Popular wisdom has it that, while over the long term small caps have outperformed large caps, this has tended to be at the cost of greater levels of volatility. However, our research suggests that the extent of this volatility is overstated. In fact, the last five years have seen lower volatility from small-cap stocks relative to large caps across the world. This could be due to the fact we have enjoyed an extended bull run, or that the UK government has been utilising quantitative easing to maintain artificially low interest rates. Whatever the cause, crunch the numbers and you will find that over this period the FTSE SmallCap sector has seen a lower maximum drawdown than the FTSE 100, but a maximum gain 21.6% greater than large caps. This phenomenon is not limited to the UK either. When comparing the MSCI Europe Small Cap Index to the MSCI Europe Index, the former has delivered double the annualised returns, again at a lower standard deviation. This combination of superior returns and comparable volatility is an attractive blend. Furthermore, with research on small caps likely to become even more thinly available as a result of Mifid II, the ability of small-cap managers to add alpha – a trait they’ve already shown themselves very capable of – is likely to be magnified. Against this backdrop, we consider the outlook for smaller companies.
