Some investors believe the stars are lining up with small-cap stocks as the category benefits from cheap valuations, strong economic growth, and a relatively benign impact from looming fiscal policy changes.
About $ 2.4 billion has entered US small-cap equity funds so far this month, the largest monthly inflow since March, according to data provider EPFR.
This has helped drive a profit of the 8 percent on the S&P 600 index small-cap earlier this week from late October, doubling the performance of the large-cap S&P 500 in that period.
The Russell 2000, a larger small-cap index, gained about 7 percent in that period.
Small-cap indices trimmed their gains a bit this week on fears of a Covid-19 resurgence.
Rise in the first months of 2021
Small-cap indices, averaging $ 1.2 billion in the Russell 2000, rose in the first months of 2021 as investors bet that smaller companies would benefit more from a widespread economic reopening in the United States. .
They faltered in the months that followed, as tech stocks took over the market amid concerns about whether the delta variant of the coronavirus would slow the economic rebound. The Russell 2000 is up 19 percent this year, versus a 25 percent rise for the S&P 500.
With the blazing rally of the S&P 500, which has stretched valuations for large caps, and with US growth forecast above trend next year, some investors now believe that small caps are a bargain.
They are quoted with historical discounts
The Russell 2000’s future price-to-earnings ratio compared to the large-cap Russell 1000 was recently 24 percent below its long-term average, while small-cap stocks are also trading at historic discounts on other measures such as the price-book and price-sales ratio, according to BofA Global Research.
“Small-cap stocks look a lot more attractive in relative terms,” he says. Ryan Jacob, Chief Investment Officer at Jacob Asset Management.
His firm’s growth stock funds “probably have our highest weight ever” in small-cap stocks compared to large stocks, Jacob said.
RBC strategists said the US economy is expected to expand 4 percent next year, compared to its long-term average of 2.5 percent and believe that small-cap stocks are a “pure game.” in national growth.
Analysts at BofA Global Research stated that the disparity in valuations between the largest and smallest companies suggests a single-digit annual return for the Russell 2000 over the next decade, compared to a slightly negative annual return for the S&P 500. .
More exposure to small caps
Chuck Carlson, CEO of Horizon Investment Services in Hammond, Indiana, said his company has added more exposure to small caps in the past four months, including shares in shipping company Matson and semiconductor company Onto Innovation.
“After trading more or less sideways for seven months, he’s had a pretty nice breakout,” Carlson said. “We like the fundamentals.”
The better outlook for smaller companies is a relief for investors looking for ways to diversify away from the mega-cap tech stocks that have led market rallies for most of the past decade, as only the top five companies weigh more than 23 percent on the S&P 500.
“Now you don’t need to be in a FAANG stock to get reasonable growth,” he said. Mike Petro, Portfolio Manager, Putnam Small Cap Value Fund, using a common acronym for tech stocks like Apple and Amazon.
Less weight in technology
“You could be in some forgotten small-cap stock and get reasonable nominal growth on it.” Jacob Asset Management’s Jacob has cut his holdings in mega-cap stocks Alphabet and Meta Platforms, parent company of Facebook, and has favored smaller companies such as OptimizeRx y Digital Turbine.
Some investors remain wary of small-cap companies, which have generally lagged behind in the last decade, with the Russell 2000 up 230 percent, up from 285 percent for the S&P 500.
In addition, signs that another wave of Covid-19 is taking hold in the United States, as has happened in some European countries, could again push investors to abandon economically sensitive stocks and take refuge in technology companies, of which are expected to decline less in the face of short-term growth fluctuations.