap Strategy had a total return of 10.7% for the fourth quarter and 39.3% for the full year compared to 2.1% and 14.8% for the benchmark Russell 2000, respectively. For the year, security selection accounted for 20.4% of a 26% outperformance for a representative separate account.

Bottom and Top Contributors

Sleep Number (SNBR, $1.7 billion market cap) was the largest detractor from performance in the quarter despite strong earnings results and a positive outlook for 2022. We believe that many investors expect consumer spending to shift away from large-ticket home furnishings as the pandemic fades. However, mattress sales are often tied to housing activity, and we believe that severe housing shortages across the country are not likely to ease soon. Sleep Number’s innovative mattress technology, adept marketing, and impressive operational performance through the pandemic give us confidence that the company is poised for growth in the coming years. With shares trading at a single-digit price-to-earnings multiple, we added to our investment in the fourth quarter.

Oportun Financial (OPRT, $620 million market cap) also detracted in the quarter following its decision to not pursue a bank charter and the announcement of a $200 million acquisition of online credit subscription service Digit. Oportun, a provider of alternative credit services, continues to benefit from exceptional consumer credit profiles nationally and a growing need for non-bank lending by its target market.

Semler Scientific (SMLR, $540 million market cap), a medical device company with an innovative technology for assessing peripheral artery disease (PAD), reported an uncharacteristically weak quarterly result as pandemic conditions affected the timing of at-home testing. We believe this quarter was anomalous and look forward to more detail on the company’s new product launches in 2022. No new companies were added to the portfolio in the fourth quarter and the single exit was Deluxe Corp. (DLX, $1.4 billion market cap). Following weak operating results, a large acquisition, and unclear strategic direction under a new CEO, we decided to exit the position.

The largest holding in the Punch Small Cap Strategy at the end of 2021 was also its top contributor to performance in the fourth quarter. B. Riley Financial (RILY, $2.3 billion market cap), a Los Angeles-based investment bank and diversified financial services firm, reported record earnings following a strong year for underwriting, institutional brokerage, and principal investments. In October, the company raised its regular quarterly dividend to $1 per share and declared its fourth special dividend of the year. The trailing twelve-month dividend yield today is almost 15% as the company follows its stated policy of returning a significant portion of earnings to shareholders every year.

Bluelinx Holdings (BXC, $770 million market cap) was the second largest contributor to performance in the quarter and as a distributor of specialty building materials continues to benefit from robust housing activity and elevated commodity prices. We had the chance to sit down with the company’s new CEO in September and came away optimistic about the company’s renewed strategic focus.

Franchise Group (FRG, $2.1 billion market cap) was also a large contributor to performance in the quarter after announcing two large acquisitions— Sylvan

Learning and Badcock Furniture, both of which fit the company’s model of retail businesses with strong free cash flow and significant refranchising opportunities. As a result of strong core earnings, the company raised its dividend 65% in December and currently yields almost 5%.


The Punch Small Cap Strategy ended the year with 43 individual company holdings and had 32% turnover in the year.





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