AIM Stocks – Elements 10

AIM stocks

This post is part of the Elements series, a Periodic Table of all the Investing Elements that you need to take control of your financial life. You can find the rest of the posts here.

Penny Stocks

What is it?

AIM stocks are stocks listed on the Alternative Investment Market, which is the junior stock exchange in the UK.

  • The rules for listing on AIM are less rigorous than for the main market, and the costs are lower.
  • To list on the main market, a company needs to have audited financial records for three years and to be worth at least £700,000 – and 25% of shares must be held in public hands

AIM relies on a system of nominated advisers, or nomads, whose job is to ensure the probity of their companies.

  • When a nomad quits, the firm has a month to find another one, or it is delisted.
  • Inevitably, nomads vary in quality and trustworthiness.

There are few / weak rules on things such as minimum trading history, market capitalisation or proportion of shares which have to be publicly traded on AIM.

  • Shareholder approval is only needed for the largest transactions, and financial disclosure and reporting requirements are generally less demanding.

AIM stocks are generally younger, smaller and more risky than those on the main market.

  • You can find out more about AIM, which is now more than 20 years old, here.

AIM has a reputation for being poorly regulated, and there have been a number of scandals (mostly centered around false accounting) over recent years.

  • In addition, the last article in this series went to considerable lengths to persuade you that you should steer clear of penny stocks.

So why am I telling you today that you should buy some?

  • Read on to find out.

What kind of element is it?

AIM Stocks are a subdivision of the Equity asset class.

Who needs it?

There are three customers for AIM stocks, of which two are legitimate:

  1. The active trader in UK stocks, who finds that some of the quality stocks he needs are now listed on AIM.
  2. The person wishing to shelter assets from inheritance tax.
  3. The gambler looking for volatility (usually from mining and energy stocks).

We can ignore the third category today, and direct those who are tempted back to our previous article on why you don’t need to invest in Penny Stocks.

The first two situations each derive from a change in the rules a few years ago:

  • AIM stocks became eligible for ISAs, and exempt from IHT after being held for two years (under the BPR rules originally introduced for family businesses.

This in turn led to some high-quality family-led firms moving from the main market down to AIM in order to pass on family holdings efficiently.

For the IHT investor, the main alternative to AIM is the EIS scheme, which is even riskier (though it comes with up-front income tax relief as compensation). (( We will cover EIS and VCT in a later article in this series ))

What comes before it?

For the active investor:

  • Repaying debts, an emergency fund, your workplace pension, paying down your mortgage, SIPP contributions, ISA contributions.
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For the IHT investor:

  • Simply the amassing of sufficient assets to require IHT protection.

The IHT allowance is currently £325K, but with the primary residence allowance this rises to £425K.

  • By April 2020, the combined allowance will rise to £500K.

What comes after it?

Only the most esoteric stuff, some of which is Inessential:

  • Hedge Funds, Gold, Commodities, FX trading, Spread Bets, SWAG, Options and Warrants.

What age do you need it from?

  • As a high-risk subdivision of equities, you’re unlikely to have a big enough net worth for AIM stock to be appropriate until your late thirties.

What age do you need it until?

This depends on which type of investor you are.

For the active investor:

  • Most individual AIM stocks are not the sort of thing that you’ll want to hang on to over the long term.
  • But if you decide to have a play money section to your portfolio, then AIM stocks would be filed under growth assets, like all the other equities.
  • And so, like other equities, you might keep them until you decide to switch from your own retirement portfolio into a monthly annuity payment.

Given current interest rates and longevity projections, this is unlikely to be before the age of 75.

  • Or alternatively, when you have failing mental faculties.

The IHT investor will need to hold the AIM portfolio until death, in order to qualify from Business Property Relief (BPR). (( Strictly speaking, there is a rollover period between BPR-qualifying assets, so you could be in cash when you die and still benefit ))

How much does it cost?

At first sight, AIM stocks are not expensive to trade or to hold, if you go down the DIY route.

  • AIM stocks are exempt from stamp duty.
  • So you could make a purchase or a sale for £5, and a round trip or switch for £10.

But small stocks are illiquid, and the bid offer spread could be 10% or more, compared with typically less than 1% for a blue-chip stock.

  • I recommend sticking to AIM stocks with a spread of 5% or less.

What’s in it?

AIM stocks are(relatively) high volatility, high risk, listed equities.

  • They can quickly crash in price, but they can also go up quickly, which is why they attract active investors as well as the IHT crowd.

Out of around a thousand stocks, maybe 200 are good. (( Everyone will have their own estimate, but I haven’t met an experienced AIM investor who puts the proportion at more than 25% ))

  • Of particular concern are foreign stocks – listings from China, Israel and Greece have run into trouble in recent years.

Research in 2016 by Dimson and Marsh at the LBS found that 72% of all the stocks to have ever listed on AIM would have lost investors money.

  • In more than 30 per cent of cases, shareholders lost at least 95% of their investment.
  • They also found that AIM has delivered a negative total return of 1.6% a year since its inception.

Aim’s 20 poor years are usually blamed on a high weighting of resources stocks (around one-third of listings) and lots of IPOs.

  • There’s also a tendency towards following investment fads – the low cost of listing attracts many opportunist compaises to the same trend, and most will fail.
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There have been some big winners, though.

  • £1,000 invested in ASOS would have grown to £162K by the time of the study, or 45% pa.
  • 39 companies have delivered returns of more than 1,000% (become ten baggers).

And a welcome trend is the increased competition for early stage funding – as well as VCTs and EIS, we now have crowdfunding and the British Business Bank.

  • This should mean that firms come to AIM later, and in better condition.

Lower-priced, more volatile stocks in general do worse than higher-priced, more stable stocks.

  • But smaller stocks generally beat larger stocks, so there is a trade-off.

The trick is not to go too small or too volatile.

  • I would stick to stocks price over 50p, with a market cap of more than £50M.
  • And if you have access to volatility data, then steer clear of the most volatile companies as well.

You should also exclude the most volatile sectors, like miners and energy companies.

What does a good one look like?

Here are a few things to look for:

  1. Market cap above £50M
  2. Share price above 50p
  3. Low historic volatility
  4. Not an energy or mining stock
  5. Not from a foreign country
  6. Growing revenues and profits, rather than a good story (blue-sky stock with binary prospects)
  7. Profits turning into cash
  8. Low debts
  9. Large public float

What does a bad one look like?

The opposite of the above:

  1. Market cap below £50M
  2. Share price below 50p
  3. High historic volatility
  4. An energy or mining stock
  5. From a foreign country
  6. Low revenues and no profits, but a good story (blue-sky stock with binary prospects)
  7. Profits not turning into cash (probably because there are no profits)
  8. High debts
  9. Small public float

Any recommended brands?

While there are quite a few familiar brands on AIM (mostly pubs, fashion and consumer stocks), there are no brands of AIM stocks.

Sometimes a familiar face on the board can be reassuring, but it could just as easily be a “recidivist”.

  • Serial officers of AIM stocks will often have a poor track record with their previous companies, and you may prefer to avoid them.

What are the main risks?

  1. Company risk (of a fall in the share price, or bankruptcy)
    • This risk is higher with small stocks since they have no reserves with which to absorb negative events.
  2. Price volatility
  3. Illiquidity (low trading volume, leading to wide spreads and price volatility)
    • This can make AIM stocks more expensive to trade than they first appear.
    • And you might not be able to get out of a stock when bad news hits.

How do you deal with these risks?

Stick to the stocks with the characteristics listed under “what does good look like”, above, and:

  1. limit your holdings (to say 5% of your overall net worth, unless you are an IHT investor)
  2. diversify – don’t have more than 5% of the AIM portfolio in a single stock
  3. check liquidity (spreads and trading volumes) before investing

Mike is the owner of 7 Circles, and a private investor living in London. He has been managing his own money for 40 years, with some success.

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AIM Stocks – Elements 10

by Mike Rawson time to read: 5 min