Do Small Caps Outperform?

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zmaqoptyxbglp
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Do Small Caps Outperform?

Post by zmaqoptyxbglp » Mon Jun 11, 2018 3:34 pm

Why do people keep saying that small cap overperforms large cap? The small cap universe has lost to the large cap universe since the establishment of the Russell 2000 index. (I understand that the S&P 500 is not exactly the large cap universe, but I tried comparing the CRSP US Large Cap index to the S&P 500 and there's effectively no delta between the two).

Quote: "From 1979 – 2015, the S&P 500 has produced an annualized return of 11.7% with annualized volatility of 15.1%. Over the same time period, the Russell 2000 has produced an annualized return of 11.4% with annualized volatility of 19.5%. This stands in contrast to the notion that Small Caps outperform not only in absolute terms but on a risk-adjusted basis as well."

Source: https://pensionpartners.com/do-small-ca ... over-time/

I for one don't believe in standard deviation and therefrom the sharpe ratio having anything to do with long run performance. I don't think the notion of "risk adjusted returns" in comparing a subset of equities with another is legitimate. Sure, if you look at data starting in the early 1900s, small caps have outperformed, but that's more likely due to less efficient markets in general prevalent in the earlier decades, where information was harder to exchange and alpha was easier to extract.

Nevermind "risk adjusted returns", but why do people keep insisting that small caps outperform large caps in the long run?

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Re: Do Small Caps Outperform?

Post by dharrythomas » Mon Jun 11, 2018 4:56 pm

I think DFA would tell you that it is microcaps that outperform, but with additional volatility. So the Russell is not small enough to capture most of the benefit. It also depends on the timeframe you look at because small does not outperform over every possible timeframe, just like value does not always beat growth. I've read Bogle's contention that the value premium is a result of the time period selected.
Since you've only got one investment timeframe, and you can't know in advance what market conditions you'll face, you pay your money and you take your chances.

I don't know about the exact measures used, but the idea of risk adjusted returns makes sense. That's why a longer term CD yields more than a shorter term CD. There is clearly added risk with small caps, it may be as simple as liquidity risk and credit risk. But without a doubt, if you need to sell why the markets are in turmoil, large cap is generally safer than small cap. This is true even though AIG was a Fortune 5 company and GM was huge when the government bailed them out. AIG stock cratered, never to recover. GM stock was marked to zero and even secured bond holders were placed behind the union in the bailout.

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Re: Do Small Caps Outperform?

Post by Crushtheturtle » Mon Jun 11, 2018 4:59 pm

Yup..

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Re: Do Small Caps Outperform?

Post by jalbert » Mon Jun 11, 2018 5:08 pm

The Russell 2000 has been managed in a manner for which index changes were susceptible to front-running, suppressing returns. Russell made some changes to address the matter. Whether or not the issue has been fully addressed is unclear.
Risk is not a guarantor of return.

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Re: Do Small Caps Outperform?

Post by Alexa9 » Mon Jun 11, 2018 5:09 pm

The small premium is smaller than the value premium.
Small and value combined is an even greater premium.
You have to stick with it for your entire investing lifespan and it's not a guarantee.

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Re: Do Small Caps Outperform?

Post by Culbretd » Mon Jun 11, 2018 5:15 pm

The Russell 2000 was never designed to be used as an index. Try s&p 600 vs s&p 500 returns. Also the 2000 index is front loaded all the time because managers can identify what stocks that the russell 200 are going to have to buy in advance so they run up the price then unload it once all the index money has bought it... so in essence the russell 2000 index is buying high every year certain stocks then those stocks are being shorted.

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Re: Do Small Caps Outperform?

Post by midareff » Mon Jun 11, 2018 5:21 pm

Great question. Go to M* and ploit SCV against the Nasdaq. Use any time frame you like and let me know the answer. ... by PM since we would not like to let the secret out and have it arbitraged away.

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Svensk Anga
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Re: Do Small Caps Outperform?

Post by Svensk Anga » Mon Jun 11, 2018 5:33 pm

I ran it through Portfolio Visualizer, using whatever indexes they have canned for large cap and small cap. Since 1979, $10k in large cap became $756,000. 10K in small cap became $1,092,000. (11.62% versus 12.67%) I'd call that significant in favor of small caps. Must be the issue is with the Russell 2000 index. Makes me suspect that the reference in the OP has a agenda to discredit small cap investments.

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Re: Do Small Caps Outperform?

Post by dcabler » Mon Jun 11, 2018 5:39 pm

There is no absolute definition of "small cap". Morningstar has its own and it recently changed its breakpoints for large, mid, small and value, blend, growth. You can get a quick snapshot of past performance of several indices that call themselves "small" by going to this link: You can see how the Russell 2000 compares to the others. You can find funds and/or ETFs that track any of these.

https://www.bogleheads.org/wiki/US_smal ... ex_returns

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Re: Do Small Caps Outperform?

Post by zmaqoptyxbglp » Mon Jun 11, 2018 10:20 pm

dharrythomas wrote:
Mon Jun 11, 2018 4:56 pm
I think DFA would tell you that it is microcaps that outperform, but with additional volatility. So the Russell is not small enough to capture most of the benefit. It also depends on the timeframe you look at because small does not outperform over every possible timeframe, just like value does not always beat growth. I've read Bogle's contention that the value premium is a result of the time period selected.
Since you've only got one investment timeframe, and you can't know in advance what market conditions you'll face, you pay your money and you take your chances.

I don't know about the exact measures used, but the idea of risk adjusted returns makes sense. That's why a longer term CD yields more than a shorter term CD. There is clearly added risk with small caps, it may be as simple as liquidity risk and credit risk. But without a doubt, if you need to sell why the markets are in turmoil, large cap is generally safer than small cap. This is true even though AIG was a Fortune 5 company and GM was huge when the government bailed them out. AIG stock cratered, never to recover. GM stock was marked to zero and even secured bond holders were placed behind the union in the bailout.
I think you should understand the exact measures used, before saying that. Risk adjustment as a term in corporate finance does not care about capitalization. The theories are fancy, but they basically say that if the price of a security has wiggled up and down more than another, you should expect it to return more.

Thirty years from today, assuming some fixed net profit margin, the revenue growth is going to be the major factor determining the price then. If the company grows by 10x in revenue over the next thirty years, sure the stock will do great. If it goes down by 50% in revenue, the stock probably will tank. Does the amount of wiggling seen on the chart tell you that? Nope.

Twenty years ago, looking at how much Apple's stock was wiggling would you have been able to tell where it would end up? Unlikely. Would you have been able to see IBM's fall from the 1990s looking at its wiggliness? I don't think so.

So I beg to disagree on the risk adjustment part.

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Re: Do Small Caps Outperform?

Post by zmaqoptyxbglp » Mon Jun 11, 2018 10:58 pm

The consensus here seems to be that small cap is not small enough. Immaterial of the returns, which I don't see any reason for presuming are going to be higher than large caps, I would find myself unable to sleep at night having invested any sizeable enough chunk of my portfolio in "small caps" as you guys seem to define it, which I'd think of as microcaps, but is really just a semantic issue. Appreciate the responses.

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Re: Do Small Caps Outperform?

Post by tibbitts » Mon Jun 11, 2018 11:19 pm

Culbretd wrote:
Mon Jun 11, 2018 5:15 pm
The Russell 2000 was never designed to be used as an index. Try s&p 600 vs s&p 500 returns. Also the 2000 index is front loaded all the time because managers can identify what stocks that the russell 200 are going to have to buy in advance so they run up the price then unload it once all the index money has bought it... so in essence the russell 2000 index is buying high every year certain stocks then those stocks are being shorted.
Discussion: http://www.ftserussell.com/files/resear ... -revisited

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Re: Do Small Caps Outperform?

Post by JoMoney » Tue Jun 12, 2018 12:21 am

Image

Here's another chart showing micro , small , and mid caps . Not what one would expect under the premise of a "small cap premium"

I'll add, that there advocates that look at this and proclaim that mid-caps are the way to go, or that one should load up bonds that are at the bottom of "investment grade" (they outperform junk bonds), or that one should hold stocks that target a beta of 1.0 (throwing out the the extremely high and extremely low volatility stocks), and even some of the "Value" advocates are now throwing out the deeply troubled companies and looking for middle of the road "value" with positive momentum and not in distress.... which are strategies that would have worked in the recent past, and are completely contrary to the idea of there being "Risk Premiums", and while I think it is a valid argument against some of the premises, I don't think it's an argument to performance chase expecting those strategies will outperform in the future, especially not if people are actually implementing them.
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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 6:36 am

Three points.

1) Be careful of your verb tenses. A common sin in investing is unconsciously drifting from "did" to "do." For any supposed characteristic of asset classes, always ask whether it is really a fixed, robust, persistent characteristic; it was true in the past, but how much confidence do you have that it will persist going forward?

2) Be careful to ask the question you mean to ask. By "outperform" do you mean raw return, or do you mean risk-adjusted return? I don't think there's any serious doubt that small-cap stocks have higher risk, by every measure of risk, than large-caps. Not enormously higher, but higher. So any outperformance that is seen really needs to be measured in terms of whether it is a case of "better," or whether it is just a case of reward that's commensurate with the extra risk.

3) Be careful to distinguish between "small cap" and "small cap value." Briefly, the size effect was the first "factor" reported (in 1981)... and it has been getting smaller and smaller and less and less important all the time. Factor mavens are never willing to say that it has been discredited, but the case for an important, robust effect from small caps alone is pretty shaky. The combined effect of small and value is more interesting.

But you asked about size.

There is historical data going back to 1926 that's fairly easily found in the SBBI yearbooks. Over the time period 1926 to 2017 inclusive:

a) Small-caps indeed had considerably higher average returns.

b) Small-caps also had considerably higher volatility.

c) Small-caps had lower risk-adjusted return than large-caps. The extra return wasn't worth the extra volatility.

d) Adding small-caps to a portfolio of large-caps improved the risk adjusted return, but only by a hair-thin amount. If one wanted to hold risk down to 10% standard deviation, the improvement in return from adding small-caps to large-caps was an increase in return of 0.16%.

e) The Sharpe ratios (a measure of risk-adjusted return) were: 0.440 for large-caps alone; 0.416 for small-caps alone; 0.453 for a portfolio of 78% large-caps and 22% small-caps.

e) According to Jeremy Siegel, all of the outperformance of small-caps is attributable to one single time period of nine years: 1975-1983. A small-cap investor obtained no benefit at all from any holding period that didn't include those years.
Last edited by nisiprius on Tue Jun 12, 2018 12:56 pm, edited 1 time in total.
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Re: Do Small Caps Outperform?

Post by JohnDindex » Tue Jun 12, 2018 6:54 am

nisiprius wrote:
Tue Jun 12, 2018 6:36 am

e) According to Jeremy Siegel, all of the outperformance of small-caps is attributable to one single time period of nine years: 1975-1983. A small-cap investor obtained no benefit at all from any holding period that didn't include those years.
Are you saying that is what Jeremy Siegel says, or that is what you have also concluded? Does the entire history of an asset class even matter, or is everything that happens going forward unique even though it may rhyme, or be said to rhyme after the fact?

Would an investor not have been better off with a slice and dice in the 2000-2009 decade which is not too far back and does not include the 1975-1983 period?

My opinion is that no one knows anything, and I think a total market approach, or a slice and dice are both reasonable approaches. The savings rate and guts to stick with your plan probably matter the most.

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Re: Do Small Caps Outperform?

Post by Call_Me_Op » Tue Jun 12, 2018 7:05 am

zmaqoptyxbglp wrote:
Mon Jun 11, 2018 3:34 pm
Why do people keep saying that small cap overperforms large cap? The small cap universe has lost to the large cap universe since the establishment of the Russell 2000 index. (I understand that the S&P 500 is not exactly the large cap universe, but I tried comparing the CRSP US Large Cap index to the S&P 500 and there's effectively no delta between the two).

Quote: "From 1979 – 2015, the S&P 500 has produced an annualized return of 11.7% with annualized volatility of 15.1%. Over the same time period, the Russell 2000 has produced an annualized return of 11.4% with annualized volatility of 19.5%. This stands in contrast to the notion that Small Caps outperform not only in absolute terms but on a risk-adjusted basis as well."

Source: https://pensionpartners.com/do-small-ca ... over-time/

I for one don't believe in standard deviation and therefrom the sharpe ratio having anything to do with long run performance. I don't think the notion of "risk adjusted returns" in comparing a subset of equities with another is legitimate. Sure, if you look at data starting in the early 1900s, small caps have outperformed, but that's more likely due to less efficient markets in general prevalent in the earlier decades, where information was harder to exchange and alpha was easier to extract.

Nevermind "risk adjusted returns", but why do people keep insisting that small caps outperform large caps in the long run?
I do not think your numbers are correct. In addition, the specific time period sounds cherry-picked. In general, over long time periods, small-cap stocks have provided higher return and higher volatility.
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Re: Do Small Caps Outperform?

Post by JoMoney » Tue Jun 12, 2018 7:21 am

JohnDindex wrote:
Tue Jun 12, 2018 6:54 am
...Are you saying that is what Jeremy Siegel says, or that is what you have also concluded? ...
FWIW, it's what Jeremy Siegel wrote and provided a graphic of in his book "Stocks For The Long Run", he's changed the statement in newer versions removing an emphasis he provided in earlier versions regarding how unique the period was and without it even in monte-carlo simulations the other return periods didn't show outperformance for small-caps even when the best period for large caps were also removed.
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Re: Do Small Caps Outperform?

Post by JohnDindex » Tue Jun 12, 2018 7:35 am

On an absolute basis, small caps have outperformed large since 2008, but not on a risk adjusted. Since 1998, they have outperformed on an absolute, and risk adjusted. Testing Live funds VFINX and NAESX. 50/50 worked better

I wonder what periods he was looking at?

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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 7:55 am

JohnDindex wrote:
Tue Jun 12, 2018 6:54 am
nisiprius wrote:
Tue Jun 12, 2018 6:36 am

e) According to Jeremy Siegel, all of the outperformance of small-caps is attributable to one single time period of nine years: 1975-1983. A small-cap investor obtained no benefit at all from any holding period that didn't include those years.
Are you saying that is what Jeremy Siegel says, or that is what you have also concluded? Does the entire history of an asset class even matter, or is everything that happens going forward unique even though it may rhyme, or be said to rhyme after the fact?

Would an investor not have been better off with a slice and dice in the 2000-2009 decade which is not too far back and does not include the 1975-1983 period?

My opinion is that no one knows anything, and I think a total market approach, or a slice and dice are both reasonable approaches. The savings rate and guts to stick with your plan probably matter the most.
I'm saying "that is what Jeremy Siegel has said." Because I have found him to be honest and accurate in his facts, I assume he's correct, and it looks right. But I haven't personally checked that specific detail myself.

The devil in these discussions is that financial performance data is so bursty, all of it. (And not just return, other parameters, too). So the search for certainty in long-term backtesting is difficult, because all too often it turns out that some conclusion about a long period of time is actually attributable to a very small number of unusual events. This is an example of one of them. I call this the "one great shining moment" problem.

It is very hard to know how to regard this in forward-looking terms. If you see a mouthwatering benefit in the past, that was big enough to raise the average for a whole very long period of time... but then you discover that it only happened once in fifty years... what can you say? I'm shaky on Statistics 101 and none of the assumptions apply anyway, but it is as if you are looking at a Poisson situation. If it happened once in fifty years, what can you say about the range of probabilities it could have had? Going forward, how much certainty is their that history will repeat itself, for you, within the next thirty years?
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Re: Do Small Caps Outperform?

Post by MikeMak27 » Tue Jun 12, 2018 8:02 am

Do not compare the S&P 500 vs the Russell 2000. The Russell 2000 is a terribly constructed index.
Compare the S&P 500 (IVV, Large Caps) versus the S&P 600 (IJR, Small Caps).

As of the close on June 11th, IVV has an annual return of 9.24% versus IJR 12.19% over the last 15 years. In fact, there is not one time period, 1, 3, 5, 10 Years where the S&P 500 has outperformed the S&P 600 (Small Caps).

If you want to compare Russell indices, the Russell 1000 (IWB, Large Caps) has an annual return of 9.43% annualized over the last 15 years. The Russell 2000 (IWM, Small Caps) has an annualized return of 10.52%. The Russell 2000 has outperformed over the last year, and 10 years as well. The Russell 1000 outperformed over the 3 year and 5 year period.
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Re: Do Small Caps Outperform?

Post by anil686 » Tue Jun 12, 2018 8:07 am

https://www.bloomberg.com/view/articles ... iff-asness

Cliff Asness believes there is a lot of junk in small cap. I think, personally, the SP construction of the small cap space is much better due to a quasi quality metric with balance sheets and cash flow and hence some exclusions. JMO though...

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Re: Do Small Caps Outperform?

Post by JohnDindex » Tue Jun 12, 2018 8:15 am

The main point I was trying to make is that if you remove that period, it is not difficult to find periods where exposure to small provided a benefit on a risk adjusted basis within the last 10-20 years.

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Re: Do Small Caps Outperform?

Post by dbr » Tue Jun 12, 2018 8:17 am

Do you think the Fama-French model for investment returns is not valid/has not been valid/will not be valid. The question then becomes what is the factor loading of any particular actual portfolio. Outperform usually means "has higher return/expected return." If people want to explore risk adjusted return/Sharpe ratio or whatever, that does become a more complicated question.

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Re: Do Small Caps Outperform?

Post by samsdad » Tue Jun 12, 2018 8:26 am

I honestly don't know why this question keeps coming up. Simple searching on this site alone pulls up long and fairly exhaustive discussions that have covered this ad nauseum through what can be fairly considered any relevant time period (and those time periods that might be considered too old/dissimilar to be relevant). A simple portfoliovisualizer https://www.portfoliovisualizer.com/bac ... ion3_3=100 backtest shows that for the modern era, i.e., the last 18 years, the S&P 600 outperformed both its bigger siblings the 400 and 500, and the 600 had better Sharpe and Sortino ratios while kicking their butts.

As anil686 posted, really really read the Asness et al. study and see if perhaps keeping the junk out of the trunk helps returns. Hint: all that value you guys keep either crowing about or wondering where the heck it is appears to actually be a concurrence of the quality factor (hiding in the background). I have the option of of picking a Russell 2000 small cap fund in my wife's 401k and I wouldn't touch it with your money, much less mine. I'm specifically invested in S&P funds due to the quality-like screen that they perform, more or less.

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Re: Do Small Caps Outperform?

Post by vineviz » Tue Jun 12, 2018 8:54 am

nisiprius wrote:
Tue Jun 12, 2018 6:36 am
Be careful to distinguish between "small cap" and "small cap value." Briefly, the size effect was the first "factor" reported (in 1981)... and it has been getting smaller and smaller and less and less important all the time. Factor mavens are never willing to say that it has been discredited, but the case for an important, robust effect from small caps alone is pretty shaky. The combined effect of small and value is more interesting.
If you take every rolling 20 year period from 1930 to 2017 (as long as Portfolio Visualizer lets me go) small cap outperformed the total stock market in 62 of the 69 periods. This includes outperforming in 30 of the 35 most recent periods. Small cap value is 69/69 and 35/35 of course.
nisiprius wrote:
Tue Jun 12, 2018 6:36 am
Small-caps had lower risk-adjusted return than large-caps. The extra return wasn't worth the extra volatility.
I can't easily check the 1926 to 1929 period, as I said, but from 1930 to 2017 this isn't the case. The SBBI small stock portfolio had a Sharpe ratio of 0.45 and the large stock portfolio had a Sharpe ratio of 0.42. That's a small difference, but small stock owners have been fairly compensated during that 88 year period.
nisiprius wrote:
Tue Jun 12, 2018 6:36 am
Adding small-caps to a portfolio of large-caps improved the risk adjusted return, but only by a hair-thin amount.
Or, phrased another way, adding small cap stocks improved total returns substantially without significantly increasing total risk of the portfolio. Starting in 1930, an annually rebalanced 60% large cap/40% small cap portfolio produced annual growth of 11.31% versus 9.72% for a large-cap only portfolio with volatility of 21.69% and 18.61% respectively. Thats the difference between turning $1,000 into $12.9 million dollars or $3.6 million dollars.
nisiprius wrote:
Tue Jun 12, 2018 6:36 am
e) According to Jeremy Siegel, all of the outperformance of small-caps is attributable to one single time period of nine years: 1975-1983. A small-cap investor obtained no benefit at all from any holding period that didn't include those years.
Siegel was wrong. From 1930 to 1974,the small cap investor did just fine:

Image

It's true that the period from 1974 until 1994, when he published the book in which he made this claim, was ESPECIALLY good for small stocks (primarily the period he mentions, 1974 to 1983).

Image

And yet: the small cap investor, possibly being less susceptible to recency bias than Siegel was, has indeed seen some benefit from their strategy from 1994 until the present.

Image

Siegel essentially got the argument exactly backwards: the period from 1984 to 1990 appears to have been the anomaly, a period in which large stocks did especially well. It's the worst seven year period for the small cap premium in the historical record.

Image

There are no guarantees in the stock market, but small caps have outperformed large caps in 90% of the 20-year periods we can observe. And even during the worst period for small cap stocks, 1984 to 1990, a portfolio that was 50% small cap and 50% large cap still produced nearly 9% annual returns (almost double the inflation rate during that period).
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Do Small Caps Outperform?

Post by dcabler » Tue Jun 12, 2018 9:17 am

samsdad wrote:
Tue Jun 12, 2018 8:26 am
I honestly don't know why this question keeps coming up. Simple searching on this site alone pulls up long and fairly exhaustive discussions that have covered this ad nauseum through what can be fairly considered any relevant time period (and those time periods that might be considered too old/dissimilar to be relevant). A simple portfoliovisualizer https://www.portfoliovisualizer.com/bac ... ion3_3=100 backtest shows that for the modern era, i.e., the last 18 years, the S&P 600 outperformed both its bigger siblings the 400 and 500, and the 600 had better Sharpe and Sortino ratios while kicking their butts.

As anil686 posted, really really read the Asness et al. study and see if perhaps keeping the junk out of the trunk helps returns. Hint: all that value you guys keep either crowing about or wondering where the heck it is appears to actually be a concurrence of the quality factor (hiding in the background). I have the option of of picking a Russell 2000 small cap fund in my wife's 401k and I wouldn't touch it with your money, much less mine. I'm specifically invested in S&P funds due to the quality-like screen that they perform, more or less.
I suspect it will continue to come up for as long as BH exists. Just like all of the other threads on this subject, it looks like we will reach no consensus or common understanding. Just like other threads such as whether/how much international to include, Emerging Markets, Gold, alternatives, factor investing, the "best" withdrawal method,... Well you get the idea. Remove all of those discussions that keep coming up, and I suspect that the traffic here would drop considerably. :D

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Re: Do Small Caps Outperform?

Post by zmaqoptyxbglp » Tue Jun 12, 2018 9:32 am

dbr wrote:
Tue Jun 12, 2018 8:17 am
Do you think the Fama-French model for investment returns is not valid/has not been valid/will not be valid. The question then becomes what is the factor loading of any particular actual portfolio. Outperform usually means "has higher return/expected return." If people want to explore risk adjusted return/Sharpe ratio or whatever, that does become a more complicated question.
Fama himself has said that the model was merely meant to explain past data, and given that we have less than a hundred years worth of reliable data, most of the while where markets were much less efficient (as measured by the deviation of the distribution of outcomes in a chosen equity type from the mean market outcome), and the fact that we're good at looking for patterns, sure many patterns would emerge.

I'm not really interested in the Sharpe ratio - I don't think the amount of wiggling in the stock in ten last ten years tells you anything about what the company's revenue and earnings would be in 30 years, which I think heavily determines the market value of the stock then.

The way I see it is historically small caps were much less efficiently priced and hence they did somewhat consistently outperform large caps for a while initially, and they happened to also be the stocks that are the most volatile. Hence the more volatile stocks looked like they return more.

There isn't much of a systemic inefficiency in small cap pricing anymore, and now it's just cycles of small caps and large caps outperforming each other, just by random chance, just as it is almost guaranteed that some sector X will outperform Y in the next ten years, even though there is not "Sector X premium" without hindsight.

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Re: Do Small Caps Outperform?

Post by wolf359 » Tue Jun 12, 2018 9:47 am

This question made me curious, so I opened Portfolio visualizer and checked various asset allocation results since 1983 (thus eliminating 1975-1983). Small cap is about the same as large cap but slightly outperforms if you start with $100,000 and hold it for the entire time period. It pulls ahead if you start with $100,000 and contribute $1,000/mo throughout. It is significantly ahead if you start with $3,000 and contribute $1,000/mo throughout. (That third scenario describes most people's investment approach, where you start with the account minimum and build up your portfolio through contributions over time.)

Small cap value clobbers everything in all three investment approaches (single big lump sum, big lump sum with contributions, minimum start with contributions).

So Siegel's assessment is accurate. Small cap doesn't really beat large cap by much after 1983, (after small cap was known) especially on a risk-adjusted basis. However, the way most people invest (with small periodic contributions), the greater standard deviation of small cap stocks actually improve their performance.

I wouldn't put all my eggs in the small cap basket, but you might get a slight improvement by using Total Stock Market instead of S&P 500 (because of the additional small caps in the TSM.)

The Small cap value result is why I tilt into SCV. Again, I wouldn't bet the farm, but the best results come from dollar cost averaging, so that you buy more when the prices drop due to its high standard deviation (bigger price swings.)

I like Larry Swedroe's approach to evaluating factors to determine which are worthy of investment. They are:

1) Persistence - Whether the factor holds over long periods of time and in different economic conditions.
2) Pervasive - The factor holds across countries, regions, sectors, and asset classes.
3) Robust - The factor holds for various definitions (e.g. value premium holds even if you measure it by price-to-book, earnings, cash flow, or sales.)
4) Investable - Factor can be invested in. Trading costs and other implementation issues don't negate the factor.
5) Intuitive - There is a logical risk-based or behavioral-based explanation of the premium and why it should continue to exist.

I'd recommend reading "Your Complete Guide to Factor-based Investing" by Berkin and Swedroe. In it, they cover size as a factor in detail. It's worth noting that size provided one of the smaller premiums of the factors discussed in that book. In other words, the premium exists and can be captured, but you may want to spend your time and money elsewhere first.

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Re: Do Small Caps Outperform?

Post by Walkure » Tue Jun 12, 2018 12:11 pm

wolf359 wrote:
Tue Jun 12, 2018 9:47 am
This question made me curious, so I opened Portfolio visualizer and checked various asset allocation results since 1983 (thus eliminating 1975-1983). Small cap is about the same as large cap but slightly outperforms if you start with $100,000 and hold it for the entire time period. It pulls ahead if you start with $100,000 and contribute $1,000/mo throughout. It is significantly ahead if you start with $3,000 and contribute $1,000/mo throughout. (That third scenario describes most people's investment approach, where you start with the account minimum and build up your portfolio through contributions over time.)...

So Siegel's assessment is accurate. Small cap doesn't really beat large cap by much after 1983, (after small cap was known) especially on a risk-adjusted basis. However, the way most people invest (with small periodic contributions), the greater standard deviation of small cap stocks actually improve their performance.
JoMoney wrote:
Tue Jun 12, 2018 12:21 am
Image
I think this graph illustrates very nicely what wolf359 is talking about; I call it the "volatility skewness premium." You have two size classes, 30yrs, near identical overall performance. If you were investing a single lump sum in '78, it wouldn't matter which fund you picked. We all get there in the end. But in that range of time, all the talk of risk-adjusted returns has given people this preconceived idea that the "more volatile" blue line should simply act like a 1.5x levered orange line. In fact, volatility, at least when it comes to small caps (possibly value and other factors as well), means lagging for long periods of time, punctuated by sudden breakouts that are double to triple the contemporaneous gains of large caps. (In the chart above these occur in late 1982 and 2002 - so it looks like [WA prediction alert!] October 2022 is gonna be a great month for small caps.) The point being that, for the "typical" investor, DCA'ing in the accumulation stage, the skew in the distribution of volatility means that more contributions are purchased at "lower prices," rather than the large caps which show a steadier, more gradual rise in price. So that when the bi-decade breakout happens, the small cap investor's actual performance is much closer to the lump-sum "growth of $10k for 30yrs" chart than the large cap investor's.

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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 12:30 pm

vineviz wrote:
Tue Jun 12, 2018 8:54 am
...I can't easily check the 1926 to 1929 period...
Here's the data I used.

I get:

bills, µ = 3.40%
large-company stocks, µ = 12.056%, σ = 19.688%, Sharpe ratio = 0.440
small-company stocks, µ = 16.516%, σ = 31.515%, Sharpe ratio = 0.416

I'm not surprised that you got different numbers starting at 1930. The devil of all of this stuff is that numbers and conclusions are so darned fragile with respect to endpoints.

When the size effect was announced in 1981, it was claimed to be a big deal. In 1983 Robert Arnott stated
A growing body of evidence exists that small-capitalization stocks significantly outperform large-capitalization stocks. This effect is so strong and so consistent that even advocates of the Efficient Market Hypothesis have found no refutation of this effect.
But, thirty-seven years later, this effect, "so strong and so consistent" has now become so tenuous that it is quite possible to argue about whether or not it even exists. I don't know if you can say it's been "refuted," but it certainly ain't what it used to be. (Or was said to be).

Code: Select all

,Large,Small,U. S.
,company,company,Treasury
Year ending,stocks,stocks,bills
1925,,,
1926,11.62%,0.28%,3.27%
1927,37.49%,22.10%,3.12%
1928,43.61%,39.69%,3.56%
1929,-8.42%,-51.36%,4.75%
1930,-24.90%,-38.15%,2.41%
1931,-43.34%,-49.75%,1.07%
1932,-8.19%,-5.39%,0.96%
1933,53.99%,142.87%,0.30%
1934,-1.44%,24.22%,0.16%
1935,47.67%,40.19%,0.17%
1936,33.92%,64.80%,0.18%
1937,-35.03%,-58.01%,0.31%
1938,31.12%,32.80%,-0.02%
1939,-0.41%,0.35%,0.02%
1940,-9.78%,-5.16%,0.00%
1941,-11.59%,-9.00%,0.06%
1942,20.34%,44.51%,0.27%
1943,25.90%,88.37%,0.35%
1944,19.75%,53.72%,0.33%
1945,36.44%,73.61%,0.33%
1946,-8.07%,-11.63%,0.35%
1947,5.71%,0.92%,0.50%
1948,5.50%,-2.11%,0.81%
1949,18.79%,19.75%,1.10%
1950,31.71%,38.78%,1.20%
1951,24.02%,7.80%,1.49%
1952,18.37%,3.03%,1.66%
1953,-0.99%,-6.49%,1.82%
1954,52.62%,60.58%,0.86%
1955,31.56%,20.44%,1.57%
1956,6.56%,4.28%,2.46%
1957,-10.78%,-14.57%,3.14%
1958,43.36%,64.89%,1.54%
1959,11.96%,16.40%,2.95%
1960,0.47%,-3.29%,2.66%
1961,26.89%,32.09%,2.13%
1962,-8.73%,-11.90%,2.73%
1963,22.80%,23.57%,3.12%
1964,16.48%,23.52%,3.54%
1965,12.45%,41.72%,3.93%
1966,-10.06%,-7.01%,4.76%
1967,23.98%,83.57%,4.21%
1968,11.06%,35.97%,5.21%
1969,-8.50%,-25.05%,6.58%
1970,4.01%,-17.43%,6.52%
1971,14.31%,16.50%,4.39%
1972,18.98%,4.43%,3.84%
1973,-14.66%,-30.90%,6.93%
1974,-26.47%,-19.95%,8.00%
1975,37.20%,52.82%,5.80%
1976,23.84%,57.38%,5.08%
1977,-7.18%,25.38%,5.12%
1978,6.56%,23.46%,7.18%
1979,18.44%,43.46%,10.38%
1980,32.42%,39.88%,11.24%
1981,-4.91%,13.88%,14.71%
1982,21.41%,28.01%,10.54%
1983,22.51%,39.67%,8.80%
1984,6.27%,-6.67%,9.85%
1985,32.16%,24.66%,7.72%
1986,18.47%,6.85%,6.16%
1987,5.23%,-9.30%,5.47%
1988,16.81%,22.87%,6.35%
1989,31.49%,10.18%,8.37%
1990,-3.17%,-21.56%,7.81%
1991,30.55%,44.63%,5.60%
1992,7.67%,23.35%,3.51%
1993,9.99%,20.98%,2.90%
1994,1.31%,3.11%,3.90%
1995,37.43%,34.48%,5.60%
1996,23.07%,17.62%,5.21%
1997,33.36%,22.78%,5.26%
1998,28.58%,-7.31%,4.86%
1999,21.04%,29.79%,4.68%
2000,-9.11%,-3.59%,5.89%
2001,-11.88%,22.77%,3.83%
2002,-22.10%,-13.28%,1.65%
2003,28.70%,60.70%,1.02%
2004,10.88%,18.39%,1.20%
2005,4.91%,5.69%,2.98%
2006,15.79%,16.17%,4.80%
2007,5.49%,-5.22%,4.66%
2008,-37.00%,-36.72%,1.60%
2009,26.46%,28.09%,0.10%
2010,15.05%,31.26%,0.12%
2011,2.11%,-3.26%,0.04%
2012,16.00%,18.23%,0.06%
2013,32.39%,45.07%,0.02%
2014,13.69%,2.92%,0.02%
2015,1.38%,-3.60%,0.02%
2016,11.96%,25.65%,0.20%
2017,21.83%,11.19%,0.80%
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Re: Do Small Caps Outperform?

Post by SimpleGift » Tue Jun 12, 2018 12:53 pm

Keep in mind we also have small cap data from the United Kingdom for the 1955-2017 period, thanks to Dimson, Marsh & Staunton (chart at right below) — though for the U.K. market, it appears there was mainly a micro-cap premium (which has generally proven difficult to capture in real world mutual funds, as I understand it).
Cordially, Todd

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Re: Do Small Caps Outperform?

Post by vineviz » Tue Jun 12, 2018 1:25 pm

nisiprius wrote:
Tue Jun 12, 2018 12:30 pm
But, thirty-seven years later, this effect, "so strong and so consistent" has now become so tenuous that it is quite possible to argue about whether or not it even exists. I don't know if you can say it's been "refuted," but it certainly ain't what it used to be. (Or was said to be).
It seems to me that it is only possible to argue about whether the small cap premium exists if one is willing to ignore the actual data.

Even with the inclusion of the 1926 to 1930 data (thanks by the way), the small cap portfolio was still money ahead by 1944 and stayed that way through 1974 and beyond. Including the Great Depression made the gains through 1974 less impressive, but it didn't wipe them out as Siegel suggested.

Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926. In the best of those 20 year period, small caps outpaced large caps by 9.4% PER YEAR, and in the worst 20 year period underperformed by 2.4% per year. Either way you look at it, the upside/downside of investing in small caps has been, and continues to be, decidedly in favor of the small cap investor.
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Re: Do Small Caps Outperform?

Post by JoMoney » Tue Jun 12, 2018 1:42 pm

FWIW, Prof. Siegel's small-cap stock data set is different then what Ibbotson or Fama-French small-cap use (I believe his is something like the bottom 20% of the NYSE spliced to the Russell 2000)...
Regardless, these were not investable portfolios / funds and the longest time period is retroactively reconstructed. We do have the DFA fund DFSCX since 1981, and it's portfolio (which has more nuances then a strict percentage of the market) and over the 36.5 years since it's been around it managed to eek out an extra 0.55% annualized over Vanguard's 500 index fund. That 0.55% annualized (which may not even be enough to pay a DFA authorized advisers fees) was very time period sensitive: Set your end in the late 1990's and that +0.55% for the small cap fund would have been negative -3.5% relative to the S&P500. Set the the start period as being around 1983 and even using current date as the 'end point' it doesn't beat the S&P 500.
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Re: Do Small Caps Outperform?

Post by tesuzuki2002 » Tue Jun 12, 2018 3:35 pm

zmaqoptyxbglp wrote:
Mon Jun 11, 2018 3:34 pm
Why do people keep saying that small cap overperforms large cap? The small cap universe has lost to the large cap universe since the establishment of the Russell 2000 index. (I understand that the S&P 500 is not exactly the large cap universe, but I tried comparing the CRSP US Large Cap index to the S&P 500 and there's effectively no delta between the two).

Quote: "From 1979 – 2015, the S&P 500 has produced an annualized return of 11.7% with annualized volatility of 15.1%. Over the same time period, the Russell 2000 has produced an annualized return of 11.4% with annualized volatility of 19.5%. This stands in contrast to the notion that Small Caps outperform not only in absolute terms but on a risk-adjusted basis as well."

Source: https://pensionpartners.com/do-small-ca ... over-time/

I for one don't believe in standard deviation and therefrom the sharpe ratio having anything to do with long run performance. I don't think the notion of "risk adjusted returns" in comparing a subset of equities with another is legitimate. Sure, if you look at data starting in the early 1900s, small caps have outperformed, but that's more likely due to less efficient markets in general prevalent in the earlier decades, where information was harder to exchange and alpha was easier to extract.

Nevermind "risk adjusted returns", but why do people keep insisting that small caps outperform large caps in the long run?
Looking at history... it has been demonstrated time and time again.

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Re: Do Small Caps Outperform?

Post by alex_686 » Tue Jun 12, 2018 3:51 pm

nisiprius wrote:
Tue Jun 12, 2018 12:30 pm
When the size effect was announced in 1981, it was claimed to be a big deal. In 1983 Robert Arnott stated
A growing body of evidence exists that small-capitalization stocks significantly outperform large-capitalization stocks. This effect is so strong and so consistent that even advocates of the Efficient Market Hypothesis have found no refutation of this effect.
But, thirty-seven years later, this effect, "so strong and so consistent" has now become so tenuous that it is quite possible to argue about whether or not it even exists. I don't know if you can say it's been "refuted," but it certainly ain't what it used to be. (Or was said to be).
To extend a bit, just because something did exist does not mean it exists now.

Why would small caps outperform large caps? Probably not magic - it has to be rooted in some underlying cause. I could see a couple of reasons why, "Diseconomies of Scale" for one. Small caps grow until they hit their most efficient size and then stagnate. Small fast adaptable mammals verse the large lumbering dinosaurs. Then the 90s came with the internet and the environment changed. One could be large and nimble. Or at least nimbler. I can give other examples if you want.

I think we are in a new age of large caps and I am willing to place a modest bet on that.

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Re: Do Small Caps Outperform?

Post by SimpleGift » Tue Jun 12, 2018 4:00 pm

alex_686 wrote:
Tue Jun 12, 2018 3:51 pm
I think we are in a new age of large caps and I am willing to place a modest bet on that.
I'm increasingly coming around to this view as well. As the number of public companies declines (in the U.S. at least), and these fewer large remaining firms grow in size and profitability due to their global reach, one can make a good case that the large cap multi-nationals of the index investing universe may well outperform in the future.

Personally, I still tilt modestly toward small stocks, but I certainly wouldn't exclude large cap from any multi-asset portfolio.
Cordially, Todd

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Re: Do Small Caps Outperform?

Post by WhiteMaxima » Tue Jun 12, 2018 4:09 pm

Small cap do outperform.

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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 4:41 pm

vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So? Large-cap stocks have had a positive return in all 73 of the 73 rolling 20-year periods since 1926. It follows that leveraged large-cap stocks would have outperformed large-cap stocks in 73 out of 73 periods, not just 64. (And yet we do not talk about a leverage premium; I wonder why not?)

An analysis that doesn't take account of risk in some way is worthless.

But even the small-cap premium itself has been challenged. I admit to leaning on authority, and we could certainly find authorities on the other side... but the existence of a small-cap premium has been challenged by some authorities. It isn't crazy talk to doubt its existence. Aswath Damodaran:The Small Cap Premium: Where is the beef?
On closer scrutiny, the historical data, which has been used as the basis of the argument, is yielding more ambiguous results and leading us to question the original judgment that there is a small cap premium.
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Re: Do Small Caps Outperform?

Post by vineviz » Tue Jun 12, 2018 8:09 pm

nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So?
The probability of success is one of the most important pieces of information you need when evaluating uncertain events (like stock market returns). Payoff and costs are the other two big ones.
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
An analysis that doesn't take account of risk in some way is worthless.
No one here is talking about investing a portfolio entirely in small cap stocks, which makes their riskiness in isolation irrelevant. What matters is their overall effect on the portfolio which, we've already agreed, is to increase PORTFOLIO returns substantially without increasing PORTFOLIO risk significantly. We've already addressed it.
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
But even the small-cap premium itself has been challenged. I admit to leaning on authority, and we could certainly find authorities on the other side... but the existence of a small-cap premium has been challenged by some authorities.
There are people who think the earth is flat, too, but I prefer not to pay them any more attention than I must.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Do Small Caps Outperform?

Post by vineviz » Tue Jun 12, 2018 8:22 pm

JoMoney wrote:
Tue Jun 12, 2018 1:42 pm
FWIW, Prof. Siegel's small-cap stock data set is different then what Ibbotson or Fama-French small-cap use (I believe his is something like the bottom 20% of the NYSE spliced to the Russell 2000)...
Regardless, these were not investable portfolios / funds and the longest time period is retroactively reconstructed. We do have the DFA fund DFSCX since 1981, and it's portfolio (which has more nuances then a strict percentage of the market) and over the 36.5 years since it's been around it managed to eek out an extra 0.55% annualized over Vanguard's 500 index fund.
That's not nothing, especially after expenses.

Besides, today we have dozens of choices that are entirely investable besides DFSCX many of which have much lower expenses. Look at $10,000 put into any number of ETFs since their inception versus the same money put into VFINX on the same date:

IJR $60,858 vs VFINX $25,539
IWM $43,334 vs VFINX $26,539
VB $38,688 vs VFINX $31,635
JKL $35,571 vs VFINX $32,227
SLY $$35,167 vs $27,768
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 8:29 pm

vineviz wrote:
Tue Jun 12, 2018 8:09 pm
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So?
The probability of success is one of the most important pieces of information you need when evaluating uncertain events (like stock market returns). Payoff and costs are the other two big ones.
But, by your own chosen metric, leveraged large-caps would have been superior to small-caps. If "success" is defined as "outperforming (unleveraged) large caps over rolling 20-year periods," small-caps succeeded 64/73 = 88% of the time, but leveraged large-caps succeeded 73/73 = 100% of the time.
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Re: Do Small Caps Outperform?

Post by stlutz » Tue Jun 12, 2018 8:32 pm

but the existence of a small-cap premium has been challenged by some authorities. It isn't crazy talk to doubt its existence. Aswath Damodaran:The Small Cap Premium: Where is the beef?
Interesting. I hadn't seen that writeup before. Thanks for sharing, nisi.

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Re: Do Small Caps Outperform?

Post by vineviz » Tue Jun 12, 2018 8:49 pm

nisiprius wrote:
Tue Jun 12, 2018 8:29 pm
vineviz wrote:
Tue Jun 12, 2018 8:09 pm
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So?
The probability of success is one of the most important pieces of information you need when evaluating uncertain events (like stock market returns). Payoff and costs are the other two big ones.
But, by your own chosen metric, leveraged large-caps would have been superior to small-caps. If "success" is defined as "outperforming (unleveraged) large caps over rolling 20-year periods," small-caps succeeded 64/73 = 88% of the time, but leveraged large-caps succeeded 73/73 = 100% of the time.
What does that have to do with anything? It's the answer to a question no one asked.

The title of this thread isn't "imagine some investment strategy that will outperform small cap stocks".
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Do Small Caps Outperform?

Post by snarlyjack » Tue Jun 12, 2018 9:04 pm

Here is a article on Small Cap. Stocks that you might find informative.
The more information the better...

Enjoy.

http://theconservativeincomeinvestor.co ... -a-caveat/

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Re: Do Small Caps Outperform?

Post by Culbretd » Tue Jun 12, 2018 9:27 pm

nisiprius wrote:
Tue Jun 12, 2018 8:29 pm
vineviz wrote:
Tue Jun 12, 2018 8:09 pm
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So?
The probability of success is one of the most important pieces of information you need when evaluating uncertain events (like stock market returns). Payoff and costs are the other two big ones.
But, by your own chosen metric, leveraged large-caps would have been superior to small-caps. If "success" is defined as "outperforming (unleveraged) large caps over rolling 20-year periods," small-caps succeeded 64/73 = 88% of the time, but leveraged large-caps succeeded 73/73 = 100% of the time.
Do what? If you want to roll all large caps and double down on them then do just that and you will match large cap success every year. No one is saying you can’t do that.

People have used large cap stocks (500 index) for a barometer since it was first invented. It has always been assumed to be the safest investment for someone for simply no other reason than you need not fear about them going out of business as often as you would small caps or mid caps. They are already established. An average person knowing very little to nothing about how the stock market works finds this very appealing for they now believe they can set there money in said large cap fund and forget about it til decades later when they need it.

There is always going to be some sort of barometer to measure success of something against no matter what industry you are in. This is true for every business.

If you don’t believe in small cap tilts and out performance then that is fine. No one says you have to believe as there will always be periods of outperformance for each sector. There is plenty of evidence to support both sides of the arguement and the evidence is usually cherry picked to support ones argument. There is compelling evidence of small cap performance though in the long run.

Looking back and seeing the results of the S&P 600 compared to the S&P 500 is very compelling for small cap outperformance. You still haven’t answered why you compared the Russell 2000 index to the S&P 500 index. As stated several times in this thread the Russell 2000 was never supposed to be a followed and invested in benchmark thus it has several inherit problems. Biggest being it is front loaded every year and forced to buy stocks at a high price. Also it is forced to buy the losers from the Russell 1000 index and sale the out performers to the Russell 1000 index. It is reconstituted every year like this. How can an index be efficient when it is always getting rid of the outperforming stocks?? Since the S&P index are chosen they get to hang onto said outperforming stocks and keep riding them thus reaping the benefits. Also there are different more stringent requirments to be considered for S&P indexes where as with the Russell Index it is done by size alone. Russell 1000 being the biggest 1000 companies and the 2000 being the next biggest 2000 companies. Even if a company has underperformed for several years straight and missed earning several years straight the Russell indexes have to keep it and can’t get rid of underperformers.

Russell 2000 is not a good index to compare anything too much less invest in. It is however the only small cap index in most 401Ks and if someone wants access to mid caps and small caps they have to buy it.

WhiteMaxima
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Re: Do Small Caps Outperform?

Post by WhiteMaxima » Tue Jun 12, 2018 9:46 pm

In my 401k, I tilt toward Russel2000.

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Re: Do Small Caps Outperform?

Post by Pulling Hard » Tue Jun 12, 2018 9:48 pm

vineviz wrote:
Tue Jun 12, 2018 8:22 pm
JoMoney wrote:
Tue Jun 12, 2018 1:42 pm
FWIW, Prof. Siegel's small-cap stock data set is different then what Ibbotson or Fama-French small-cap use (I believe his is something like the bottom 20% of the NYSE spliced to the Russell 2000)...
Regardless, these were not investable portfolios / funds and the longest time period is retroactively reconstructed. We do have the DFA fund DFSCX since 1981, and it's portfolio (which has more nuances then a strict percentage of the market) and over the 36.5 years since it's been around it managed to eek out an extra 0.55% annualized over Vanguard's 500 index fund.
That's not nothing, especially after expenses.

Besides, today we have dozens of choices that are entirely investable besides DFSCX many of which have much lower expenses. Look at $10,000 put into any number of ETFs since their inception versus the same money put into VFINX on the same date:

IJR $60,858 vs VFINX $25,539
IWM $43,334 vs VFINX $26,539
VB $38,688 vs VFINX $31,635
JKL $35,571 vs VFINX $32,227
SLY $$35,167 vs $27,768
Yum, I love me some IJR!

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nisiprius
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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 9:50 pm

Culbretd wrote:
Tue Jun 12, 2018 9:27 pm
nisiprius wrote:(things)
...You still haven’t answered why you compared the Russell 2000 index to the S&P 500 index...
That wasn't me. I never made any such comparison.
Last edited by nisiprius on Tue Jun 12, 2018 10:04 pm, edited 1 time in total.
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Re: Do Small Caps Outperform?

Post by stlutz » Tue Jun 12, 2018 9:54 pm

Yum, I love me some IJR!
IJR began trading basically at the very top of the tech bubble in 2000. So, what you in fact love is a good market timing call to switch from the S&P 500 to smallcaps at the very top of the bubble back then.

IJR is a fine fund (I own some). But it's not *that* good.

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Re: Do Small Caps Outperform?

Post by nisiprius » Tue Jun 12, 2018 10:09 pm

vineviz wrote:
Tue Jun 12, 2018 8:49 pm
nisiprius wrote:
Tue Jun 12, 2018 8:29 pm
vineviz wrote:
Tue Jun 12, 2018 8:09 pm
nisiprius wrote:
Tue Jun 12, 2018 4:41 pm
vineviz wrote:
Tue Jun 12, 2018 1:25 pm
...Small caps have still outperformed large caps in 64 of the 73 rolling 20-year periods since 1926...
So?
The probability of success is one of the most important pieces of information you need when evaluating uncertain events (like stock market returns). Payoff and costs are the other two big ones.
But, by your own chosen metric, leveraged large-caps would have been superior to small-caps. If "success" is defined as "outperforming (unleveraged) large caps over rolling 20-year periods," small-caps succeeded 64/73 = 88% of the time, but leveraged large-caps succeeded 73/73 = 100% of the time.
What does that have to do with anything? It's the answer to a question no one asked.

The title of this thread isn't "imagine some investment strategy that will outperform small cap stocks".
My point is that we have to begin by deciding whether we are interested in risk-adjusted return or just return. Banz originally said that small-caps had had higher risk-adjusted return, and I think that's what we should be discussing. If we now concede that no longer seem to have had higher risk-adjusted return, and are falling back on saying "but they have had high return," all I can say is that is not an interesting fact. If we do not care about risk, then we should all be using leverage. By your own chosen metric (percentage of times small caps outperformed large-caps over rolling 20-year periods) leverage is better than using small-caps. That throws into doubt the idea that small-caps have any special virtue beyond simply being riskier.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

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