With companies such as Supermicro Computer recently graduating to the S&P 500, investors are renewing interest in midcap companies with strong growth potential. Invesco offers investing expertise in the midcap space, applying factor screening to seek out quality investments in midcap companies. Nick Kalivas, Invesco head of factor and core equity product strategy, recently sat down with VettaFi to discuss the potential of midcap investing and the benefits a factor-based approach can provide.
Nick Wodeshick: Supermicro Computer recently got added to the S&P 500. Do you see this as an indicator that investors should start looking at more midcap companies?
Nick Kalivas, Invesco head of factor and core equity product strategy: I think the example of Supermicro Computer is a reminder to investors that smaller companies can grow quickly and provide investment opportunity.
I feel in the kind of post-COVID era, investors have been just kind of enamored with big technology stocks. And they’ve kind of forgotten that, small technology stocks can also present good growth opportunities. I think Supermicro Computer is a reminder to investors to reexamine or rethink about opportunities down the cap spectrum.
Nick Wodeshick: Two of Invesco’s midcap factor ETFs [the Invesco S&P Midcap Quality ETF (XMHQ) and the Invesco S&P Midcap 400 GARP ETF (GRPM)]saw over $1 billion in net flows in the first quarter of 2024. Do you see these funds continuing to show such strong growth throughout the year? And do you think there’s any other funds that might be joining them?
Nick Kalivas: [I’ll step back] and give a little bit of background. Factors in the large-cap space, in recent years, have struggled a bit, because of the narrowness of the market leadership, the “Mag Seven.” Just the strength in the top names, and because most factor strategies have a factor weighting to them. So they’re not overweighing those big names. When you go down the cap spectrum, there has not been the concentration problem. The big growers, they graduated to the S&P 500.
So, factor performance has been fairly good, and it’s been good down the cap spectrum. And it’s been kind of forgotten. So, I think what you’ve seen with this flow, is this kind of realization that there are very good growth opportunities. And there are opportunities in factor investing down the cap spectrum.
I think what we’ve seen here in the last year to six months is kind of a sign that, going forward, investors are going to be thinking more about factor strategies down the cap spectrum. I think a lot of advisors, when they think about down the cap spectrum, they either kind of just go bulk data, the kind of [Implied volatility] index, or they might act more active.
But I think, given the performance we’ve seen in tickers like XMHQ or XMMO, and we just recently launched a GARP strategy there — GRPM — and we’ve done so also in small-cap space with GARP. I think these are gonna get more looks. And I think that’s going to translate into better flow over time.
Nick Wodeshick: What do you see as the biggest advantages of investing in midcap companies, compared to small-caps and large-caps?
Nick Kalivas: The midcap space is attractive on a couple of fronts. I think [No. 1] the companies are more seasoned, or they tend to be financially bigger than the small-caps. I think that provides a level of comfort to investors who are looking to invest in the SMID space. And then on the other hand, relative to large-cap companies, they have potential to see faster growth. They’re smaller. The law of large numbers works against the big names. You can see very strong returns in the midcap space because of that growth potential.
I think that’s really its advantage — like, the companies are seen as a little more seasoned than what you get in a small-cap space. That provides some risk mitigation and comfort. And then you can also get faster growth than what you see in the large-cap space. So you get opportunities like you kind of saw with Supermicro Computer, or like a lot of people have also focused a bit on Deckers, which had which had a pretty good run and actually also graduated into the S&P 500 in March too.
Nick Wodeshick: Looking back at midcaps, everyone’s talking about rate cuts on the horizon. Do you see any chance that midcap investing could be affected by the Federal Reserve’s moves?
Nick Kalivas: I think incrementally kind of holding things constant. If we see the growth expectations embedded in the midcap space come about, and you were to overlay the effect of rate cuts on the markets, I think that would bode well. And I think it would help risk taking. I think people would feel more comfortable going down the market cap spectrum.
So I do think it would be a plus. But I hear a lot of this Fed talk in the market. What’s probably more important is, does the expected trough in earnings growth materialize? And does it accelerate like it’s expected to into year-end? I think, even without the Fed, if that were to be the case, it would be very good for the midcaps.
For example, at the end of 2024, if you look at some of the estimates that Standard & Poor’s has put out on their website, the S&P 400 earnings growth is supposed to be 20.5%at the end of this year, compared to 12.5 for the S&P 500. So, that type of earnings growth, if that were to manifest itself, I think would be very constructive. Getting a Fed rate cut on top of that would just kind of be icing on the cake.
Nick Wodeshick: Is there anything else you wanted to add about midcap investing, or about Invesco’s library?
Nick Kalivas: It’s important to highlight that we offer the rewarded risk premium, the rewarded factors down the cap spectrum. And so if you’re thinking about momentum, or GARP, or low volatility, or value, or growth, we are offering that. So, investors have a lot of options within the Invesco lineup.
If you’re not necessarily a factor investor, and you just kind of want to look at alternative types of weightings and think a little bit outside the market cap box, we also have the revenue weight suite that goes up and down the cap spectrum. Those funds I think are also an interesting alternative to just plain market cap or bull beta investment.
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