INVESTMENTS & PENSIONS
CONSIDERATIONS WHEN INVESTING IN SMID
Quality and diversification are important when investing in SMID stocks . Compared to SMID stocks , a much greater percentage of larger-cap stocks are profitable with positive free cash flow and less price volatility . As such , SMID stocks are often considered riskier investments . And because SMID stocks tend to be more volatile , adequate diversification is important .
By owning an actively managed fund which is well-diversified by industry and stock , these risks can be reduced . Furthermore , compared to large-cap stocks , research analysts cover SMID stocks less widely . Therefore , active managers have more opportunities to find well-run companies with strong fundamentals that are currently priced relatively attractively . Investing selectively in these names gives active managers the best chance of achieving risk-adjusted superior returns .
WHY NOW ?
Since the pandemic , deglobalisation has risen as governments of major economies have sought to reduce interdependence . This is partly a reaction to disruptions in supply chains but also due , in some cases , to rising nationalism . This has resulted in growing economic protectionism through tariffs . SMID companies tend to be more domestically focused , whereas large and mega-cap stocks tend to be more international .
For this reason , SMID companies could benefit from this deglobalisation trend . Furthermore , US economic growth remains robust , especially compared to Germany or the UK . The US consumer continues to be in good shape , benefiting from low unemployment and above-historic average wage growth .
SMID companies are typically more sensitive to interest rates as they usually have weaker balance sheets with higher borrowing levels and generally have less fixed-rate debt and more floating-rate debt . Therefore , they often underperform when interest rates rise , like the last two years . Conversely , an environment of falling interest rates , which we now likely face , provides a more favourable backdrop .
KEY TAKEAWAY
While some of the largest US companies have performed strongly over the last year , SMID stocks can still offer good value in comparison . By investing through an actively managed , well-diversified fund with a quality-focused investment process , an investor can access a part of the US equity market that looks somewhat overlooked . This attraction is further enhanced by the US SMID companies ’ domestic focus , meaning they are well placed to benefit from the robust US economy and the move towards deglobalisation .
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