I now have a pause regarding SCV tilt owing to the following considerations:
1.
Jeremy Siegel, Stocks for The Long Run wrote:...the cumulative total return on small stocks (measured by the bottom quintile of market capitalization) did not overtake large stocks once between 1926 and 1959. Even by the end of 1974, the average annual compound return on small stocks exceeded large stocks by only about 0.5 percent per year, not nearly enough to compensate most investors for their extra risk and trading costs...
But between 1975 and the end of 1983, small stocks exploded. During these years, small stocks averaged a 35.3 percent compound annual return, more than double the 15.7 percent return on large stocks. Total returns in small stocks during these nine years exceeded 1,400 percent...
After 1983, small stocks hit a long dry period and underperformed large stocks. In fact, Figure [pic] shows that if the nine-year period from 1975 through 1983 is eliminated, the total accumulation in small stocks over the entire period from 1926 through 1997 falls nearly one-third below that in large stocks. ...
... Even when the nine best consecutive years for large stocks (which ran from 1950-58) and the best nine consecutive years for small stocks have been removed, large stocks still outperformed small stocks over the past 70 years...
T. Rowe Price Small-Cap Stock Fund, Annual Report wrote:We believe small-caps will face a significant challenge in outperforming larger-cap shares. Estimates for 20% small-cap earnings growth in 2013 certainly appear optimistic given our economic environment. Valuations remain at premium levels on most relative measures, including the price-to-book and price-to-earnings ratios...
John Bogle & Burton Malkiel, Turn on a Paradigm wrote:...But to the extent that investors are persuaded by these data, the premiums offered by such stocks may well now have been "arbitraged away" in the stock market, as price-earnings multiples have become extremely compressed.
So what do I understand here?William Sharpe , Investors & Markets wrote:…the superiority of small stock returns diminished substantially after 1980 following widespread attention to the phenomenon. More recently, the superiority of value stocks has been broadly publicized. If this truly reflected a market inefficiency, some future diminution might be anticipated. Methods for beating the market carry the seeds of their own destruction...
The basis of SCV higher expected return compared to the market is its extended periods of underperformance. As Larry swedroe recently put it in a post:
So in order to catch the SCV premium, the investor needs to be ready to ride along 10, 20, even 40 years of underperformance, like between 1926-1959. And more importantly, the investor must have the fortitude to stay the course as SCV is underwater and other funds are over performing. Worse, he/she needs to rebalance, buying into funds that have been underperforming for years or decades, and at the same time, hear experts declare the death of the SCV premium because it was overvalued, too popular and everyone was into it. And they will possibly be right, because nothing guarantees that the SCV premium will persist.larryswedroe wrote:staythecourse
The logic is that assets that do poorly in bad times should carry big premiums. So it should be no surprise that these risky assets do poorly in bad times. Note that this is also one of the risk explanations for the value premium.
As to volatility it tends to jump in bad times, so it's during periods of high vol that these stocks would likely do poorly, not after. After the period of high vol they would likely have very high expected returns
Larry
So am I ready to ride that SCV roller coaster under water for possibly more than my time horizon (30 years), and stay the course and rebalance into possible eternal underperformance? That's a tough sell. Who is buying it and why?