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The Case for Small Stocks

07/21/2006 12:00 am EST


John Bollinger

President and Founder, Bollinger Capital Management

A more hopeful view of the market comes from venerable expert John Bollinger, at least in the near-term. The editor of Capital Growth Letter's outlook is essentially positive, especially for small stocks which have been outperforming their larger brethren since 2000…


“Our outlook for stocks is little changed. We continue to expect seasonality to carry us modestly higher and look for trouble later in the year. Over the past several weeks the bears have attempted several raids and have been turned back by the bulls each time. This has resulted in very choppy trading, which was expected, and that has disheartened some who were too bullish. However the basic message we see is one of demand for stocks overbalancing waves of selling pressure.


“Over the next few months we expect to be taking some money off the table, most likely in a series of cutbacks and possibly some selective moves to participate on the down side if we start to develop some negative momentum.


“We still favor small stocks.  Value is maintaining an edge, but it is a small edge. The industry group picture has become a little less clear, but the basic message of leadership by economically-sensitive sectors remains intact. One laggard sector that has been on our radar for some time is starting to move up–media, due to the Knight Ridder buyout, which released a lot of pressure.


“The most important dimension of stock-market performance over the past several years has been the differential between returns on large versus small stocks. Since 2000, when small stocks were up 11% versus a loss of 10.1% for large stocks, smaller stocks have offered an advantage.


“Since 2000, the worst year for small stocks winning was last year, when the margin for small stocks was only 3.7%, a number that has already been eclipsed this year. The trend favoring small stocks continues and though it may have cooled last year, there is no sign of its ending yet. Since the size-ratio bottomed in March of 1999 and small stocks moved into the leadership role, small stocks have outperformed in 53 of the 85 months.


“Other than a streak in the first four months of 2003, when small stocks gave up 2.6% relative to large ones, there hasn’t been more than two months back-to-back since the bottom when large stocks held the advantage. We freely acknowledge that it is the height of fashion to forecast a return to large-cap leadership, and we will be happy to acknowledge such a return, when there is evidence for it. But there is none yet.”

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