Apr 14

A lack of Global Small Cap investing???

International equity small-cap stocks widely outperformed large-cap stocks over the year to September 2010, returning 24.4 per cent and 12.7 per cent, respectively in US dollar terms.

I took the above from today’s InvestorDaily email and whilst the fact that global small cap outperformed large cap is not surprising, as it is bound to happen from time to time, what is surprising is the complete lack of selection of global small cap fund that advisers and investors have. I noticed at my place of work we have very few on our approved product list so I looked up Lonsec to see what other funds they may have at least “Recommended” and there were only three!…BlackRock, Zurich, and Schroder.

The Fama and French three factor model has been around for almost twenty years, many of us have read Jeremy Siegel’s book, “Stocks for the Long Run”, and there are many local and international papers which have similar messages…that is…over time small cap stocks outperform large cap stocks on a risk-adjusted basis. Of course, the past doesn’t equal the future, but we are creatures of habit most of the time and our market has shown little appetite for small cap…bizarre.

One of the recent posts I put up referred to S&P’s SPIVA report which also showed that active managers have recently been more successful in small cap stock selection than large cap and this makes intuitive sense. There are fewer analysts covering small cap space so there are more opportunities for mis-pricings so we can make a simplistic conclusion that the small cap part of the market is less efficient than large cap. OK…so small caps are the go…but there’s usually a but…small cap stocks are much more volatile and I must admit it is this volatility that is often the turn off (perhaps the additional illiquidity is too)…so there is a reasonable fear factor associated with them and I can understand that.

What I don’t understand is this insistence on regional biases…particularly Asia. Personally I don’t understand why you would constrain your investment universe (and opportunity) simply based on region. Why not place your funds with a global small cap or global unconstrained manager (with proven skill and aligned bias) and let them make the bet as to whether Asia is worthy of an overweight. By investing in an Asian managed fund we are really choosing a Global Small Cap fund anyway, so my simple message is go global and don’t reduce your investment opportunity.

Please note…despite these comments I have no views as to whether global small cap investments are likely to outperform or perform well moving forward.

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