“It depends on what the meaning of the word “is” is”
– President Clinton – circa 1998
2015 is on track to be the second consecutive year that Small Cap Value has underperformed most other asset classes on a calendar year basis. This will mark only the second occasion since 1995 where this has been the case. The previous period was 1998-1999, which we find interesting.
There are several compelling parallels in these two periods of time (2014-2015 vs. 1998-1999) that are worth highlighting, both from a macro and micro viewpoint and across asset classes.
Beginning in 1997, the US Dollar began a steady upward march, Oil & Commodity prices tumbled, Emerging Markets were under pressure, Credit Spreads widened and there was a general slowdown in Global Growth. That is an admittedly simplified version of history. Many events unfolded in that time period and it is hard to say which was the tail and which was the dog. Suffice it to say that there was some interrelation among all of the events. In that 1998-1999 period, Growth outperformed Value by a wide margin.
Beginning in 2014, the US Dollar has seen a steady upward march, Oil & Commodity prices have tumbled, Emerging Markets have again been under pressure, Credit Spreads have widened and there has been a general slowdown in Global Growth. Since 2014, Growth has again outperformed Value by a wide margin. Some might even observe the similarities in broader geopolitical events, the balance of power in Washington and even El Nino (2015 El Nino forecast to be the strongest since 1998).
So what’s next?
In the 1998-1999 example, the subsequent 5 years (2000-2004) were quite productive for Value names, and for Small Cap Value in particular. To be sure, there was a bursting of the Internet and Telecom bubbles along the way and a mild recession. Still, Small Cap Value outperformed by a wide margin and only experienced one down year (2002) while Growth saw multiple years of double-digit negative returns.
Some will say that this is not a perfect comparison – that things are different now – and we would agree to an extent. However, we have been vocal in our assertion that valuations in Mid Cap Biotech and Large Cap “New” Tech were reminiscent of prior periods of “irrational extrapolation”.
Similarly, valuations in many Small and Mid-Cap Value stocks today appear to be effectively pricing in a recession, much like the 1998-1999 period, and even when the recession did come in 2001 (albeit mild), Small Cap Value was the best performing asset class, +14% for that year.
While much remains to be seen, we think a prudent approach to asset allocation and systematic rebalancing of portfolios is the best strategy to achieve attractive risk-adjusted returns for clients.
At Goodwood, we focus on Small and Mid-Cap US Equities. We use a fundamental, research driven process to individual stock selection for our equity portfolios. We are intrigued by the number of attractive businesses we are finding that are trading at substantial discounts to intrinsic value, particularly within Small Caps.
To quote James Montier circa March 2009 – “Buy stocks when they’re cheap, if not then, when?”
*YTD Returns as of 11/30/2015.
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ABOUT THE AUTHOR
Ryan Thibodeaux is President / Portfolio Manager of Goodwood Capital Management.
Ryan founded Goodwood Capital Management, LLC in March, 2012 and serves as a Portfolio Manager. Prior to starting Goodwood, Ryan was a Partner and Senior Equity Research Analyst with Maple Leaf Partners, LP. Maple Leaf Partners is a long short equity hedge fund started in New York by Dane Andreeff in 1996. In 2003, Julian Robertson’s Tiger Management seeded Maple Leaf and it became what is commonly referred to as a “Tiger Seed.” The firm eventually grew to over $2 billion in assets under management.
To read Ryan Thibodeaux's full bio or other Goodwood team members, click here.