On a historical basis, mega-caps often lag their small-cap peers during the first few years of a recovery. That has been the case over the past three years as the Vanguard Mega-Cap ETF (NYSEArca: MGC) is up 60.4% compared to a 68.5% gain for the iShares Russell 200 ETF (NYSEArca: IWY).
The good news for mega-caps is that their under-peformance of small- and mid-caps has many behemoth stocks trading at valuations that are below those of broader indices like the S&P 500. Plus, many mega-caps are sturdy dividend payers, which can steady these stocks during times of elevated market stress. U.S. mega-caps are discounted and are levered to international growth opportunities, broadening their appeal in slow-growth enviorenments. [Mega-Cap ETFs for a Low-Growth Environment]
Morgan Stanley likes the idea of emphasizing global mega-caps.
“We think emphasizing global gorillas continues to make sense, as we expect: quality stocks will pay off over time; the rate of change of growth and policy overseas is improving; attractive secular trends, such as a rapidly expanding middle class in the emerging markets, remain intact; and valuations are relatively attractive compared with smaller-cap stocks,” said Hernando Cortina and Dan Skelly of Morgan Stanley Wealth Management in a note.
Cortina and Skelly note that since the market bottom in 2009, there have been instances of out-performance by companies with questionable balance sheets over well-heeled mega-caps.
“In the equity rally of the past several years, high-quality stocks have not always been in favor. Indeed, we note that, coming off the 2009 bottom and through 2010, there was an extreme divergence in performance between low-quality companies—those with weaker balance sheets—and their higher-quality and, often, larger-cap counterparts,” the duo said in the note.
With the Eurozone on the mend, Japan benefiting from the weaker yen and Chinese economic data improving, the time might be right for investors to consider “global gorillas,” as Morgan Stanley refers to mega-cap stocks with leverage to global growth.
The iShares Global 100 ETF (NYSEArca: IOO) is one ETF with which to play the global gorillas theme. The $1.3 billion ETF allocates 49.4% of its weight to the U.S., but even with that, the U.S. names found in IOO’s 102-stock lineup are far from domestically-focused plays. [iShares: Investors Playbook for Improving Global Growth]
Dow components Exxon Mobil (NYSE: XOM), Johnson & Johnson (NYSE: JNJ) and General Electric (NYSE: GE) are among the U.S. stocks in IOO’s top-10 lineup. International names include Nestle, HSBC (NYSE: HBC) and Novartis (NYSE: NVS).
At 0.9, IOO’s beta is slightly below that of the S&P 500’s and the ETF does trade at a discount to the benchmark U.S. index.
“We continue to believe that focusing on companies with global footprints, strong balance sheets, wide ‘competitive moats,’ proven management teams and significant free cash-flow generation is a winning strategy long term, particularly when they are trading at reasonable valuations,” according to the Morgan Stanley note.
Many of IOO’s holdings meet those requirements. Investors looking for a domestically-focused mega-cap ETF can consider the Guggenheim Russell Top 50 ETF (NYSEArca: XLG). Up 16.3% this year, XLG is home to the largest U.S.-based companies with Apple (NasdaqGM: AAPL), Exxon, GE, J&J and Google (NasdaqGM: GOOG) found among its top-10 holdings. XLG is up 16.3% this year.
Guggenheim Russell Top 50 ETF
ETF Trends editorial team contributed to this post. Tom Lydon’s clients own shares of Apple and Google.
Story updated to correct ticker for iShares Russell 200 ETF.