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Advisors Favor Mid-Cap Stocks as They Outperform S&P 500 in 2024

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Moomoo News Global wrote a column · Apr 10 02:17
Wall Street has been dominated by the "Magnificent Seven" stocks for the past months, but risk appetite is apparently returning to the broader market. That has some financial advisors eyeing mid-cap stocks for their clients, seeking overlooked investment opportunities.
Some financial advisors are apparently recognizing the value of market breadth and the benefits of hedging through diversification as they pivot towards midcap stock ETFs. Evidence of this shift was apparent in the first quarter, as funds like the $Invesco S&P Midcap Quality Etf(XMHQ.US)$ and the $INVESCO S&P MIDCAP 400A GARP ETF(GRPM.US)$ collectively attracted over $1 billion in new investments, according to ETF.com's Jeff Benjamin.
By expanding their focus beyond the historically favored high-performing large-cap stocks, advisors are seeking to mitigate risk and enhance the resilience of client portfolios. Embracing midcap ETFs is a testament to the advisors' commitment to diversifying investment exposure and tapping into the growth potential of these often-overlooked companies.
Advisors Favor Mid-Cap Stocks as They Outperform S&P 500 in 2024
The extended large cap rally is pushing investors to seek ETFs that can offer diversification beyond the mega-cap growth names," said Nick Kalivas, Head of Factor and Core Equity ETF Strategy at Atlanta-based Invesco Ltd. "This is a key attribute of mid-cap, where factor screening combines less expensive valuation down the market-cap spectrum and a forecasted improvement for potential investment opportunities."
Cheap Valuation
Despite the current growing interest, the surge in midcap ETFs is still overshadowed by the dominant bull market propelled by the largest firms, notably the "Magnificent Seven" stocks that have been pivotal in driving the performance of major indexes such as the $S&P 500 Index(.SPX.US)$. The popularity generally leads to a valuation difference between large-cap and mid-cap stocks.
According to Sheldon, the S&P 400's average P/E ratio from January 1997 to October 2023 was 1.04 times higher than the S&P 500's. That ratio, however, is currently only 0.68 times that of the S&P 500.
Invesco's analyst Kalivas points out that earnings projections for the next two years appear more favorable for smaller-sized companies. For 2024, while large-cap stocks are expected to see a 12.5% increase in year-over-year earnings, mid-cap stocks are predicted to experience a more substantial growth of 20.5%, with small caps leading at 29.8%. In 2025, earnings are estimated to grow by 13.9% for large caps, 17.2% for mid-caps, and 18.6% for small caps, indicating sustained momentum for the earnings of smaller companies.
"There is certainly a case that small- and midcaps are cheap relative to large-caps," said Rick Wedell, chief investment officer at RFG Advisor in Birmingham, Alabama.
Morningstar also sees small-caps as undervalued. The 350 midcap stocks covered by the investment-research firm are trading 6% below a composite of its fair-value estimates for the stocks.
Performance Mean reversion
Small- and mid-cap equities have performed better than large-cap stocks during the past 35 years, which has attracted investors to them.
However, with the S&P 500 substantially outperforming the S&P 400 over the past five years -- 15.69% annualized for the S&P 500 versus 12.62% for the S&P 400 and 9.97% for the $Russell 2000 Index(.RUT.US)$, according to Morningstar -- some professionals say midcaps could be poised to outperform large-caps and now is a good time to build a position.
Heritage Capital's President Paul Schatz, based in Woodbridge, Connecticut, acknowledges that the performance comparison among stocks of varying market caps is a continuous narrative. However, he notes that the current scenario stands out due to the significant and prolonged underperformance of mid-sized and small-cap stocks. He remarks that betting against large caps has been a disastrous move for many investors. Schatz suggests that the market might now be anticipating a Federal Reserve rate cut, which could invigorate investments in these underperforming market segments.
Adding industry diversity to a portfolio of large- and small-cap stocks is another benefit of midcaps. Information technology, financials, and healthcare make up the top three sector weightings in the S&P 500 with 28.9%, 13%, and 12.6%, respectively. The top three sector weightings in the Russell 2000 are industrials, at 18.3%, financials, at 16.1%, and healthcare, at 15.2%. Industrials make up 21.2% of the S&P 400, followed by financials at 16.2% and consumer discretionary at 15.8%.
Source: WSJ, ETF.com, MarketWatch
Disclaimer: Moomoo Technologies Inc. is providing this content for information and educational use only. Read more
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