Peter Switzer: Hello, and welcome to Switzer Investing Insights, brought to you by nabtrade. And today we want to look at whether it's time to go for small caps. Paul and I were talking, looking for some value, and what the big caps had done very well because of the buybacks. But what about the small caps. Paul?
Paul Rickard: Look, I think it might be, Peter. But let's look at the data just to see how the market has done this year. So here, we've got the returns for different components of the Australian Stock Exchange. So far, this calendar year, we've got the top 20 stocks, the top 50 stocks, the so called MidCap 50s, which are stocks ranked 51st to a 100th, by market capitalization, the top 100, the top 200, the top 300, and the Small Ordinaries, which is closest to the smaller mid caps.
Paul Rickard: The stocks ranked 100th to 300th by market capitalization. Interesting enough, Peter, the MidCap 50s, which had been doing really well, are actually the worst performing part of the market.
Peter Switzer: And for the last few years big caps had been strong, haven't they?
Paul Rickard: Only up 14.5%, compared to the market's, overall, around about 17%, which is sort of the ASX 200. But the best performing parts of the market are within the top 50 and that's very much stock numbers 21 to 50, not the top 20. So, it's sort of those middle-ranking, big-cap stocks, but also the small caps have done okay, as well, up 18.1% so we've actually seen some improvement through the small-cap part.
Peter Switzer: Have they been helped by the WAX? The tech stocks... They've done very well, surprisingly well, over the last year or so.
Paul Rickard: Look, I think that's partly due to weighting. We'll look at that later. But yeah, certainly technology is a key part of the small caps. Let's look at it over a slightly longer period. So, now we've got returns over the last year, three years, five years and 10 years. Now over 10 years, the Small Ordinaries Index, this is the small caps, the return's only 7.4% per annum. So, it's quite a big laggard compared to the market's 10%, so, under-performance on an average basis over the last 10 years.
Peter Switzer: That explains why some value fund managers have struggled in recent years, as well.
Paul Rickard: It does, indeed. And even over five years it hasn't done quite as well. It has done better a little more recently.
Paul Rickard: So, in red we've got the weakest performing parts of the markets over each of those periods. The MidCap 50, Peter, is ... as I mentioned, over three years, five years and 10 years, it's done the best. And we've seen the ASX, the top 20 stocks over the last full year, also do slightly better.
Paul Rickard: So, maybe we get a bit of mean reversion in these things, Peter, and that often happens. One part of the market does well for a period of time. Eventually, people see value in moving to another part. I think we're starting to see that a little bit in the small caps at the moment.
Peter Switzer: Okay. So, let's look at the next really important issue, the sectors themselves, in the Small Ordinaries.
Paul Rickard: I think this is really important, because we all know all about the Australian share market dominated by financials and materials, and certainly, if you look at the top 200 you know financials is over 30% and materials is around about 17%. Look at the small caps, it's a very different picture.
Paul Rickard: You've got financials under 10%, at only 9.5%. What really stands out is the very high weightings for consumer discretionary, at 15.9%, and as you mentioned earlier, information technology, Peter at 12.4%.
Peter Switzer: Significant, isn't it?
Paul Rickard: A very different mix, compared to the other parts, or the main part of the market.
Peter Switzer: It's more like the S&P 500, in a sense, isn't it, Paul?
Paul Rickard: It's much closer. When these so called GICS sectors were put in place in the US, they were all around about 10%. They've diverged quite a bit. But we inherited them out of America, so it never was the same in Australia. But a much more even weighting of sectors across the small-cap part of the market.
Peter Switzer: Okay, so given that Paul, what do you think the outlook is? If I'm going to invest, am I going looking for a small-cap group of stocks? What is the best way, do you think, to access them?
Paul Rickard: Well, obviously you can buy the individual shares, Peter, but it's very hard to get a diversified portfolio. And I'm not putting off people looking for some great individual companies, and having a bit of a weighting in those, but you do take quite a lot of specific company risk. And we all know that, with companies, the things happen. The CEO changes, a new bit of regulation comes in, something unexpected from left field, and you can have a big change in the share price.
Paul Rickard: So yeah, you've got to be diversified and you're going up the risk curve. Obviously the other way to do it is effectively through a managed vehicle, so, let's look at the type of managed vehicles. The easiest is probably the so called exchange-traded funds. So we've got products such as ISO from iShares, and SSO from SPDR. They actually track the Small Ordinaries index.
Paul Rickard: You've also got VSO from Vanguard, and SMLL from BetaShares. They also track different components, so, it's pretty easy through an exchange-traded fund. There are lots of listed investment companies that we've got, actively managing portfolios of small-cap stocks. From the Jeff Wilson stable, things like WAM Research and WAM Microcap. You've also got companies likes Spheria. There are a lot of other listed investment companies.
Paul Rickard: And then, through the mFunds platform, that you can access through nabtrade, you've got lots of other specialist fund managers, with unlisted funds available to trade through the ASX, where you can get access to small-cap stocks.
Peter Switzer: I've got to say, Paul, looking at that list, I'm thinking to myself, a good way is to do a couple of these, and get some diversification right across the whole sector.
Paul Rickard: Yeah. Look, I think if you're looking at managers, and an actively managed ... a bit of diversification across managers, it make sense.
Paul Rickard: And, obviously, you'd expect, in that part of the market, the managers should add more value because they're really getting paid to do that. But an easier way, Peter, if you're not really thinking about it too much, is to just look at the exchange-traded fund.
Peter Switzer: Yeah. Well I'm really glad I forced you to look into this subject because it has revealed stuff. I expected Small Ords weren't doing well, but those mid caps, it makes me think maybe a mid-cap exposure could be good, going forward, over the next year or so.
Paul Rickard: Well, look, yeah. We've seen that mean reversion, but I think that these things tend to last a bit longer. So I'm probably still more interested in small caps than mid caps at the moment, Peter, but look, food for thought, Anyhow.
Peter Switzer: Okay, so that's the Switzer Investing Insights, brought to you by nabtrade.