Is Now a Good Time for Small-Caps?
With the market at an all-time high, is now a good time for small-cap stocks?
On the one hand, large-cap stocks are up about 5% year-to-date, and small-cap stocks are basically flat. So they may be relatively cheap.
But on the other hand, the Russell 2000 small-cap index increased by about 20% last year, versus about 12% appreciation for the S&P 500. So they may be relatively expensive.
So what's the answer? Cheap or expensive?
I think the answer is, “Both” and “Trump.”
There are many small-cap companies whose earnings could increase by as much as 20% if, in fact, corporate tax reform becomes a reality as the Trump narrative would dictate.
But there is a catch. In order to benefit from a lowering of the tax rate, a company needs to pay taxes.
And, with its heavy weighting in early-stage growth companies, only 67% of the stocks in the Russell 2000 earned a profit last year.
That means that only 67% percent of the stocks in the Russell 2000 could possibly benefit from tax reform.
We are currently seeking to invest in companies within this tax-paying universe for two reasons:
1. If Tax Rates Change: Most tax-paying stocks are not reflecting a near 20% increase in earnings, because Wall Street tends to be short sighted and Trump’s ability to get legislation passed is unproved.
2. If Tax Rates are Unchanged: Even if no reform is passed we will have a portfolio of larger and more stable companies that we believe will hold up better than the index in volatile times.
If we are right, we have more upside and less downside - and that’s what makes for an interesting portfolio.
Integre Asset Management Disclaimer – 3/22/2017
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