On June 28th, 2022 we put out an article citing small-cap outperformance cycles which you can read here. The nature of the article, for those who are new to the story, asserts that over time there have been notable small-cap outperformance periods which can be seen in the table below. This can happen for a number of reasons. Companies in the small-cap universe are relatively underfollowed, tend to grow faster, have pure play business models, and may become acquisition targets for larger companies. The efficient market hypothesis would argue these companies have a higher risk/reward profile. Regardless of the why, since June 30th, 2022, GROW’s U.S. Small Cap Growth portfolio is up approximately 35% through January 31st, 2023 while the Russell 2000, NASDAQ, and S&P 500 are up approximately 13%, 5.04%, and 7.69% over the same period.
Our confidence in this thesis comes from the data. If you look at the table above you will see the average duration of these cycles is 5 years and the average annualized excess return over large-cap is 22%. Specifically, we believe the current environment mimics the 1975-1983 time period. Following the bear market of 1973-1974 where the “Nifty 50” darling stocks (think Xerox, McDonalds, etc.) that drove the bull market of the early 70’s fell dramatically, small cap stocks went on an 8.5 year run in which they elicited a 1,580% cumulative return. This time period was marked by high inflation, geopolitical concerns, lack of confidence in government, and the threat of war. Sound familiar?
While past performance is no guarantee of future returns, the fact that we have more than doubled the performance of our benchmark and have outperformed the S&P 500 by over 4 times since June 2022 leads us to believe we are just getting started. As you can see in the chart above, we believe relative valuations support our thesis with small-cap PE’s below mega and large caps. Additionally, we believe active stock selection will outperform passive and small caps will continue outperform large in the current environment.
© 2023 by Grow Funds LLC. Registered Investment Advisor. GROW Funds LLC is a California registered investment advisory firm. Registration does not imply any level of skill or training. Neither the information within this article nor any opinion expressed shall constitute an offer to sell or a solicitation or an offer to buy any securities. Investors should have long-term financial objectives. Past performance is no guarantee of future returns.