Do Small Cap Stocks Really Outperform Large Caps Over Time?
It’s a long standing investment truism that small cap stocks deliver stronger returns than large cap companies over time. For most of those investing online this is something that will strike as making sense. Every big company has started out as a small company and making the transition from small cap to large cap necessarily involves valuation multiplying several times. Big companies can’t see that value multiplication because no matter how big they get there is a logical ceiling.
Sure, in theory, Apple can still sell more iPhones. The world is getting slowly richer as the ‘middle class’ of emerging economies grows and then a chunk of that middle class will start to aspire towards an iPhone, right? But Apple already sells a lot of iPhones – 216.76 million over its 2017 fiscal year. Is it realistic to expect the company to sell 300 million iPhones in 2018, 2019 or 2020 at roughly the same price? Almost certainly not.
Could a new,
There have been several studies conducted over the years in both academia and by professional investors, looking into the veracity of the ‘small caps deliver higher returns’ truism. However, it is also the case that in comparison to the analysis of other ‘return drivers’ such as value, momentum, quality and volatility, the volume of research into size has been less significant.
Of the studies that have been conducted into company size as a returns driver, there have been varying conclusions. The first well-known research into the question was Rolf Banz’s paper ‘The Relationship Between Return and Market Value of Common Stocks’, published in 1981. His findings, backed up by a few follow-up studies, suggested that over the previous 40 years smaller US-listed companies had delivered better returns than those of big companies.
A recent article for Stockopedia compares Banz’s work to more recent studies such as that of Elroy Dimson, Paul Marsh and Mike Staunton for Credit Suisse’s Global Investment Returns Yearbook 2018. Their research shows that between 1955 and 2017, UK
There is also evidence which suggests that the size
The conclusion seems to be that there is some truths to the presumed logic that smaller companies show a stronger return on investment but far less than thought and not by dint of their actual size but other drivers such as quality, value and momentum. This in turn leads to the conclusion that anyone investing online in individual company stocks would be best advised to analyse and judge small caps by the same criteria as large caps and choose companies that show good quality, value and momentum ratios and indicators. More smaller than larger companies may demonstrate those qualities but investment choices should not be made on the basis of size itself.
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