There’s increasing chatter concerning the reflation trade, a scenario that brings with it a variety of implications, including potential upside for mid- and small-cap value stocks.

Advisors looking to capitalize on the reflation trade can consider the WisdomTree Core Equity Model Portfolio, which features ample exposure to smaller stocks with value tilts.

“This model portfolio is designed for growth-oriented investors with a long-term horizon looking to maximize long-term potential for capital growth through a globally diversified set of equity ETFs,” according to WisdomTree.

The great rotation is on, with exchange traded fund investors shifting into the reflation trade. However, the bet is not certain, and the swing hinges on the promise that the economy will return to normal or a pre-coronavirus environment. Advisors can buffer some of that risk with the core equity model portfolio.

Don’t Ignore the Bond Market

Signs are emerging that the reflation trade is just beginning to take shape.

“The bond market has an upset stomach,” writes WisdomTree Head of Equity Strategy Jeff Weniger. “The breakeven inflation rate is derived from a comparison of the yield on vanilla Treasuries and those of Treasury Inflation-Protected Securities (TIPS). The market’s expectation for inflation over the next five years went up through 2% a few weeks ago. It’s still tame, yes, but running hotter.”

Reflation is expected to cause a rotation – one that’s already starting – to cyclical value sectors, such as banks, energy, and materials.

“Suppose inflation starts to boil, or at least simmer, supporting Energy and Materials at the expense of disinflationary Tech,” notes Weniger.

The WisdomTree U.S. MidCap Dividend Fund (NYSEARCA: DON) is a prime example of a mid-cap value play poised to benefit from the reflation trade.

DON tracks the WisdomTree U.S. MidCap Dividend Index. That benchmark is “dividend weighted annually to reflect the proportionate share of the aggregate cash dividends each component company is projected to pay in the coming year, based on the most recently declared dividend per share,” according to WisdomTree.

DON 1 Year Performance

Mid cap companies are slightly more diversified than their small cap peers, which allows them to generate more consistent revenue and cash flow, along with more stable stock prices. Yet, they are not so big that their size slows down growth.

“With one-quarter of the WisdomTree U.S. MidCap Fund (DON) and the WisdomTree U.S. SmallCap Fund (DES) in Financials—and with both having sizable holdings in Materials—we believe they could be primed for outperformance if our post-Covid-19 world starts witnessing the right-hand side of the histogram,” concludes Weniger.

For more on how to implement model portfolios, visit our Model Portfolio Channel.

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.