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  • FIRST POST
    • aroominyork
    • By aroominyork 6th Jan 18, 12:40 PM
    • 336Posts
    • 80Thanks
    aroominyork
    Smaller companies within a wider portfolio
    • #1
    • 6th Jan 18, 12:40 PM
    Smaller companies within a wider portfolio 6th Jan 18 at 12:40 PM
    I would appreciate knowing what proportion of equities people generally hold as Smaller Companies/SMEs as I wonder if I am a little high.

    SmCo/SME funds make up 29.4%-34.7% of the equities I hold:

    UK: 35% of my equities are SmCo/SME (Liontrust UK Sm Co, the rest in LT UK)
    Europe: 43% (Baring Europe Select, the rest in Blackrock Cont Eur Income)
    US/general global: 0% (all in Ballie Gifford Global Alpha Growth, VLS and Fundsmith)
    Japan: 100% (BGFD)
    EM: 31%-64% (31% IGC which is India SME; 33% ITEQ which is Israel hi tech Ė not an SME fund as such but many of the holdings will be; 36% TEM).

    This is a retirement portfolio taking an 8-10 year view. I hold SmCo/SMEs variously for diversification, higher risk/reward, or (in EM) as a bit of a tilt.

    In UK and Europe I am open to rebalancing. For Japan I like Baillie Gifford but could move part of BGFD into their broader Japanese OEIC. I realise my EM holdings are not typical but I am comfortable with them.Thanks.
Page 2
    • Prism
    • By Prism 6th Jan 18, 9:05 PM
    • 125 Posts
    • 86 Thanks
    Prism
    For reference MCSI places 15% of the worlds developed market companies in its mid cap index, 14% in its small cap index and 1% micro cap. For my portfolio I am a little over those percentages at around 40% mid/small cap
    • bostonerimus
    • By bostonerimus 6th Jan 18, 10:19 PM
    • 1,412 Posts
    • 828 Thanks
    bostonerimus
    If you include Mid-cap as well then 20% of my equity portfolio is Mid/small/micro cap
    Misanthrope in search of similar for mutual loathing
    • george4064
    • By george4064 6th Jan 18, 10:31 PM
    • 878 Posts
    • 964 Thanks
    george4064
    My ISA is about 20% small cap.
    "If you arenít willing to own a stock for ten years, donít even think about owning it for ten minutesĒ Warren Buffett

    Save £12k in 2016 - #045 £10,358.81/£12,000 (86%)
    Save £12k in 2017 - #003 £12,427.51/£12,000 (104%)
    Save £12k in 2018 - #004 £0/£12,000 (0%)
    • pip895
    • By pip895 6th Jan 18, 11:19 PM
    • 494 Posts
    • 280 Thanks
    pip895
    UK Small cap & VCT's make up 10% with another ~10% in other small cap funds. However many of my other active funds are also skewed toward small cap.
    • Morphoton
    • By Morphoton 6th Jan 18, 11:27 PM
    • 68 Posts
    • 59 Thanks
    Morphoton
    Interesting. So you are saying that a lower equity allocation with a high % of smaller cos, provides better returns over time than a higher equity allocation focused on large caps. Do you have any stats/articles (good ones!)/evidence to demonstrate this? Also, have you looked at the minimum period of time to make this a productive strategy taking into account risk associated with the increased volatility?
    I do not have any formal proof that my barbell strategy is any better than others and my strategy has evolved over the past 30 years or so. It was really just reading articles that smaller caps tended to outperform large caps, and it seemed to make sense that it would be likely that there would be lower correlations between countries for small caps vs large caps. I was not too concerned about volatility. In fact volatility can sometimes help with regard to re-balancing / pound cost averaging. Having been through the crash of '87, the tech crash and the last one and seen some peak to trough drops of individual investment trusts of ~80% you somehow get inured to them. However despite these drops I have had the best long term returns from these trusts. For example I have held both TR European Growth IT (TRG) & Baillie Gifford Shin Nippon (BGS) for approx 20 years.

    There are various articles that show smaller caps have tended to outperform large caps over the long term.
    For example, comparing the various UK sized rank returns since 1955. I have also read that this applies to other countries.
    UK Data:
    https://www.london.edu/news-and-events/news/uk-small-and-mid-caps-outperform-in-2015#.WlFLyNZFDqA

    With regard to correlations there is certainly some US research such as from MSCI at:
    https://www.msci.com/www/blog-posts/why-are-small-caps-different-/0736742719

    If you are very mathematically minded there is a 45 page paper PDF in the link below. This data is fairly old from the 80's and 90's.
    If you do not want to wade through it all you can just read p1 or the following quote from p5:
    "As a result, small-cap funds have relatively low correlations not only with large-cap funds but also with each other. In contrast, large-cap funds tend to have relatively high correlations with each other, reflecting their common exposure to global factors. During our sample period, for instance, the correlation between the U.S. and Netherlands large-cap funds is 0.61, whereas the correlation between small-cap funds from the two countries is only 0.17. Further, the correlation between the U.S. large- and Netherlands small-cap funds is 0.21."

    https://www.google.co.uk/url?sa=t&source=web&rct=j&url=http://www.cicfconf.org/past/cicf2006/cicf2006paper/20060201092639.pdf&ved=0ahUKEwjisvX7psTYAhWJh7QKHW duAe4QFggsMAQ&usg=AOvVaw2w_SjjjJpityPdf6rNt6Bk

    With the above information it just seemed to make sense to me that with a high level of smaller caps in my equity portion I would hopefully benefit from the out-performance effect and the correlation effect.

    What I cannot say with any certainty is what the optimal level of large caps / small caps / bonds would be with regard to returns and volatility.

    The biggest caveat to all the above is of course that past performance is no guarantee of future performance !
    • TheTracker
    • By TheTracker 7th Jan 18, 6:58 AM
    • 1,178 Posts
    • 1,158 Thanks
    TheTracker
    Interesting. So you are saying that a lower equity allocation with a high % of smaller cos, provides better returns over time than a higher equity allocation focused on large caps. Do you have any stats/articles (good ones!)/evidence to demonstrate this? Also, have you looked at the minimum period of time to make this a productive strategy taking into account risk associated with the increased volatility?
    Originally posted by aroominyork
    Enormous amounts of material on this, the small premium was an earlyish piece of modern economic research and theory that remains somewhat solid. Banz found there was a size premium - historically smaller stocks achieve higher returns than larger stocks, albeit at higher volatility.

    Further, that returns were higher even when ‘risk adjusted’, that is the higher return was not just due to taking more risk. So yes there is more volatility, but not quite as much as would be predicted for the increased return. Fama and French famously then studied it and included in their 3 factor theory, alongside a value premium and general market beta. I don’t think they addressed the risk adjusted part, but further studies found the same as banz.

    Since then there has been much research, and as always in semi-scientific economic theory, much is in dispute. The premium disppears when you cut the data in certain ways, such as time or geography. An interesting idea is that such factors disappear when well known / discovered (they get incorporated in general market returns rather than disappear), though evidence points both ways. Another idea is that size/small is a proxy for some other aspect. Eg, perhaps it arises from illiquidity of very small and micro stocks, so liquidity might be a better factor. Various 4 and 5 factor theories exist with good support. They introduce factors like momentum and profitability.

    There are all sorts of ‘wars’ around passive/active. But we can dissolve a lot of that by realising most academics suggest that various fundamental factors account for 90-95%+ of performance, and that portfolios should allocate assets based on diversifying across these factors. As such, if the small premium exists and has higher risk adjusted returns, then one can construct portfolios where “a lower equity allocation with a high % of smaller cos, provides better returns over time than a higher equity allocation focused on large caps”.

    Any star manager aspect, or alpha, is about the remaining 5-10%, at best, and very probably through some inherent style that exploits factors that theory hasn’t unearthed rather than a timing ability. This is where ‘smart beta’ comes in, the idea that one can algorithmically exploit different factors in different conditions, and why they exist between ‘active’ and ‘passive’.

    In terms of time, my understanding is you need to stick with it 20-30 years to have a good chance of the size premium showing above randomness/volatility, and that’s if it exists at all. Because of this, many people quite validly say Pah! and don’t bother with the faff of deliberately targeting/overweighting small stocks.
    Last edited by TheTracker; 07-01-2018 at 7:34 AM.
    • Linton
    • By Linton 7th Jan 18, 7:35 AM
    • 8,858 Posts
    • 8,890 Thanks
    Linton
    The problem with academic research is that most of it seems to be carried out on US data. The 5year data In my post #10 does suggests that the high return from small companies has not been apparent in the US. Whereas it certainly has elsewhere.

    Looking at Trustnet charts small company outperformance seems to be only apparent since around 2000. I can think of good reasons why this may be so, for example, prior to then, before internet access became mainstream, funds would have been mainly bought through advisors and brokers and far fewer funds were available. It is possible that small company outperformance will fade. But one surely canít deny its has been highly significant in the past 20years or so.
    Last edited by Linton; 07-01-2018 at 7:45 AM.
    • A_T
    • By A_T 7th Jan 18, 9:30 AM
    • 282 Posts
    • 166 Thanks
    A_T
    I believe that the US market is so well capitalised that finding outperformers (including small cap) is extremely hard. Hence Warren Buffet winning his bets that the S&P500 will beat stock pickers over long periods.



    I would not bother with US small cap but I do look at UK, Japanese and European mid and small cap.
    • aroominyork
    • By aroominyork 10th Jan 18, 4:26 PM
    • 336 Posts
    • 80 Thanks
    aroominyork
    I want to paste a graph in this thread. Is it possible to paste a graph which I have copied into a Word doc?
    • bostonerimus
    • By bostonerimus 10th Jan 18, 4:37 PM
    • 1,412 Posts
    • 828 Thanks
    bostonerimus

    In terms of time, my understanding is you need to stick with it 20-30 years to have a good chance of the size premium showing above randomness/volatility, and thatís if it exists at all. Because of this, many people quite validly say Pah! and donít bother with the faff of deliberately targeting/overweighting small stocks.
    Originally posted by TheTracker
    I couldn't have said it better myself...Pah indeed!
    Misanthrope in search of similar for mutual loathing
    • Filo25
    • By Filo25 10th Jan 18, 5:21 PM
    • 1,253 Posts
    • 1,870 Thanks
    Filo25
    I believe that the US market is so well capitalised that finding outperformers (including small cap) is extremely hard. Hence Warren Buffet winning his bets that the S&P500 will beat stock pickers over long periods.



    I would not bother with US small cap but I do look at UK, Japanese and European mid and small cap.
    Originally posted by A_T
    If anyone thinks the PE on the S&P is scary, it is a lot higher on the Russell (reflecting the higher growth prospects).

    You don't really see too much of a premium in comparison on the UK though when I have looked at it, which is surprising given how strongly prices for UK small companies have performed, which is one of the reasons I am happy to have Smaller Companies make up a reasonable proportion of what I hold in the UK.
    Last edited by Filo25; 10-01-2018 at 5:32 PM.
    • Linton
    • By Linton 10th Jan 18, 5:22 PM
    • 8,858 Posts
    • 8,890 Thanks
    Linton
    .......
    In terms of time, my understanding is you need to stick with it 20-30 years to have a good chance of the size premium showing above randomness/volatility, and thatís if it exists at all. Because of this, many people quite validly say Pah! and donít bother with the faff of deliberately targeting/overweighting small stocks.
    Originally posted by TheTracker
    You twitch over a 0.1% difference in charges yet say Pah! to a 5%/year higher return as being too much faff. Each to his own I suppose.
    • sixpence.
    • By sixpence. 10th Jan 18, 7:37 PM
    • 59 Posts
    • 16 Thanks
    sixpence.

    I would not bother with US small cap but I do look at UK, Japanese and European mid and small cap.
    Originally posted by A_T
    This is my exact approach as well. Are small cap and mid cap different sectors and what is the advantage of having both in your portfolio?
    • Morphoton
    • By Morphoton 10th Jan 18, 7:57 PM
    • 68 Posts
    • 59 Thanks
    Morphoton
    If anyone thinks the PE on the S&P is scary, it is a lot higher on the Russell (reflecting the higher growth prospects).
    Whilst it is true that the P/E of the Russell 2000 is a scary 100, the actual P/E of portfolios can be a lower.
    For example, using the free X-Ray Tool on the Morningstar Website, the P/E of the JP Morgan US Smaller Companies IT (JUSC), which I hold, is given as 22.72*.
    *I cannot however verify the accuracy or how uptodate the figure is. I do know for example that some P/E figures shown do not change on a daily basis despite price changes.
    • TheTracker
    • By TheTracker 10th Jan 18, 8:55 PM
    • 1,178 Posts
    • 1,158 Thanks
    TheTracker
    You twitch over a 0.1% difference in charges yet say Pah! to a 5%/year higher return as being too much faff. Each to his own I suppose.
    Originally posted by Linton
    I don’t say Pah. Just that I understand why others do. As per post #5 I hold a sizeable chunk of small cap - 15% held in a small cap fund - and intend to hold it for years.

    IIRC my equities are split 45% developed, 12.5% property, 12.5% EM, 15% value, 15% small with no home bias. So I suppose thats 20-25% small
    Originally posted by TheTracker
    • aroominyork
    • By aroominyork 11th Jan 18, 2:44 PM
    • 336 Posts
    • 80 Thanks
    aroominyork
    Once again, how do I paste a graph into this thread please?
    • MallyGirl
    • By MallyGirl 11th Jan 18, 2:47 PM
    • 2,298 Posts
    • 7,311 Thanks
    MallyGirl
    if you host a picture somewhere (I used to use photobucket but I am sure there are other options these days) then you can insert the URL of the image
    • aroominyork
    • By aroominyork 14th Jan 18, 4:47 PM
    • 336 Posts
    • 80 Thanks
    aroominyork
    Below are five year performance graphs of two UK smaller company funds, Liontrust above and Old Mutual below. The overall performance is similar but the Liontrust fund has a much smoother day to day ride. What can be read into this?

    Also, the Liontrust has an FE of 63 and the Old Mutual of 95. Given the similarity of their performance, and given that FE measures volatility, is it the jagged nature of Old Mutualís graph that gives it have a higher FE rating?


    • Tcquins
    • By Tcquins 14th Jan 18, 4:58 PM
    • 21 Posts
    • 15 Thanks
    Tcquins
    Yes, FE risk scores are based on volatility in the funds, with a greater weighting to more recent volatility.

    Old mutual’s fund has a few larger holdings than Liontrust (Fevertree for example) that have bounced all over the place.
    • planteria
    • By planteria 14th Jan 18, 7:27 PM
    • 4,909 Posts
    • 1,088 Thanks
    planteria
    ...if i wanted to go for smaller companies i would only consider a managed fund...
    Originally posted by economic
    that's what i do. c12% of my portfolio overall is in smaller companies, with a Marlborough fund. though the holdings within the fund are 'higher risk', there are more holdings that many large cap funds would hold, spreading that risk. fwiw i would happily have a larger proportion in the fund, it's just that there are other things that i want to hold at the moment alongside.
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