Why this small-cap manager is a fan of this high-risk, high-reward share

NAOS Small Cap Opportunities Company Ltd (ASX:NSC) is a fan of 360 Capital Total Return Fund (ASX:TOT).

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There are many opportunities on the ASX beyond the large caps, pot stocks and tech companies.

If investors are willing to looking further down the market capitalisation list, there's a lot of opportunities to be found.

Naos have analysed that there are around 1,380 ASX listed companies with a market capitalisation of above $10 million. After removing companies with no revenue, companies with a market cap above $1 billion and businesses in the oil & gas industries there are 662 companies remaining.

The NAOS Small Cap Opportunities Company Ltd (ASX: NSC) listed investment company (LIC) aims for market capitalisations of between $20 million and $1 billion.

The Naos Small Cap team have identified 360 Capital Total Return Fund (ASX: TOT) as a core position in December 2017.

360 Capital Total have created a strategy of providing short to medium debt funding packages for some property development projects. Naos believes the regulation changes affecting Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), National Australia Bank Ltd (ASX: NAB) and Australia and New Zealand Banking Group (ASX: ANZ) have changed the banks' willingness to fund projects regardless of the economics or size of the project.

The Naos team think that as the big banks retreat it will allow 360 Capital Total's funding reserves and management's ability to uncover high quality deals with industry players who have developed property for many years and not just in the most recent cycle.

Naos think 360 Capital Total will be in a good position because it will often have a first mortgage position as well as director guarantees. It will often lend at loan to value ratios that are much lower than 80%. The Naos team expect that all of the excess funds will be utilised and should turn into increased earnings for FY19.

360 Capital Total has recently entered into arrangements with rates of return of between 12% to 15% and Naos estimate that the fund will have a distribution yield of greater than 12% in FY19.

Foolish takeaway

It's by identifying these types of opportunities that could make NAOS Small Cap Opportunities a market-beater, which is why I think it's one to watch over the coming years. LICs that operate in the small cap space are the ones most likely to outperform due to how few analysts cover the shares of that size.

Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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