AIMing for growth

The last six months of 2024 were challenging for AIM shares – both pre and post-budget. The AIM index has now seen returns of -5.6% in 2024, -8.2% in 2023, and -31.7% in 2022. This marks the first time since 2000-2002 that the AIM All-Share Index has fallen for three consecutive years. While this period is disappointing, we can take some heart that the bounce back for the AIM index post 2002 was extremely positive.

Going forward, we feel that the direction of travel is clearer. We are through the UK election, the US election and the UK budget – this should mean that businesses are able to make decisions with more confidence. While we have seen negative UK macroeconomic headlines in the press, there are some silver linings. The consumer is relatively well off - UK employment rates remain exceptionally high and Rachel Reeves has significantly increased public sector pay. In addition, the UK may be less exposed to potential tariffs imposed on the EU by the US, especially in light of recent tensions. The UK remains a heavily service-oriented economy, with services accounting for approximately 80% of GDP. Since services are less susceptible to tariffs compared to goods, the UK is in a favourable position to leverage its strengths in finance, legal services, and creative industries around the world.

Inheritance tax relief on AIM

The budget had a negative impact on the AIM market due to the reforms to inheritance tax relief rules. From April 2026, AIM shares will continue to benefit from inheritance tax relief but at a reduced rate of 50% - meaning a 20% effective rate of inheritance tax will apply to AIM shares. This rate applies no matter the value of AIM shares held.

These changes do not come into effect until April 2026. Until then, AIM shares will continue to provide 100% relief from inheritance tax to an unlimited value. This is providing the shares have been held for at least two years and at the time of death. If an investor passes away after April 2026, an AIM portfolio will be subject to the new reduced rate of inheritance tax.

The reduction in the inheritance tax break for AIM was disappointing and we are surprised that the government created a difference in business relief between a private business and an AIM stock (when investors have under £1m of business relief and agricultural relief assets). Alongside some of our AIM industry peers, we are lobbying the government for further clarity on these rules and if AIM shares could obtain business relief in unused pension pots going forward.

Ultimately, the UK needs thriving capital markets to enable growth and AIM is a key part of that.

Our positioning going forward

We have always had a bias towards higher quality, growth businesses and there remain plenty of these on AIM. Although we have seen some sales cycle lengthening, businesses need to improve productivity, particularly after the government’s national insurance rises. This should provide plenty of growth opportunities for AIM companies offering innovative business solutions going forward.

Particularly relative to US peers, AIM shares remain on cheap valuations. This feels particularly unusual for our businesses where a significant proportion of revenue is generated abroad. Many private equity investors share this view, as demonstrated by the significant rise in take-private transactions.

We aim to invest in as many mission-critical businesses as possible – where their product is vital to the underlying customer. There are also key themes that we are continuing to increase exposure to:

• Defence – we believe that ongoing geopolitical instability means that global government spending on defence will continue to increase. This includes cyber-security.
• Technology – as labour costs rise, we feel that the world will become increasingly automated. In addition, we think there will be continued government support as they desperately seek productivity gains.
• Energy transition - Russia’s invasion has shown the need to rely on your own energy supply. This will lead to further investment in the sector.

Read more: Investing in AIM shares - the benefits of backing Britain

What can we look forward to in 2025?

While our holdings can navigate a difficult environment, we would certainly welcome a faster growing economy. There have been some signs that the government has turned its attention to growth and there are some levers it can pull on deregulation and reform. So far, it has been warm words and little action; however, the government is clearly under pressure to push through change.

One of the key problems that the government could address, that would benefit AIM shares, is outflows from UK capital markets. It has been an extraordinary period of outflows for UK equities, particularly small caps. Healthy capital markets are key for a growing economy and the government could consider the following reforms:

• Mandate pensions to invest a proportion of assets in the UK
• Look for ISAs to have a minimum level of UK equity ownership
• Allow business relief in SIPPs, which would create inflows for AIM
• Remove stamp duty on UK equities
• Allow the British Business Bank to own listed companies

We feel that some of the changes above would create a virtuous cycle for investors boosting investment and growth. AIM shares have been found to boost the regions, productivity and economic growth all of which are key objectives for the Labour government.

One current change that may help investment for UK businesses is the reform to the defined benefit pension rules. The Government has proposed new rules to make it easier for companies to access the surpluses from defined benefit schemes. The potential uses for trapped surplus include: investment in the wider UK economy; investment in the sponsoring employer’s core business; and providing additional benefits to pension scheme members. Details are expected later in the year; however, this change should be positive for growth.

Historically, smaller company investments have generated higher returns than the wider market over time. We strongly believe that this can continue in the future as there is an inherent logic to it. Many of our smaller companies operate in niche and growing markets and they are nimble enough to quickly adapt to changes in technology or embrace disruptive practices. It remains very difficult to predict when a turnaround will start; however, we feel that it could be sudden as current low share price valuations should fundamentally support a rally.