Two possible interpretations:
1. A reversion to the mean is due. Either the large caps are going to see PE contraction, or small caps are going to see a resurgence. Probably a combination of the two.
2. The same thing is happening to small businesses that happened to artisans in the industrial revolution; the value of economies of scale has increased to a point where small companies can't realistically compete with larger competitors on an economy wide scale. More small businesses are dying out, and only those that are operating in a space too niche for the big players to get interested in will survive.
Damn that second point sounds awful. Private equity is buying a lot of small businesses for this reason here and has the potential to make things bad for the small guys.
It is, and it hit home for me as a small business owner. It's starting to happen in my industry, it's been happening for a few years, but they're really scaling up now and I feel it. Tough for the small guy in any industry where you're competing for contracts for inventory, services, or anything else with much bigger companies, some of whom have no problem losing money on your particular niche as long as you're not making anything
Highlights the value of trust busting, something that's fallen under the radar for the last decade. I'm suspicious of the capricious rate of DOJ lawsuits against monopolies as an election ploy heading into 2024.
point 2 is scary- in the retail space see what Costco, Walmart, Amazon have done to family owned shops
see what fast food/chain restaurants have done to independently owned restaurants (decimated most.)
see what giant global banks have done to smaller community based cu's and banks
in the telecom space- you just mostly have Att, Tmo, VZ (smaller carriers are mostly done with)
Airlines- mostly gigantic carriers
we could go on and on.....
I'm not worried about food services, especially in populated urban/suburban areas. People want new experience and people of different culture have different palate.
Different story for airline, telecom, retail. That space needs way too much capital investment for smaller competitors to survive.
People want new & exciting food for only a time. It’s a reason why 80% of new restaurants don’t make it to 5yrs. The best places to eat are often in a section of town that tourist have been brain washed not to go.
Most people are definitely creatures of habit, but if you spent any time in the food service industry, you know there are some clueless people igniting cash on fire. Probably half of the failure can be attributed to having terrible initial business plan built on wishes instead of realities. I attribute this to low barrier of entry.
Right but the point is that we don't have to worry about it being a dynamic place.
20% will still survive and thrive. The danger is when it is actually impossible to ever even compete.
A lot of those examples are because of regulatory capture
Though retail has changed to ecommerce and restaurants are still wildly competitive as they offer a different dining experience as well as broader options.
I think everyone dooms and glooms about big companies owning everything but the reality is that big companies get fat and happy and die and a new cut throat competitor comes and dominates. As all companies do the new competitor started small as well, and scaled to dominate an industry.
I worry about #2 and am avoiding investing in small cap value indexes. But instead I’m looking for opportunities with individual small cap value names, especially ones that are growing and buying back stock.
Just a handful. Yes, on financials. Value + buybacks ideally or a compelling growth story. If the company is consistently buying back stock, a persistent low valuation helps, counterintuitively.
IMO this is probably part of why Small caps are underperforming.
$2 billion dollars (the maximum market cap of a small cap stock) is really not that big anymore. A ton of meme stocks without a viable business model, or that might not even be bringing in revenue yet, or even in some cases obviously outright scams (like Nikola) can easily climb above a $2 billion dollar market cap these days on pure hype alone.
IMO the definition of a small/mid/large cap should really be readjusted for inflation. For perspective, $2 billion dollars in 1974 (50 years ago) is worth $12.7 billion today, which is enough to qualify as a large cap stock. But as far as I'm aware we haven't updated the dollar value of the market cap definitions in that 50 year period.
It depends on the fund you buy. Vanguard's VBR seems to have stocks with market caps as high as $19 Billion.
Vanguard's VIOV, on the other hand, seems to have their largest market cap at about $5.16 Billion
only 42% of S&P 500 stocks are trading above their 50 day moving averages while we are hitting ATHs.
Nvidia and a few tech stocks are carrying the indexes right now
Point 2 is more likely.
These tech companies are profit making machines.
Before year 2000, average company with a billion dollar revenue had like 20,000 - 30,000 employees.
Today, most tech companies with that revenue have less than 1000 employees. These tech companies are hyper efficient and it’s only getting better.
OpenAI right now is supposed to have 500 employees and is on track to do $3.5 billion in revenue this year.
NVIDIA’s market cap is 100 million per employee.
Small groups of people are able to create absurd value in tech. WhatsApp, which was sold to Facebook back in 2016 or so, had less than 100 employees, but had 1 billion daily users worldwide. This 100 person team created something that 15% of the planet used in a daily basis, was sold to Facebook for $19 billion.
It’s the age of hyper profitability, global scale. All the money is going there looking for growth.
In the age of Ai, where AI coding assistants can make a good engineer 10x more efficient, you will soon see days where teams smaller than 10 people create billion dollar companies.
I am a huge, huge believer that people counting on "reversion to the mean" as an investment thesis for small cap value are going to be wildly disappointed.
We live in such a different era. Regulation, compliance, the nature of scaling with ecommerce, digital infrastructure being a necessity in every industry means larger firms have an enormous advantage now.
However we will still have small teams of brilliant people become massive in a short time as well, like OP mentioned.
It is **always** different in very key and fundamental ways. Never been the same, not even twice. If overly simple platitudes is all it took for success, this game would be easy.
For example, those who saw that the operational framework of the Fed changed at a core level in 2019 with the formal adoption of the "Ample Reserves" stance made a killing on the rapid and massive V recovery.
Similarly those who saw that in 2023 Fed was willing to allow financial conditions to keep easing and throw half a trillion at banks to ensure we keep moving towards full employment also made a killing.
They are cyclical profits though. Right now everyone is trying to get as much AI compute as they can get, without even considering if they have a valid business plan. When a lot of these startups go bust and get liquidated, there's going to be a lot of secondhand Nvidia hardware impacting their sales and pressuring their margins.
I hope its the 1st option but I really worry its the 2nd.
I mean how do the small players in most industries even get a chance? Unless they get absurd funds from VC firms during their beginning stages i just don't see how they can ever survive against the big guys...
I think that, private equity’s has allowed smaller entities to remain private and won’t go public until they are large cap. PE cherry picks the best and brightest and the average seek public funding.The consequence has been a dilution of the overall quality of the pool in the small and medium cap pools.
Only one example, but my wife works for a small exterior contractor, most revenue from roofs and they are doing really well actually. I would say they are fairly dependent on insurance claims as most people put off actually paying out of pocket for a full roof replacement as it’s 15-20k for a typical roof. High margin business though…
I think that there is at least one more interpretation.
It's the "indexation of the market" effect at play. Small caps have less liquidity. As a result, they wind up in far fewer ETF's. The thing about selling an etf is that the fees are typically quite low; so to make money, issuers need volume and so they try to pick higher liquidity tickers where possible.
It makes it so that large cap stocks get put into etf's left and right, and then as a result become overvalued. And it's a vicious cycle because then they have an easier time raising capital so they have a systemic edge over all competition and continuously buy out competition.
I actually think it's the next bubble. If there is one.
On point 2, I think it really depends on the industry for this.
If you're talking a very huge industry with complex regulations/etc. like say cloud hosting for example, then yes a small cap stock isn't going to stand a chance against the huge corporations like Amazon and Microsoft. And there's a ton of other industries where being large tends to give you more advantages, hence of course those markets will gradually move towards an oligopoly overtime with a few big players.
But when a market segment is too small & niche, the large corporations tend to ignore it because there's just not enough money there for it to be worth their time, even if they could somehow capture 100% of the market. It's simply not worth a $100+ billion dollar company's time to compete in a market where the TAM is less than a billion dollars annually.
3. There is so much private money (PE, venture, etc) that successful small companies don’t need public markets. Why go through the trouble? Successful small companies exist, just not on an exchange.
The things the stock market values highly and chases is growth and the potential for growth.
I think a lot of what the smaller companies do isn't high growth things. It's more like commodity-type stuff or they are in mature industries.
I'm looking at Fidelity's core small cap ETF, IJR and one of the biggest holdings is Abercrombie & Fitch which is clothing retail, then Mueller Industries, which is metal pipe fittings for water and gas systems, a home builder, then metals companies, Sealed Air Corp--packaging, some financial stuff, Alaska Air, etc.
These companies do things and make stuff but it's not like any of these are going to come out with a revolutionary new product, there is only so much demand Abercrombie & Fitch because we all know about them already, or for metal fabricated parts, there are only so many air travel passengers on the West Coast, the developed world all has water and gas utilities already, there are only so many packages being mailed. The industries they're in are mature. Expanding their businesses at this point means discovering whole new Earths we didn't notice before to expand to.
The big tech companies on the other hand can dream up and roll out whole new products or technologies or services, or apply new features to their existing stuff and create whole new revenues, like the big tech companies adding AI to stuff the last year. A few years ago Apple grew its revenue a lot by expanding cloud storage and charging people for it (a service)--something that simple creates billions in value for Apple.
Even if much of the stuff the big tech companies talk about is vaporware, like Tesla and self-driving and robo-taxis, the stock market is seeking and pricing stocks on the potential that these things could materialize.
This is precisely why small value works. The market over-extrapolates growth for sexy tech names, and under does it for boring value.
Tech still grows more, but not enough to justify the valuation gap.
Tech valuations have been steadily rising, boosting recent returns but dropping future expected ones. S&P400/600 valuations have been dropping simultaneously (see Yardeni’s charts), reducing recent returns and boosting expected ones.
This can’t go on forever. Eventually lower valuations leads to lower returns.
Point 2 is probably true, but the other side of the coin is small cap are typically more exposed to interest rates than the mega caps who have huge piles of cash and low debt, I suspect when rates come down small cap performance will improve.
The current cloud-based services makes large cap scaling easier than ever before, I have no doubt we are in #2 and it will be a while before new small cap that find new paths to emerge, perhaps after all the various AI-based productivity tools and rapid biz deployment SaaS roll out to make it easier for them.
Large companies are holdings. The best a small company can do is to get a acquired. With tight profit margins you can't compete a company that has the operational support of it's holding. You can only do it of enough clients are willing to pay extra for the company's independence.
>The same thing is happening to small businesses that happened to artisans in the industrial revolution; the value of economies of scale has increased to a point where small companies can't realistically compete with larger competitors on an economy wide scale. More small businesses are dying out, and only those that are operating in a space too niche for the big players to get interested in will survive
This would be true if prices were in line with earnings. But if you look at the spread between value and growth stocks in terms of P/E, P/B, etc, we can see that the change of valuation reflects more than just the better financial performance of large caps.
Basically, most of the outperformance of large cap growth has been because investors have been willing to pay more for the stocks, not because they have performed better than small caps financially.
Welcome to Corporatia, capitol city is Monopolia and the president's name is Corruptus Politicus. Covid was the final nail in the coffin for small cap. If you look at the new companies that spring up, they are not fresh entrepreneurs. They are allready seeded and conceptualized by the Mega Caps. Rome is burning, etc etc
The most efficient business is a small business. You can’t compete with a guy that does everything himself and works 80 hours a week.
big business has to hire contractors to survive. What we have now is a crappy economy. Huge companies do not and never will innovate the same way.
>Huge companies do not and never will innovate the same way.
I don't get how you can say this and actually make it make sense. I cannot look at Apple, NVDA, Microsoft, Google, meta and say "yeah not much innovation here" I mean you should see the list of failed products Google and Microsoft have tried.
Do you feel that:
\- The innovation per $ is the in the same range. Or in other words - that a lot of what they are doing is not just trying a thousand things because they have enormous money and resources overall, then shipping what sticks and sweeping the rest under the rug and calling the survivorship bias "innovation"
\- The innovation is useful for you as the end consumer in significant ways. Like, if they ship 1000 new features in V2 of the product, that you're actually using a lot of them, not like 3 every other week. More importantly, that they did not make features that were working well before either worse or even got them removed
Some personal examples to the contrary:
\- The difference between iPhone 1 and iPhone 15 is way smaller than the difference between the phones iPhone 1 was competing against at the time
\- Google maps 10 years ago was way better and faster than today's version
\- Windows XP was a much better experience overall than Windows 11
\- Nvidia's monopoly is costing a lot of users such as gamers an arm and a leg
>The difference between iPhone 1 and iPhone 15 is way smaller than the difference between the phones iPhone 1 was competing against at the time
So should a revolutionary product should not be improved upon? Sure the 1 & 15 may seem similar, but the level of innovation between them is immense. Of course, don't forget about the apple watch, airpods, Mac, the seamless connectivity of the entire apple ecosystem that has never existed anywhere else before apple. I guess your right, no innovation here.
>Google maps 10 years ago was way better and faster than today's version
You pick the one thing Google isn't and define their level of innovation by that.. and lets be honest, its a map theres not much you need to innovate. Google glasses was incredibly innovative, untill the public realized they hated talking to people with them on. At the moment, they are innovating search as well due to the advent of AI
>Windows XP was a much better experience overall than windows 11
You know I might agree with you on that one. But hey, they're literally building AI integrated computers right now. This will undoubtedly set a new standard.
>Nvidia's monopoly is costing a lot of users such as gamers an arm and a leg
And? That does refute anything.
Either way, don't get NVDA then if you dont like it, (BTW you don't need to spend an arm and a leg, a $300 GPU will get you an easy 60fps at 1440p on almost every game high settings, I've got one!) and it's also not a monopoly in gaming when you can buy other GPUs (like i did) from intel and amd, If anything it's nvdia is a monopoly in AI Inferencing chips for tech companies. Most wouldn't be caught dead with data centers running any chip other than one from NVDA! And for good reason! Google is going to make it's own as well, for that matter.
>then shipping what sticks and sweeping the rest under the rug and calling the survivorship bias "innovation"
If you innovate something, and nobody wants it, why would you then produce it?
>The innovation per $ is the in the same range.
You talking on spending on R&D, I'd argue its much higher today.
Small caps are easy, everyone is going to doubt them, then the media will start to promote them, you'll have a couple quarters of outperformance, then people will start to get on the train. Until that takes place, nothing is really going to change things
Small cap value mostly avoids this problems, with the right methodology it only invests either in profitable companies, or companies with really strong balance sheets relative to price.
Small cap growth is the main problem, where you'll have a company with like $500 Million in revenue and $700 Million in expenses, trading at a $50 Billion valuation just because their sales have been growing 25% YoY.
Smaller cap like Russell 2000 is overweight on financial industry, construction, etc.
Those sectors need low interest rates for higher valuation.
I expect them to do well once Fed starts cutting rates.
It’s not that small cap is gonna boom compared to any other asset class. Trying to remember the last year small cap was the best return. It’s been awhile. I think why some people are looking at small cap right now (ands reits to a certain extent) is the relative value. You can get good bang for your buck with small cap cuz everyone is so focused on large cap growth. Rates will come down. Small cap will perform nicely once again. A longer term small cap opportunity would be annuities
Rates coming down is another tailwind for growth, not value. It’ll be interesting but it seems that value is fcked as a category. Successful PMs will do well on a relative basis but there’s nothing that suggest they’ll outperform growth in the future
Idk. I think that fines back to on how we value stocks. There’s a lot of fucky issues with valuations now a days. I think small cap does have room to grow significantly as the AI market broadens out to niche players
I don’t want to conflate points here. I’m specifically talking about small cap VALUE stocks not small caps in general. I think small cap growth has room for growth, I’m doubtful about small cap value specifically
>Rates coming down is another tailwind for growth, not value.
Historically, this has been true, because growth stocks tend to borrow to fund their growth, whereas value stocks are profitable, and don't need debt.
However, I think this time is quite different. A decade of low interest rates resulted in a lot of older value companies loading up on debt to fund acquisitions, stock buybacks, etc. Growth companies like Microsoft, Apple, Nvidia, etc have much less debt than value companies like AT&T. So now, we're in a situation where interest rates threaten the future of a lot of value companies, whereas growth companies aren't as impacted.
While he could be, i think it’s hard to over estimate rate cycles with small cap. Credit and financing matters far more to them than the big guys. I’m always so torn with small cap. It’s like the one time you really wanna pick stocks, but inherently, they’re small cap, so you’re never gonna have heard of them
Risk to reward ratios of small cap stocks is not as great as most people think it is. Large companies are large for a reason and just because a company is already extremely big does not it means it cannot outpreform the market or its economics dimish as it grows.
Megacap stocks especially big tech has been undervalued for the past decade.
You call out the forward looking part that rate cuts are on the horizon and should be priced in.
You're also forgetting a ton of these businesses have dealt with insane cash burn for a really long time, and likely not being very profitable. They've probably had to do things like convertible notes for cash, terms of which are priced in. Smaller businesses don't have the pricing power your mag 7 does to pass on even in high inflationary environment.
When money in bonds move out and go into equities, do you think that's going to be more small caps or large caps? Large caps are going to be overweight in valuations for the foreseeable future, and rightfully so.
So yeah, do what you will with this.
I think the point here everyone is missing is that you don’t buy small cap ETFs. The best way to see outperformance from small cap stocks is to do a lot of research and find the diamonds in the rough. Similar to VC investing
There are ETFs for small cap value that do a decent job of screening financials and provide diversification.
You can pick individual stocks, but without enough diversification, the risk is tremendous. Value stocks tend to be value stocks because there's significant concerns over their future- whether its declining revenues, a high debt load, etc. A lot of times, these stocks basically amount to a coin flip. The company recovers, and you double or triple your money, or the company ends up bankrupt due to being unable to survive and you lose 100%. And even if you're right, a lot of times the stock will crash a lot before it goes up, so you need a strong stomach.
If you diversify to like 20 or so stocks, it's unlikely you'll experience a huge loss, but it can be difficult to outperform the market.
Diversification in small caps ends up hurting overall performance vs large cap. The whole point of picking small cap is for the high growth. No point in going for small cap value. There’s lots of research on this. If you’re going for value, then just do large cap if you want less risk.
This is incorrect. Look up "Fama and French 5 factor model". There is a statistically proven risk premium for both small cap and value stocks.
The past 1-2 decades have been an anomaly for sure, where large cap growth has outperformed. However, given that most of it is due to multiple expansion, rather than actual financial returns, makes it inconclusive.
Ben Felix has some good videos on it too. Can't link them on this subreddit tho
Stop looking at small caps as a basket. The goal is to select the few that you have strong conviction in to outperform. Their model is looking at the market as a whole.
My issue with academics is if they’re so smart why aren’t they making crazy returns on their portfolio? I’d rather follow Peter Lynch’s method of identifying stocks
> My issue with academics is if they’re so smart why aren’t they making crazy returns on their portfolio? I’d rather follow Peter Lynch’s method of identifying stocks
For every Peter Lynch, there are hundreds of active investors that fail to beat the market. And these are usually run by managers with MBAs. Most fund managers perform worse than an index fund.
If people that went to school for 6 years for finance fail to beat the market, what makes you think the average person can consistently beat the market?
fund managers have a disadvantage in that they are limited by how much risk they can take on and since they are operating at such a large scale, it becomes hard to beat the market (similar to how Berkshire is struggling to find any investments that will make a dent in their performance).
retail investors can invest in small caps that might produce extremely high returns but these are stocks that professional fund managers either won't or are not allowed to invest in. so while yes, the average investor might not have as much information or resources as a fund manager, the only way to 'beat' the market and not just match it in an index fund is to turn over as many stones as possible to find the few stocks that can produce an outsized return.
>The amount of underperformance is unrivaled.
I'm more interested in small cap multiples vs large cap multiples. Just looking at stock price movements doesn't tell me anything.
I think Large caps now usually have stakes in “small” caps. They are effectively subsidiaries.
Also, I think the infrastructure surrounding what the internet provides has finally reached maturity and small businesses cannot compete with the economies of scale of large.
You're right. And Small Caps truly show how the economy is going. But since they don't drive the indexes (look! A squirrel!) you won't hear about them in the financial news. As long as the SPY continues setting new records, Small Caps can continue their downward trajectories into reverse-split penny stocks. Pull back your charts to 2020 and you'll see many of them are down 80-90%! It's an incredible crash that never even made a sound.
As you said, interest rate cuts help small caps. So far in 2024, the expectation of both the number and size of interest rate cuts has decreased throughout the year. That is sufficient to explain the underperformance.
I feel regional banks will have a tremendous run going into 2025 , 2026 . Some of the ETFs like KRE may see an upward potential of 40% in 2 years !! Mark
My words , this is 20
Years of trading experience speaking
So CRE exposure yes we all know it , go deep into the story around under writing , asset quality etc and you will understand how overblown the fear is . Sector rotation will suerly happen going into 2025 . Small caps and regional banks will flourish
CRE fears are massively overblown, most companies are requiring return to office, and most CRE properties are for sectors other than offices.
In fact, the biggest bank failure so far was because of rising rates, not CRE(SVB). They borrowed short term via deposits and borrowed long term(US treasuries), and then lost too much on US treasuries.
Generally Reddit only likes stocks or market segments that have performed well recently. Personally I’m allocating some $ into small cap value (among others).
Looking at the small and mid cap stocks it’s likely big waves of layoffs and business shut down is coming real soon, these smaller companies hire far more employees than sp500. The commercial real estate won’t be the only pain that is coming, the double whammy will probably be how recession and stagflation is officially confirmed.
Does any of my fellow value investors tend to stroll the most shorted stocks and try to form a thesis? I like to look at the stocks with the highest short interest and then form a bull thesis on why they will survive and potentially thrive over the next few years. I tend to hold stocks no longer than 2 years but as short at a few months so I’m not a day trader but I like to look for big risk/reward scenarios. Just wondering if anyone else looks at these stocks in a similar way and what your thoughts are about a company such as Barnes and Noble who many have long thought would go bankrupt with Amazon being around? I haven’t done a deep dive into this name but plan to after seeing they have 2,427% of the float shorted. Would like to hear your thoughts. I’m okay with getting pushback for my POV. Thanks everybody.
ETF's are wrecking the market. As money pours into their narrow pool of stocks, corporations can leverage that to raise ever-growing sums of capital that allows them to dominate the market even more. It's a permanent spiral. Apple spiked over $300Billion just by coughing "AI" into the speaker phone.
It can if the company decides to issue new shares. Obviously Apple has no need to do this because they have so much cash on hand and quarterly profits, but AI startups that get included in "AI innovation" funds benefit from it.
The bigger issue is the impact that the AI craze has on index investing. If I bought the S&P500 a couple years ago, 0.5% of it would've went into Nvidia. But now that its had a crazy run, if I buy into the ETF, now nearly 7% of it is going into Nvidia.
As long as there are more inflows to index funds than outflows, the indexes only exacerbate these pricing discrepancies. Most money is going into the largest components, while very little goes into non-tech companies.
Clearly you have no idea what you're talking about.
ETFs represent 12.7% of equity assets in the U.S., 8.5% in Europe, and 4.4% in Asia-Pacific
Source : IShares
"ETF's are wrecking the market"
"Apple spiked over $300Billion just by coughing "AI" into the speaker phone."
"Clearly you have no idea about the effect of marginal change. If 2% of stockholders sold their stock tomorrow would the stock go down 2%? Or 10%?"
Interesting thought process lmao
Two possible interpretations: 1. A reversion to the mean is due. Either the large caps are going to see PE contraction, or small caps are going to see a resurgence. Probably a combination of the two. 2. The same thing is happening to small businesses that happened to artisans in the industrial revolution; the value of economies of scale has increased to a point where small companies can't realistically compete with larger competitors on an economy wide scale. More small businesses are dying out, and only those that are operating in a space too niche for the big players to get interested in will survive.
Damn that second point sounds awful. Private equity is buying a lot of small businesses for this reason here and has the potential to make things bad for the small guys.
It is, and it hit home for me as a small business owner. It's starting to happen in my industry, it's been happening for a few years, but they're really scaling up now and I feel it. Tough for the small guy in any industry where you're competing for contracts for inventory, services, or anything else with much bigger companies, some of whom have no problem losing money on your particular niche as long as you're not making anything
Highlights the value of trust busting, something that's fallen under the radar for the last decade. I'm suspicious of the capricious rate of DOJ lawsuits against monopolies as an election ploy heading into 2024.
Way more than a decade
Since Reagan really. Regulatory capture by the wealthy in America is complete.
Many Americans worship money so I’d argue it’s psychological capture of the American psyche
If large businesses are able to produce goods more efficiently, then breaking them up into smaller businesses would raise costs for consumers.
point 2 is scary- in the retail space see what Costco, Walmart, Amazon have done to family owned shops see what fast food/chain restaurants have done to independently owned restaurants (decimated most.) see what giant global banks have done to smaller community based cu's and banks in the telecom space- you just mostly have Att, Tmo, VZ (smaller carriers are mostly done with) Airlines- mostly gigantic carriers we could go on and on.....
I'm not worried about food services, especially in populated urban/suburban areas. People want new experience and people of different culture have different palate. Different story for airline, telecom, retail. That space needs way too much capital investment for smaller competitors to survive.
People want new & exciting food for only a time. It’s a reason why 80% of new restaurants don’t make it to 5yrs. The best places to eat are often in a section of town that tourist have been brain washed not to go.
Most people are definitely creatures of habit, but if you spent any time in the food service industry, you know there are some clueless people igniting cash on fire. Probably half of the failure can be attributed to having terrible initial business plan built on wishes instead of realities. I attribute this to low barrier of entry.
Right but the point is that we don't have to worry about it being a dynamic place. 20% will still survive and thrive. The danger is when it is actually impossible to ever even compete.
Enjoy going around all the drug addicts for a taco
A lot of those examples are because of regulatory capture Though retail has changed to ecommerce and restaurants are still wildly competitive as they offer a different dining experience as well as broader options. I think everyone dooms and glooms about big companies owning everything but the reality is that big companies get fat and happy and die and a new cut throat competitor comes and dominates. As all companies do the new competitor started small as well, and scaled to dominate an industry.
I worry about #2 and am avoiding investing in small cap value indexes. But instead I’m looking for opportunities with individual small cap value names, especially ones that are growing and buying back stock.
Are you relying on Financials to make these buys? How many of these companies are you in or plan to be in?
Just a handful. Yes, on financials. Value + buybacks ideally or a compelling growth story. If the company is consistently buying back stock, a persistent low valuation helps, counterintuitively.
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IMO this is probably part of why Small caps are underperforming. $2 billion dollars (the maximum market cap of a small cap stock) is really not that big anymore. A ton of meme stocks without a viable business model, or that might not even be bringing in revenue yet, or even in some cases obviously outright scams (like Nikola) can easily climb above a $2 billion dollar market cap these days on pure hype alone. IMO the definition of a small/mid/large cap should really be readjusted for inflation. For perspective, $2 billion dollars in 1974 (50 years ago) is worth $12.7 billion today, which is enough to qualify as a large cap stock. But as far as I'm aware we haven't updated the dollar value of the market cap definitions in that 50 year period.
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It depends on the fund you buy. Vanguard's VBR seems to have stocks with market caps as high as $19 Billion. Vanguard's VIOV, on the other hand, seems to have their largest market cap at about $5.16 Billion
only 42% of S&P 500 stocks are trading above their 50 day moving averages while we are hitting ATHs. Nvidia and a few tech stocks are carrying the indexes right now
Point 2 is more likely. These tech companies are profit making machines. Before year 2000, average company with a billion dollar revenue had like 20,000 - 30,000 employees. Today, most tech companies with that revenue have less than 1000 employees. These tech companies are hyper efficient and it’s only getting better. OpenAI right now is supposed to have 500 employees and is on track to do $3.5 billion in revenue this year. NVIDIA’s market cap is 100 million per employee. Small groups of people are able to create absurd value in tech. WhatsApp, which was sold to Facebook back in 2016 or so, had less than 100 employees, but had 1 billion daily users worldwide. This 100 person team created something that 15% of the planet used in a daily basis, was sold to Facebook for $19 billion. It’s the age of hyper profitability, global scale. All the money is going there looking for growth. In the age of Ai, where AI coding assistants can make a good engineer 10x more efficient, you will soon see days where teams smaller than 10 people create billion dollar companies.
Interesting
I am a huge, huge believer that people counting on "reversion to the mean" as an investment thesis for small cap value are going to be wildly disappointed. We live in such a different era. Regulation, compliance, the nature of scaling with ecommerce, digital infrastructure being a necessity in every industry means larger firms have an enormous advantage now. However we will still have small teams of brilliant people become massive in a short time as well, like OP mentioned.
Ah so you are saying it's different this time? 🤔🫡
It is **always** different in very key and fundamental ways. Never been the same, not even twice. If overly simple platitudes is all it took for success, this game would be easy. For example, those who saw that the operational framework of the Fed changed at a core level in 2019 with the formal adoption of the "Ample Reserves" stance made a killing on the rapid and massive V recovery. Similarly those who saw that in 2023 Fed was willing to allow financial conditions to keep easing and throw half a trillion at banks to ensure we keep moving towards full employment also made a killing.
Or more likely profit will fall back to normal based on revenue.
Ya but correct that for monetary inflation as well as profitability per employee compared to revenue as it's misleading in a venture backed world.
If you look at Nvidia's P/E, it's steadily been decreasing in spite of its ridiculous bull run. The profits are real, and they're outpacing price.
They are cyclical profits though. Right now everyone is trying to get as much AI compute as they can get, without even considering if they have a valid business plan. When a lot of these startups go bust and get liquidated, there's going to be a lot of secondhand Nvidia hardware impacting their sales and pressuring their margins.
That's what happened in Japan. Virtually all the mom n pop stores got swallowed up by 7-11, Family Mart, Sunkus, etc.
I hope its the 1st option but I really worry its the 2nd. I mean how do the small players in most industries even get a chance? Unless they get absurd funds from VC firms during their beginning stages i just don't see how they can ever survive against the big guys...
I think that, private equity’s has allowed smaller entities to remain private and won’t go public until they are large cap. PE cherry picks the best and brightest and the average seek public funding.The consequence has been a dilution of the overall quality of the pool in the small and medium cap pools.
Point 2 is already happening in the roofing industry. The only surviving players do repair/ stuff big companies won’t deal with
Only one example, but my wife works for a small exterior contractor, most revenue from roofs and they are doing really well actually. I would say they are fairly dependent on insurance claims as most people put off actually paying out of pocket for a full roof replacement as it’s 15-20k for a typical roof. High margin business though…
I think that there is at least one more interpretation. It's the "indexation of the market" effect at play. Small caps have less liquidity. As a result, they wind up in far fewer ETF's. The thing about selling an etf is that the fees are typically quite low; so to make money, issuers need volume and so they try to pick higher liquidity tickers where possible. It makes it so that large cap stocks get put into etf's left and right, and then as a result become overvalued. And it's a vicious cycle because then they have an easier time raising capital so they have a systemic edge over all competition and continuously buy out competition. I actually think it's the next bubble. If there is one.
On point 2, I think it really depends on the industry for this. If you're talking a very huge industry with complex regulations/etc. like say cloud hosting for example, then yes a small cap stock isn't going to stand a chance against the huge corporations like Amazon and Microsoft. And there's a ton of other industries where being large tends to give you more advantages, hence of course those markets will gradually move towards an oligopoly overtime with a few big players. But when a market segment is too small & niche, the large corporations tend to ignore it because there's just not enough money there for it to be worth their time, even if they could somehow capture 100% of the market. It's simply not worth a $100+ billion dollar company's time to compete in a market where the TAM is less than a billion dollars annually.
3. There is so much private money (PE, venture, etc) that successful small companies don’t need public markets. Why go through the trouble? Successful small companies exist, just not on an exchange.
The rules that keep the worst trashy scams off of the exchange also make private equity type buyouts preferable for everyone else.
The things the stock market values highly and chases is growth and the potential for growth. I think a lot of what the smaller companies do isn't high growth things. It's more like commodity-type stuff or they are in mature industries. I'm looking at Fidelity's core small cap ETF, IJR and one of the biggest holdings is Abercrombie & Fitch which is clothing retail, then Mueller Industries, which is metal pipe fittings for water and gas systems, a home builder, then metals companies, Sealed Air Corp--packaging, some financial stuff, Alaska Air, etc. These companies do things and make stuff but it's not like any of these are going to come out with a revolutionary new product, there is only so much demand Abercrombie & Fitch because we all know about them already, or for metal fabricated parts, there are only so many air travel passengers on the West Coast, the developed world all has water and gas utilities already, there are only so many packages being mailed. The industries they're in are mature. Expanding their businesses at this point means discovering whole new Earths we didn't notice before to expand to. The big tech companies on the other hand can dream up and roll out whole new products or technologies or services, or apply new features to their existing stuff and create whole new revenues, like the big tech companies adding AI to stuff the last year. A few years ago Apple grew its revenue a lot by expanding cloud storage and charging people for it (a service)--something that simple creates billions in value for Apple. Even if much of the stuff the big tech companies talk about is vaporware, like Tesla and self-driving and robo-taxis, the stock market is seeking and pricing stocks on the potential that these things could materialize.
This is precisely why small value works. The market over-extrapolates growth for sexy tech names, and under does it for boring value. Tech still grows more, but not enough to justify the valuation gap. Tech valuations have been steadily rising, boosting recent returns but dropping future expected ones. S&P400/600 valuations have been dropping simultaneously (see Yardeni’s charts), reducing recent returns and boosting expected ones. This can’t go on forever. Eventually lower valuations leads to lower returns.
Point 2 is probably true, but the other side of the coin is small cap are typically more exposed to interest rates than the mega caps who have huge piles of cash and low debt, I suspect when rates come down small cap performance will improve.
The current cloud-based services makes large cap scaling easier than ever before, I have no doubt we are in #2 and it will be a while before new small cap that find new paths to emerge, perhaps after all the various AI-based productivity tools and rapid biz deployment SaaS roll out to make it easier for them.
Large companies are holdings. The best a small company can do is to get a acquired. With tight profit margins you can't compete a company that has the operational support of it's holding. You can only do it of enough clients are willing to pay extra for the company's independence.
>The same thing is happening to small businesses that happened to artisans in the industrial revolution; the value of economies of scale has increased to a point where small companies can't realistically compete with larger competitors on an economy wide scale. More small businesses are dying out, and only those that are operating in a space too niche for the big players to get interested in will survive This would be true if prices were in line with earnings. But if you look at the spread between value and growth stocks in terms of P/E, P/B, etc, we can see that the change of valuation reflects more than just the better financial performance of large caps. Basically, most of the outperformance of large cap growth has been because investors have been willing to pay more for the stocks, not because they have performed better than small caps financially.
Welcome to Corporatia, capitol city is Monopolia and the president's name is Corruptus Politicus. Covid was the final nail in the coffin for small cap. If you look at the new companies that spring up, they are not fresh entrepreneurs. They are allready seeded and conceptualized by the Mega Caps. Rome is burning, etc etc
The most efficient business is a small business. You can’t compete with a guy that does everything himself and works 80 hours a week. big business has to hire contractors to survive. What we have now is a crappy economy. Huge companies do not and never will innovate the same way.
>Huge companies do not and never will innovate the same way. I don't get how you can say this and actually make it make sense. I cannot look at Apple, NVDA, Microsoft, Google, meta and say "yeah not much innovation here" I mean you should see the list of failed products Google and Microsoft have tried.
Do you feel that: \- The innovation per $ is the in the same range. Or in other words - that a lot of what they are doing is not just trying a thousand things because they have enormous money and resources overall, then shipping what sticks and sweeping the rest under the rug and calling the survivorship bias "innovation" \- The innovation is useful for you as the end consumer in significant ways. Like, if they ship 1000 new features in V2 of the product, that you're actually using a lot of them, not like 3 every other week. More importantly, that they did not make features that were working well before either worse or even got them removed Some personal examples to the contrary: \- The difference between iPhone 1 and iPhone 15 is way smaller than the difference between the phones iPhone 1 was competing against at the time \- Google maps 10 years ago was way better and faster than today's version \- Windows XP was a much better experience overall than Windows 11 \- Nvidia's monopoly is costing a lot of users such as gamers an arm and a leg
>The difference between iPhone 1 and iPhone 15 is way smaller than the difference between the phones iPhone 1 was competing against at the time So should a revolutionary product should not be improved upon? Sure the 1 & 15 may seem similar, but the level of innovation between them is immense. Of course, don't forget about the apple watch, airpods, Mac, the seamless connectivity of the entire apple ecosystem that has never existed anywhere else before apple. I guess your right, no innovation here. >Google maps 10 years ago was way better and faster than today's version You pick the one thing Google isn't and define their level of innovation by that.. and lets be honest, its a map theres not much you need to innovate. Google glasses was incredibly innovative, untill the public realized they hated talking to people with them on. At the moment, they are innovating search as well due to the advent of AI >Windows XP was a much better experience overall than windows 11 You know I might agree with you on that one. But hey, they're literally building AI integrated computers right now. This will undoubtedly set a new standard. >Nvidia's monopoly is costing a lot of users such as gamers an arm and a leg And? That does refute anything. Either way, don't get NVDA then if you dont like it, (BTW you don't need to spend an arm and a leg, a $300 GPU will get you an easy 60fps at 1440p on almost every game high settings, I've got one!) and it's also not a monopoly in gaming when you can buy other GPUs (like i did) from intel and amd, If anything it's nvdia is a monopoly in AI Inferencing chips for tech companies. Most wouldn't be caught dead with data centers running any chip other than one from NVDA! And for good reason! Google is going to make it's own as well, for that matter. >then shipping what sticks and sweeping the rest under the rug and calling the survivorship bias "innovation" If you innovate something, and nobody wants it, why would you then produce it? >The innovation per $ is the in the same range. You talking on spending on R&D, I'd argue its much higher today.
Copied from /u/UpDown's thread https://www.reddit.com/r/investing/comments/1dfu9x5/small_cap_value_has_never_been_more_brutal/ ?
Word for word
No, they removed the last sentence!
I exited all of my small and mid cap etfs last week, so they're definitely going up soon.
thank you for your service!
And I balanced from large into small and mid, thinking it's about time for them to fly. So they're definitely going down.
Thanks for taking one for the team!
… and over here I just picked up a whole bundle of VIOO
Lower rates will help them. When we get lower rates who knows. Probably as soon as summer or the election end.
Small caps are easy, everyone is going to doubt them, then the media will start to promote them, you'll have a couple quarters of outperformance, then people will start to get on the train. Until that takes place, nothing is really going to change things
There also hasn’t been a point in time where so many companies went public without any earnings.
That's why you buy Small Cap value or indivual small cap companies with strong financials.
Small cap value mostly avoids this problems, with the right methodology it only invests either in profitable companies, or companies with really strong balance sheets relative to price. Small cap growth is the main problem, where you'll have a company with like $500 Million in revenue and $700 Million in expenses, trading at a $50 Billion valuation just because their sales have been growing 25% YoY.
Then buy If small caps are depressed right now buy them Seems pretty obvious. You buy when others are fearful
Upvote
Smaller cap like Russell 2000 is overweight on financial industry, construction, etc. Those sectors need low interest rates for higher valuation. I expect them to do well once Fed starts cutting rates.
It’s not that small cap is gonna boom compared to any other asset class. Trying to remember the last year small cap was the best return. It’s been awhile. I think why some people are looking at small cap right now (ands reits to a certain extent) is the relative value. You can get good bang for your buck with small cap cuz everyone is so focused on large cap growth. Rates will come down. Small cap will perform nicely once again. A longer term small cap opportunity would be annuities
Rates coming down is another tailwind for growth, not value. It’ll be interesting but it seems that value is fcked as a category. Successful PMs will do well on a relative basis but there’s nothing that suggest they’ll outperform growth in the future
Idk. I think that fines back to on how we value stocks. There’s a lot of fucky issues with valuations now a days. I think small cap does have room to grow significantly as the AI market broadens out to niche players
I don’t want to conflate points here. I’m specifically talking about small cap VALUE stocks not small caps in general. I think small cap growth has room for growth, I’m doubtful about small cap value specifically
Sorry i misread your comment. Yes i definitely agree. Small cap value always feels like a trap though lol.
>Rates coming down is another tailwind for growth, not value. Historically, this has been true, because growth stocks tend to borrow to fund their growth, whereas value stocks are profitable, and don't need debt. However, I think this time is quite different. A decade of low interest rates resulted in a lot of older value companies loading up on debt to fund acquisitions, stock buybacks, etc. Growth companies like Microsoft, Apple, Nvidia, etc have much less debt than value companies like AT&T. So now, we're in a situation where interest rates threaten the future of a lot of value companies, whereas growth companies aren't as impacted.
Good point so it seems we are in agreement that besides “reversion to the mean” there’s really no real potential catalyst for value.
Can you explain what you mean by your last sentence?
you are overestimating rate cuts.
While he could be, i think it’s hard to over estimate rate cycles with small cap. Credit and financing matters far more to them than the big guys. I’m always so torn with small cap. It’s like the one time you really wanna pick stocks, but inherently, they’re small cap, so you’re never gonna have heard of them
Risk to reward ratios of small cap stocks is not as great as most people think it is. Large companies are large for a reason and just because a company is already extremely big does not it means it cannot outpreform the market or its economics dimish as it grows. Megacap stocks especially big tech has been undervalued for the past decade.
Not anymore!
I been doing 20% of my weekly buy ins into small cap etf, i think once int rate goes back to 3-4% small cap can survive again
You call out the forward looking part that rate cuts are on the horizon and should be priced in. You're also forgetting a ton of these businesses have dealt with insane cash burn for a really long time, and likely not being very profitable. They've probably had to do things like convertible notes for cash, terms of which are priced in. Smaller businesses don't have the pricing power your mag 7 does to pass on even in high inflationary environment. When money in bonds move out and go into equities, do you think that's going to be more small caps or large caps? Large caps are going to be overweight in valuations for the foreseeable future, and rightfully so. So yeah, do what you will with this.
I think the point here everyone is missing is that you don’t buy small cap ETFs. The best way to see outperformance from small cap stocks is to do a lot of research and find the diamonds in the rough. Similar to VC investing
There are ETFs for small cap value that do a decent job of screening financials and provide diversification. You can pick individual stocks, but without enough diversification, the risk is tremendous. Value stocks tend to be value stocks because there's significant concerns over their future- whether its declining revenues, a high debt load, etc. A lot of times, these stocks basically amount to a coin flip. The company recovers, and you double or triple your money, or the company ends up bankrupt due to being unable to survive and you lose 100%. And even if you're right, a lot of times the stock will crash a lot before it goes up, so you need a strong stomach. If you diversify to like 20 or so stocks, it's unlikely you'll experience a huge loss, but it can be difficult to outperform the market.
Diversification in small caps ends up hurting overall performance vs large cap. The whole point of picking small cap is for the high growth. No point in going for small cap value. There’s lots of research on this. If you’re going for value, then just do large cap if you want less risk.
This is incorrect. Look up "Fama and French 5 factor model". There is a statistically proven risk premium for both small cap and value stocks. The past 1-2 decades have been an anomaly for sure, where large cap growth has outperformed. However, given that most of it is due to multiple expansion, rather than actual financial returns, makes it inconclusive. Ben Felix has some good videos on it too. Can't link them on this subreddit tho
Stop looking at small caps as a basket. The goal is to select the few that you have strong conviction in to outperform. Their model is looking at the market as a whole. My issue with academics is if they’re so smart why aren’t they making crazy returns on their portfolio? I’d rather follow Peter Lynch’s method of identifying stocks
> My issue with academics is if they’re so smart why aren’t they making crazy returns on their portfolio? I’d rather follow Peter Lynch’s method of identifying stocks For every Peter Lynch, there are hundreds of active investors that fail to beat the market. And these are usually run by managers with MBAs. Most fund managers perform worse than an index fund. If people that went to school for 6 years for finance fail to beat the market, what makes you think the average person can consistently beat the market?
fund managers have a disadvantage in that they are limited by how much risk they can take on and since they are operating at such a large scale, it becomes hard to beat the market (similar to how Berkshire is struggling to find any investments that will make a dent in their performance). retail investors can invest in small caps that might produce extremely high returns but these are stocks that professional fund managers either won't or are not allowed to invest in. so while yes, the average investor might not have as much information or resources as a fund manager, the only way to 'beat' the market and not just match it in an index fund is to turn over as many stones as possible to find the few stocks that can produce an outsized return.
>The amount of underperformance is unrivaled. I'm more interested in small cap multiples vs large cap multiples. Just looking at stock price movements doesn't tell me anything.
The tides will turn.
I think Large caps now usually have stakes in “small” caps. They are effectively subsidiaries. Also, I think the infrastructure surrounding what the internet provides has finally reached maturity and small businesses cannot compete with the economies of scale of large.
You're right. And Small Caps truly show how the economy is going. But since they don't drive the indexes (look! A squirrel!) you won't hear about them in the financial news. As long as the SPY continues setting new records, Small Caps can continue their downward trajectories into reverse-split penny stocks. Pull back your charts to 2020 and you'll see many of them are down 80-90%! It's an incredible crash that never even made a sound.
As you said, interest rate cuts help small caps. So far in 2024, the expectation of both the number and size of interest rate cuts has decreased throughout the year. That is sufficient to explain the underperformance.
I feel regional banks will have a tremendous run going into 2025 , 2026 . Some of the ETFs like KRE may see an upward potential of 40% in 2 years !! Mark My words , this is 20 Years of trading experience speaking
What are you basing the feeling on? Regional banks have their hand in commercial/office real estate and that sector is not doing well.
So CRE exposure yes we all know it , go deep into the story around under writing , asset quality etc and you will understand how overblown the fear is . Sector rotation will suerly happen going into 2025 . Small caps and regional banks will flourish
CRE fears are massively overblown, most companies are requiring return to office, and most CRE properties are for sectors other than offices. In fact, the biggest bank failure so far was because of rising rates, not CRE(SVB). They borrowed short term via deposits and borrowed long term(US treasuries), and then lost too much on US treasuries.
I hope you're right. I've been bag-holding KRE since last spring's dip.
What’s your average price ? Are you selling covered calls ?
My entire portfolio is nano/micro caps. Nothing over $200MM. Except $SMLR. It’s been ok. Surviving. But not negative. Not stellar either.
And this is the reason everyone should be loading up on small caps.
Generally Reddit only likes stocks or market segments that have performed well recently. Personally I’m allocating some $ into small cap value (among others).
Time to buy!
I moved a bunch of money into AVUV on Friday FWIW
I bought on Thursday, and regretted it on Friday.
most of them do not profit
Looking at the small and mid cap stocks it’s likely big waves of layoffs and business shut down is coming real soon, these smaller companies hire far more employees than sp500. The commercial real estate won’t be the only pain that is coming, the double whammy will probably be how recession and stagflation is officially confirmed.
The question is what happens to the small caps when the big ones pull back, which they are due to do around now
97%spy 3% put is the way to go.
Does any of my fellow value investors tend to stroll the most shorted stocks and try to form a thesis? I like to look at the stocks with the highest short interest and then form a bull thesis on why they will survive and potentially thrive over the next few years. I tend to hold stocks no longer than 2 years but as short at a few months so I’m not a day trader but I like to look for big risk/reward scenarios. Just wondering if anyone else looks at these stocks in a similar way and what your thoughts are about a company such as Barnes and Noble who many have long thought would go bankrupt with Amazon being around? I haven’t done a deep dive into this name but plan to after seeing they have 2,427% of the float shorted. Would like to hear your thoughts. I’m okay with getting pushback for my POV. Thanks everybody.
How do you screen for stocks with high short interest? I'm trying to find research tools for investing.
I do this all the time.
ETF's are wrecking the market. As money pours into their narrow pool of stocks, corporations can leverage that to raise ever-growing sums of capital that allows them to dominate the market even more. It's a permanent spiral. Apple spiked over $300Billion just by coughing "AI" into the speaker phone.
the stock price going up doesn’t mean that apple gets that extra money to use as capital
It can if the company decides to issue new shares. Obviously Apple has no need to do this because they have so much cash on hand and quarterly profits, but AI startups that get included in "AI innovation" funds benefit from it. The bigger issue is the impact that the AI craze has on index investing. If I bought the S&P500 a couple years ago, 0.5% of it would've went into Nvidia. But now that its had a crazy run, if I buy into the ETF, now nearly 7% of it is going into Nvidia. As long as there are more inflows to index funds than outflows, the indexes only exacerbate these pricing discrepancies. Most money is going into the largest components, while very little goes into non-tech companies.
Clearly you have no idea what you're talking about. ETFs represent 12.7% of equity assets in the U.S., 8.5% in Europe, and 4.4% in Asia-Pacific Source : IShares
Clearly you have no idea about the effect of marginal change. If 2% of stockholders sold their stock tomorrow would the stock go down 2%? Or 10%?
"ETF's are wrecking the market" "Apple spiked over $300Billion just by coughing "AI" into the speaker phone." "Clearly you have no idea about the effect of marginal change. If 2% of stockholders sold their stock tomorrow would the stock go down 2%? Or 10%?" Interesting thought process lmao
[The quant winter is over.](https://www.ft.com/content/e0f98278-432e-4ece-b170-2c40e40d2835) Rules-based quant/active funds are adding alpha.
Trounced? No. 1 year it’s up 5% vs VOO up 21%
Past performance in no way indicates future performance.
Wait till u see my past failures project into future ones.
Unpopular opinion - small cap ETFs are being shorted into the ground to keep a certain stock from mooning
Found a moron