Small-cap stocks can deliver some of the greatest sensitivity to changes in sentiment across global asset classes. European small caps were a great example of this. When Mario Draghi delivered his “whatever it takes” speech in defense of the euro on July 26, 2012, European small caps delivered a sustained rally that continued pretty much unabated until June 6, 20141.
During this period of almost two full years, these were the average annual returns, for context:2
• European small caps: 47.7%
• European large caps: 27.8%
• U.S. small caps: 26.0%
• U.S. large caps: 24.0%
Quantitative Easing as a New Policy Catalyst
While the “whatever it takes” speech was an important buttress to the continued existence of the euro, we believe that the new quantitative easing program—officially announced by the European Central Bank (ECB) on January 22, 2015—could be the policy catalyst that helps the euro area stave off the risk of deflation.
Since this announcement through April 10, 2015, we’ve seen:3
• European small caps up 10.5%
• European large caps up 6.2%
• U.S. small caps up 6.6%
• U.S. large caps up 2.4%
European Small Caps Were Already Exhibiting Strength Compared to European Large Caps
The interesting thing is that you didn’t need to wait for the official announcement of quantitative easing for European small caps to start outperforming their large-cap counterparts—the shift in relative performance actually occurred closer to the September 4, 2014, ECB press conference. This was the meeting where the Asset-Backed Securities Purchase Program and the Covered Bond Purchase Program were announced. It’s possible that this outperformance of small caps over large caps in Europe was reflecting increased chances of full-scale QE more than four months before it happened.
European Small Caps Respond to Increased Potential for Full-Scale QE
For definitions of indexes and terms in the chart, please visit our glossary.