It was a harsh surprise to large-cap investors as small-cap stocks soared to the upside, leaving large-cap stocks in the dust. Small-cap stocks have been outperforming large-cap stocks for some time, making them a favored investment for investors looking for higher returns.
This trend is due in part to small-cap stocks being more leveraged to economic growth, meaning that they benefit more when the economy is performing well than large-cap stocks. There is also a wide variety of industries and businesses available to small-cap investors, providing a much larger selection than investors have with large-cap stocks.
Another explanation for the success of small-cap stocks in comparison to large-cap is the impact of changing investor preferences. When investors become more risk averse and seek safer investments, they may opt into large-cap stocks. Conversely, when investors want to take on more risk with greater potential returns, they may opt into small-cap stocks.
Not only are small-cap stocks benefiting from a changing investor preference, but they are also benefiting from the current low-interest environment. This environment is conducive to more excessive risk taking, prompting investors to search for other ways of making returns such as investing in small-cap stocks.
It is important to keep in mind though that small-cap stocks come with added risks – most notably lower liquidity, financial structure and greater volatility. These risks combined with the upside can make them a more attractive option, but high risk comes with high reward.
Overall, small-caps have substantially outperformed large-caps, leaving investors with large-caps to wonder why and how. Little do they know, changing investor preferences, the current economic environment, and increased risk taking are all major factors contributing to the growth of small-cap stocks.
