The era of ‘low interest rates, low cost of capital’ that we’ve experienced in recent years has led to a generation of investors, founders and operators who don’t know the reality outside the bubble and are now being caught out, says Equitable Investors’ Martin Pretty.

A situation, the fund manager says, that presents unique challenges – and opportunities.

“Companies have become accustomed to being able to invest in growth and not worry about delivering returns or about how quickly they run out of capital because there was always more,” Mr Pretty told Reach Markets.

But a range of macroeconomic and geopolitical factors in the current climate – inflation, interest rates, the Russia-Ukraine war – has altered the mindset of investors, triggering a large sell-off and raising the cost of capital as capital markets are drying up.

Within a broad-based fall in share prices, among the hardest hit have been smallcap stocks, particularly growth companies that still need capital to grow.

Mr Pretty refers to the market’s tendency of punishing these companies for being undercapitalised as ‘the Recap Opportunity’. This resonates with Warren Buffett’s mantra of ‘being greedy when others are fearful’, evidenced by Mr Buffett making billions of dollars by refinancing US banks during the GFC when they needed fresh capital the most.

“The availability of capital has perhaps not completely turned off, but there’s definitely less availability of capital now than before,” Mr Pretty said.

“It’s become a scarce resource for companies, resulting in depressed share prices, and you should be able to pick through those companies and find high-quality ones where you can recognise that giving them the capital will make a difference to their valuation. There’ll be plenty of investment opportunities if you have capital.”

Referring to the fact that the current environment is well-suited to stock pickers like Equitable Investors, he added: “You definitely don’t want to back all these businesses because there will be uneconomic, unviable propositions in there, but we’re confident there’s good businesses with strong management teams that just need a bit of help to get to where they’re going.”

Deep-diving into financial research has been a staple of Mr Pretty’s career, from his time as a journalist for the Australian Financial Review to his stints helping companies raise capital at Bell Potter and under billionaire Alex Waislitz’s tutelage at Thorney Investment Group.

“There’s two types of investors,” Mr Pretty said. “First, the institutions that when things start to go wrong for a company, they don’t want to know about it. They just move on to whatever’s next.

“And second, the more active style of saying ‘okay, so we can still see an opportunity here and maybe we can make even more money out of it by being people who help fix it’.”

It’s this latter proactive approach that appeals to Mr Pretty, whose fund has featured a near zero correlation with the broader market, thereby helping its investors diversify their portfolios.

“We roll up our sleeves and get involved in helping companies, whether it’s with funding or strategy or even investor relations. You help maximise value by being engaged constructively with your investees.

“So where we think we can be constructive, we will sit on board meetings, we’ll join boards, we’ll talk to third-parties such as investors and brokers who can help. We’re not sitting at our desk looking at screens all day.”

Join Martin Pretty next Wednesday, 29th June, at 12pm (AEST) for a special The Insider: Meet the Fund Manager webcast. Martin will talk about how Equitable Investors intends to capitalise on the Recap Opportunity, including some of his recent investments in the space. There will also be an opportunity to ask questions during the session. To book yourself in, click here.

Reach does not assume responsibility for the accuracy or completeness of any information provided, and the views expressed are not reflective of Reach Markets’ position