• Higher Quality: The selection methodology for WTSDG focuses on return on equity (ROE), and therefore, the ROE factor for WTSDG is approximately 50% higher than the ROE on both the Russell 2000 Index and the Russell 2000 Value Index. Additionally, WTSDG also boasts higher return on assets (ROA) and lower leverage compared to the Russell 2000 Index, Russell 2000 Value Index and Russell 2000 Growth Index. This makes the quality case for WTSDG even stonger.
• Lower P/E Ratio: Neither WTSDG nor the Russell 2000 Value Index uses P/E as a selection factor, but because of the unprofitable company exposure in the Russell 2000 Index and Russell 2000 Value Index, the P/E ratio of WTSDG is significantly lower than the Russell indexes. As we stated earlier, firms with negative earnings can actually cause the overall P/E ratio for an index to look higher.
• More Attractive Valuations Relative to S&P: Most importantly, while some say valuations of small caps versus large caps are stretched, WTSDG has both a higher dividend yield and a higher long term growth estimate than the S&P 500. Thus, this renders the small caps as relatively inexpensive compared to large caps.
Valuations across the Small-Cap Broad, Value, and Growth Cuts
For definitions of terms and indexes in the chart, please visit our Glossary.
Quite a Powerful Combination
In short, as of March 31, 2014, WTSDG offered what could be a potentially inexpensive valuation compared to other measures of U.S. small-cap equities. Usually, the trade-off for lower valuation is lower growth expectations or lower quality. At least at this time, that is not the case for WTSDG, in that, compared to the other Russell Indexes shown, we see the lowest P/E, highest dividend yield, highest return on equity, highest return on assets, lowest leverage and significant growth expectations (trailing only the Russell 2000 Growth Index). We think that this offers a powerful combination for those interested in considering U.S. small caps in today’s market environment.
1Source: Josh Brown, author of The Reformed Broker and regular contributor to CNBC, Investment News, the Daily Beast and many other outlets for financial news. Josh Brown is not affiliated with WisdomTree or ALPS Distributors, Inc.
2Sources: Ibbotson, Zephyr, BMO Private Bank. Small caps include listed U.S. equities on the New York Stock Exchange, NASDAQ and American Stock Exchange and include the bottom 50% of the market capitalization. Large caps include listed U.S. equities on these same exchanges and include the top 20% of the market capitalization.
3Refers to the Russell 2000 Value Index.
4Source: Joe Light, “How to Invest as Interest Rates Rise,” Wall Street Journal, 1/3/14.
5Refers to the WisdomTree U.S. SmallCap Dividend Growth Index.
6Refers to the WisdomTree SmallCap Dividend Index.
7Refers to long-term earnings growth expectations, which are compilations of analyst estimates of the growth in operating earnings expected to occur over the next full business cycle, typically three to five years.
8Refers to the combination of three-year average return on equity and three-year average return on assets used in the selection process for the Index.
9Dividend yield: Refers to the trailing 12-month dividend yield.
Important Risks Related to this Article
Dividends are not guaranteed, and a company’s future ability to pay dividends may be limited. A company currently paying dividends may cease paying dividends at any time.
Investments focusing on certain sectors and/or smaller companies increase their vulnerability to any single economic or regulatory development. This may result in greater share price volatility.