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How to easily diversify your portfolio into small and mid-cap shares

It’s no secret many large companies are doing it tough. The banks are facing a number of headwinds. Telstra Corporation Ltd (ASX: TLS) is facing stronger competition with the proposed merger of Vodafone and TPG Telecom Ltd (ASX: TPM). And Wesfarmers Ltd (ASX: WES) is divesting its slower-growing businesses to reach for higher earnings growth.

Retail investors hold these as core dividend payers in their portfolios. This is fine, but it makes sense to have exposure to companies outside the top 20, for the sake of diversification and performance. Small and medium-sized companies often have higher growth prospects than the big names. Here are the easiest ways to get exposure to these types of companies…

QV Equities Ltd (ASX: QVE)

QVE is a listed investment company which invests outside the top 20 stocks. It’s managed by IML, who are value managers and have an excellent track record providing managed funds for 20 years. They have delivered market-beating performance with less volatility for investors.

QVE has been listed for 4 years and it’s underperformed the benchmark in that time. This is due to the strong run in mining shares and the company avoiding the more speculative stocks which are in favour at present. IML is sticking to its time-tested process of buying quality companies with predictable earnings that pay a decent dividend.

Some examples of shares held include Crown Resorts Ltd (ASX: CWN) and Sonic Healthcare Limited (ASX: SHL). The portfolio is well diversified across 40-50 companies, with no sector representing more than 15% of the portfolio. Shares currently trade at a discount to NTA and a gross dividend yield of 5.3%, including franking credits.

Mirrabooka Investments Ltd (ASX: MIR)

Mirrabooka is a listed investment company which invests outside the top 50 companies. It’s managed by the same folks that manage Australian Foundation Investment Co. Ltd.  (ASX: AFI).

It listed in 2001 and long-term performance has been solid. Over the last 10 years, Mirrabooka has returned 13.1%, versus the benchmark’s return of 7.7%, both including franking credits. The company has a management expense ratio of 0.60% and no performance fees, which is very low for an actively managed small/mid-cap LIC.

The portfolio currently contains over 70 companies and is also well diversified across sectors. Mirrabooka aims to buy businesses with strong industry positions, which generate good cashflow and are well managed. It then reduces or sells holdings if the outlook deteriorates or shares become overvalued. Shares in the portfolio include SEEK Limited (ASX: SEK), Challenger Ltd (ASX: CGF) and Webjet Limited (ASX: WEB).

Shares trade at a small premium to NTA and a gross dividend yield of 5.3%, including franking credits.

Foolish takeaway

Listed investment companies aren’t for everyone. But they can be great for quickly gaining exposure to small and medium-sized companies which are often lacking in Aussie share portfolios. Quality managers that don’t charge performance fees mean more in investor’s pockets over the long term.

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Motley Fool contributor Dave Gow owns shares of Australian Foundation Investment Company Limited, Challenger Limited, Crown Resorts Limited, Mirrabooka Investments Limited, QV Equities Limited, SEEK Limited, and Wesfarmers Limited. The Motley Fool Australia owns shares of and has recommended Challenger Limited, Crown Resorts Limited, Telstra Limited, and Wesfarmers Limited. The Motley Fool Australia has recommended SEEK Limited, TPG Telecom Limited, and Webjet Ltd. 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 Scott Phillips.

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