The Case for Small-Cap Value

Mark Twain is reputed to have said that history doesn’t repeat itself, but it often rhymes. A situation is now emerging in the market that is a potential rhyme with 1999: highly overvalued growth stocks vs shunned, overlooked and otherwise ignored small-cap value stocks.

As in 1999, growth stocks have outperformed value generally and small-cap value specifically for years – about a decade. As in 1999, growth stocks have reached stratospheric – and probably unsustainable - levels of valuation. Warren Buffet shunned growth stocks in 1999 because his favorite indicator – market capitalization vs GDP – had reached the then-unheard-of level of 140%. Today it is over 180%! This has led to small cap value stocks falling to the lowest relative level vs large cap growth stocks since - you guessed it - 1999.

The years between the dot-com crash and the financial crisis were a disaster for large cap growth, but small cap value did just fine: The S&P Small Cap 600 Value Index gained about +110% between 1/1/2000 and 12/31/2007, while the Nasdaq Composite over that same period lost more than -40% (and about -80% at its worst). In the last month or two, small cap and value stocks have begun to stir (note the uptick in the chart). Is it their time to shine again? (Data from MSCI, chart from Grantham, Mayo, Van Otterloo & Co.)

(Sources: All index- and returns-data from Yahoo Finance; news from Reuters, Barron’s, Wall St. Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, CNBC, FactSet.)

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Womack Investment Advisers, Inc.

WOMACK INVESTMENT ADVISERS, INC.

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David Kostin, the Goldman Sachs chief U.S. equity strategist, wrote in a note to clients “The U.S. election is just 81 days away and represents a significant risk to our year-end forecast.” Analysts often mention the uncertainty surrounding presidential elections in the United States, and this year is sure to be no exception. However, John Stoltzfus, CIO of Oppenheimer Asset Management told clients, “Embrace the uncertainty.” His research showed that historically, elections haven’t done much to prevent stocks from going up regardless of which political party prevails. Furthermore, Stoltzfus writes, “Uncertainty usually comes with opportunity and risk—two considerations essential in making investments.” A study by Deutsche Bank showed that in Presidential election years in which the contest is thought to be “close”, stocks generally go up until a month or so before the election, then pull back a bit, and then resume their uptrend from around the election through the end of the

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