r2i forum

Returns on various asset classes.


1930s - small cap outperformed large cap by 1.3% cagr
1940s - small cap outperformed large cap by 11.5% cagr
1950s - small cap outperformed large cap by 7.7% cagr
1960s - small cap outperformed large cap by 7.7% cagr
1970s - small cap outperformed large cap by 5.6% cagr
1980s - small cap outperformed large cap by -1.7% cagr
1990s - small cap outperformed large cap by -3.2% cagr
2000s - small cap outperformed large cap by 12.2% cagr
1997 to 2006 - small cap outperformed large cap by 5.1% cagr

Of COurse the above is just a story of growth comparison and not risk comparison. The small cap stocks are lot more volatile and can provide a roller coaster ride.

Recently, Vinod had mentioned that small cap stocks had had a great ride in recent times and for the next few years they may not be able to beat large caps ( I was unable to locate the thread).

I had a similar discussion on these two asset classes with KRV about 5 to 6 weeks back.

Yesterday I caught a few minutes of Burt Malkiel on Bob Brinker's show and he voiced the same concern and in fact said that he would not invest more than what is provided by the total market into the small cap.

Burt was asked specifically on the issue of equal weighted index vs market cap weighted. Of course, it was not too difficult to guess how Mr. Malkiel would answer.

I had seen the chart from this last Thursday's Investor's Business daily which I have attached, and I am having some second thoughts on small cap.

The outperformance of small caps is consistent in almost all decades. So the recent outperfomance is nothing unique.

Given above, why should I be concerned with small caps underperforming. I see no reversion to mean here. Why should I be cautious with small cap and why not overweight (which is what I have otherwise been doing and recommending).

By being cautious on the small cap, am I following the herd?

Comments

Desi,
Is each line represent 10 year period or time-period? E.g. 1930s means (1930-1939) or it's (1930 - till stats collected/2006).

Do you have large-cap returns data during 1980s and 1990s? May be overall large-cap have negative returns during this period & if one believe the CAPM then small cap being the risky, performed even worst during this period.

Maybe, the past performance alone is not a good indicator for the future. We have to see the past performance along with other factors. For example, real estate has historically beaten inflation. One might see a good record similar to small cap for real estate in the past 70 yrs. Does it mean it is a good bet for the near future. Maybe not. Sometimes fundamentals have to be given importance irrespective of the past performance.

Some folks are foreseeing tough times ahead for the future. In tough times, they expect large caps to hold up better than the small caps. That is the reason they are recommending large cap over small. But, they surely do not know when the tough times will be there. In the IBD data you attached, in 1920s didn't the large cap outperform small cap by almost 60%?

Everything seems to be a bubble now and I would like to play defensive although my portfolio is still aggressive. http://biz.yahoo.com/ts/070427/10353243.html?.v=7. Beyond that your guess is as good as mine.

As regards to Vinod, he mentioned in a previous post that he does not trust past data.

Desi,

I recall our discussion on this subject when I visited you in the Windy City. I have a small overweight in Vang. tax-managed small cap in addition to total stock market index, and I see no reason to change that....yet

Desi, I have a related question: What's your take on growth vs value funds? Would you weight them equally? Thanks.

Very good topic to ponder over. Mid cap/large cap/Small cap/growth/value. Hope to see lot of good information come out which will be beneficial to vast majority on this forum.

Desi,
refer to this table: Callan Table.
1987-2006 ( 20 years of data)

Assuming Large cap is represented by S&P500, you will notice it is not at top of the chart in the last 20 years.
The last time it took second place is 1998. ( Peak of the US market boom )

After 1998, small cap blend, value and growth has done better than large gap.
It is natural to expect a rotation and expect the LB to take the thrown, this expectation has been there for last few years. But LB performance has taken a back seat for some time.

The argument for SB doesn't hold any longer. If LB is expected to do good in bad times and SB in good times, we are not in bad times, I guess. The fear of housing market is there, but why Dow is breaking all time records now ?

disclaimer: I did not tilt my AAP towards LB. I dont know whether SB, SV or SG will beat LB this year. I hold TSM, this gives more weight to Growth and Large in my portfolio. So I have VTV ( LV) and IJS ( SV) to balance the weight. Recently I sold IJS and bought VBR. I think VBR is better choice than IJS for small value. But VBR is new kid.