I like -- no, love -- large multi-national dividend-paying
stocks. If you read my musings, you will notice it's a theme I
return to over and over again.
But these large-caps can be sleepy sometimes. For instance,
Johnson & Johnson
), which has been on a tear lately, basically went nowhere from
2005 to 2012. Except for growing its
from $1.32 to $2.40 over that time period, the stock was very
frustrating to own.
And sometimes when a stock is going nowhere, the notion of owning
smaller, faster-growing companies that are dominating niches and
plowing earnings back into the company as the share price rises
takes on a certain appeal. I applaud this notion, within reason,
especially when it's supported by facts.
I believe such facts are now on hand to support a more aggressive
allocation to small-cap stocks. Specifically, while the
Russell 2000 Small-Cap Value Index
(NYSEARCA:IWN) has posted similar returns to the
(INDEXSP:.INX), the valuations are quite different. Whereas
revenues for constituents of the S&P have grown by just under
5% over the past 12 months, revenues for the companies within the
Russell 2000 Value are up 9.7% year-over-year. More importantly the
growth in net margins for small caps are 11.2% versus 9.6% for the
In my view, this comparison, though apples to apples, nonetheless
masks an even greater mispricing of small-caps. That is, large-cap
P/E ratios may be distorted because earnings are being grown at
what I see as unsustainable margin improvements. By focusing
instead on Net Assets to Equity Ratio, which is truer than a
traditional metric such as Return on Equity, a different picture
begins to emerge as the former takes into account pension
Small-cap stocks have the reputation of being riskier, young
companies whose stock is more volatile than the broader market.
This reputation is warranted. Certainly no one talks about JNJ
"blowing up." This is one reason why stock-picking among
small-caps, rather than broad-sector bets can deliver alpha.
With this in mind, here are some of my favorite names, which are
included in my firm's small-cap separate accounts strategy:
Lancaster Colony Corp
Owens & Minor
Wolverine World Wide
). Portfolios focusing on low-volatility, high-quality small-cap
stocks may be able to reduce overall portfolio volatility and
achieve better returns. Growth-oriented investors should start
rotating into small-caps, as they could come back into favor soon.
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Gary Goldberg Financial