Getting Defensive with Small-Cap Value
With the business cycle aging, where can investors potentially find differentiated opportunities? In the third of a series of videos providing updated views on financial markets, Justin Tugman, Portfolio Manager at Perkins Investment Management, makes the case for small-cap value stocks.
- After 10 years of a bull market and with the global economy potentially slowing, investors may now want to focus on defending market gains.
- In our opinion, the small-cap value space includes many high-quality companies that are not widely followed by Wall Street, creating the potential for diversification and, in turn, a way to defend hard-earned gains.
Justin Tugman: We had talked about in early 2018 that we thought it was a time for value versus growth. When you look at the landscape, you are starting to see a more normalization of the economy. It could stand on its own two feet; we didn’t need all of the monetary intervention from central banks. We still think that that is the case, which in our view would lend support to the value versus growth argument. The fact that interest rates have been going up until recently was certainly supportive of value versus growth. And I think when you start to look at the different market caps, we have actually seen value perform better in the small caps over the past three quarters than we have in the large caps of value versus growth. In fact, in the second quarter of 2018, value outperformed growth and we saw it again in the fourth quarter in the small-cap value.
I think when you look at the past several years, particularly 2018, it was one of the better economic growth years that we have seen in quite a while, it is important that you start to focus on owning higher quality as you get into the later cycle of the economic expansion. At some point, we may have a credit crisis, where credit spreads blow out and there is more of a focus on balance sheets; that is when you want to own higher quality names that do have the strong balance sheets. And I would also say that when you start to look at the composition of the benchmarks, especially in the small caps, there is a lot of money-losing companies inside the benchmarks, both inside the growth and the value of the small caps. And it bothers me a little bit that we are this far into an economic recovery and we still have this large amount of companies that are losing money. I think you have to ask yourself: What are you really investing in when you just go in purely to a benchmark?
We think it is important that you are in a position to protect gains. We are not here to say that the market is going to fall apart tomorrow. It may, it may not; it could continue to run for a long period of time. So you want to continue to stay invested in the stock market, but also understand that you need to be positioned in a more defensive way, to hold onto those hard-earned gains. So I think when you look at small caps and mid caps, they can offer something a lot different than the more household names that you see in the large caps. There can be a lot of opportunities of undiscovered companies that are underfollowed by the Street, and there is, frankly, a lot of high-quality companies that people don’t know much about.
Growth and value investing each have their own unique risks and potential for rewards, and may not be suitable for all investors. Growth stocks are subject to increased risk of loss and price volatility and may not realize their perceived growth potential. Value stocks can continue to be undervalued by the market for long periods of time and may not appreciate to the extent expected.
Smaller capitalization securities may be less stable and more susceptible to adverse developments, and may be more volatile and less liquid than larger capitalization securities.
When valuations fall and market and economic conditions change it is possible for both actively and passively managed investments to lose value.
Diversification neither assures a profit nor eliminates the risk of experiencing investment losses.
Perkins Investment Management LLC is a subsidiary of Janus Henderson Group plc and serves as the sub-adviser on certain products.
Janus Henderson and Perkins are trademarks of Janus Henderson Group plc or one of its subsidiaries. © Janus Henderson Group plc.