While small-cap cheap stocks have historically struggled to maintain consistent outperformance, recent research suggests a potential revival in their appeal. With parallels between current market conditions and past periods of small-cap dominance, some analysts predict these stocks could outperform larger firms in the coming years. The opportunity lies in identifying the right small-cap stocks with favourable valuations and strong momentum.
- The Historical Small-Cap Effect
- The small-cap effect was first identified in Rolf Banz’s 1970s research, showing that small-cap stocks historically offered higher risk-adjusted returns compared to large-cap stocks from 1936 to 1975.
- However, subsequent decades have not consistently supported this trend, and the small-cap effect has not been significant in data stretching back to 1866.
- Why Small-Caps Could Outperform Now
- Recent findings by researchers from Northern Trust Asset Management and Erasmus University suggest that small-cap outperformance occurs in specific, predictable conditions.
- Three factors signaling a favorable environment for small-cap stocks:
- Market Cycles: Small-caps often perform well in early-cycle recoveries.
- Valuation Disparities: A current valuation gap between small and large-cap stocks makes the smaller firms more attractive.
- Momentum: Stocks with strong recent performance are more likely to sustain gains.
- Top Small-Cap Stocks to Watch
- Stocks identified with favorable characteristics include:
- UGI Corp. (NYSE: UGI): Strong recent returns and attractive valuation.
- KB Home (NYSE: KBH): A homebuilder with strong trailing-year performance and low forward P/E.
- Atlanticus Holdings Corp. (NASDAQ: ATLC): The smallest market cap on the list, but with exceptional recent returns.
- These stocks combine low forward P/E ratios with strong momentum, aligning with research findings on predictive small-cap success factors.
- Stocks identified with favorable characteristics include:
Though the small-cap effect has faced skepticism in recent decades, current market conditions suggest a potential resurgence for this asset class. By focusing on small-cap stocks with low valuations and strong momentum, investors may capitalize on a favorable market cycle poised to last several years. As always, diversifying and aligning with broader portfolio goals remain critical to navigating these opportunities.
This story was originally featured on Finance.Yahoo.
Disclosure: This article does not represent investment advice. The content and materials featured on this page are for educational purposes only.
