With more market observers warming to the idea of a small-cap rally, the Principal U.S. Small-Cap Multi-Factor Index ETF (NASDAQ: PSC) is an ETF that can continue building on what’s been an impressive second-quarter showing.
“Small caps are more cyclical and less diversified businesses and thus do well as the economic cycle recovers,” Andrew Garthwaite, global equity strategist at Credit Suisse, said in a recent note to clients.
PSC’s underlying benchmark, the Nasdaq US Small Cap Select Leaders Index, “uses a quantitative model designed to identify equity securities (including growth and value stock) of small-capitalization companies in the Nasdaq US Small Cap Index (the ‘parent index’) that exhibit potential for high degrees of sustainable shareholder yield, pricing power, and strong momentum while adjusting for liquidity and quality,” according to Principal.
“Credit Suisse upgraded small-cap stocks to overweight this week and laid out a handful of reasons for investors to take a second look at smaller names,” reports CNBC.
PSC Levered to Small-Cap Rally
Historically, the small-cap/value combination has been rewarding, but it took a big hit when value languished during the recently deceased bull market. The tendency of factor leadership to change from year to year underscores PSC’s utility: with the Principal ETF’s multi-factor approach, investors don’t incur the burden of factor timing.
“Firstly, small caps are pricing in much slower growth than large-cap stocks, the strategist noted. For example, small-cap stocks historically correlate to the economic indicator ISM new orders index, but recently small caps’ performance is lagging the economic gauge,” according to CNBC.
Action in the bond market also bodes well for smaller stocks, a factor many investors often overlook.
“Secondly, the narrowing credit spreads will continue to boost small-cap companies, which are typically more leveraged, Credit Suisse said. The credit market has been stabilizing thanks to the Federal Reserve’s unprecedented backstop. Credit spreads have tightened to nearly pre-coronavirus levels since the central bank stepped in,” reports CNBC.
That’s important because smaller companies often sport higher leverage and are more rate-sensitive than their large-cap counterparts. Bolstering the case for PSC are improving small-cap earnings revisions, confirming the group has some earnings momentum.
For more on multi-factor strategies, visit our Multi-Factor 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.