For Long-Term Investors, Small-Caps Could Be Winning Ideas

Despite last year’s weakness in large- and mega-cap growth stocks, it’s likely that many investors’ portfolios remain heavily allocated to big stocks while continuing to be under-allocated or not allocated at all to small-caps.

However, long-term investors may want to increase exposure to small-caps owing to the compelling growth prospects and currently attractive valuations offered by the asset class. Hundreds of exchange traded funds provide efficient exposure to smaller equities, eliminating the stock-picking burden. One of the newest members of this group is the Invesco NASDAQ Future Gen 200 ETF (QQQS).

QQQS debuted last October, and while that’s young in ETF terms, investors might want to remember the old saying about age being nothing but a number because the Invesco fund has credibility right now. As Bank of America head of U.S. small- and mid-cap strategy Jill Carey-Hall said in a recent interview with Insider, investors embracing small-caps today could be rewarded over the long haul.

“If you buy small caps today based on current valuations, the annualized returns for small caps over the next decade could be in excess of 10%,” Carey-Hall told Insider. “Whereas for large caps, the same framework would suggest about half of that. The S&P 500 could only see about 5% annualized price returns over the next decade.”

Due to its DNA, QQQS could be perceived as a growth ETF, but in reality, the fund allocates less than 24% of its weight to stocks with the growth designation. Fortunately, that’s not a major concern today because small-caps are attractively valued. As just one example, the widely followed Russell 2000 Index trades below its long-term price-to-earnings ratio.

According to Insider: “Valuations don’t always tell you a lot about what’s going to happen to the market over the next few months or even the next year, but they do tend to be very predictive about what happens over the long term or the next decade,” Carey-Hall said. “So definitely for long-term investors, we think this is a great opportunity to overweight small caps.”

Potentially supporting the longer-ranging case for QQQS, Bank of America’s Carey-Hall extols a preference for small-cap value fare. The Invesco ETF leans into that theme, as more than 36% of its 202 holdings are classified as value stocks.

Even with those compelling attributes, small-caps aren’t commanding much in the way of fund flows to start 2023. However, that could be a good sign for intrepid investors because embracing overlooked asset classes has historically been a winning strategy.

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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.