Want Big Profits in this Market? Then Think Small (Stocks)!

10/18/2017 2:57 am EST


Mike Larson

Editor, High Yield Investing

Stay focused on growthier sectors, attractive higher-yielding stocks, bonds with greater credit risk, and companies off the beaten path that have compelling stories to tell, writes Mike Larson, senior analyst at Weiss Ratings.

When Christmas morning rolled around at the Larson household, my brother and I did the same thing growing up that many of you probably did. We quickly tossed aside any present that felt like clothes and went straight for the biggest gifts under the tree.

But in today’s stock market, it’s more rewarding to follow that time-worn parental advice we all used to hear: The best gifts come in small packages!

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Take the iShares Micro-Cap ETF (IWC). This ETF invests in roughly 1,400 companies that are part of the Russell Microcap Index. As the name suggests, those companies have some of the smallest capitalizations in the stock market.

Scroll through the list of top IWC holdings and you’ll find names like:
--Immunomedics (IMMU) with a recent market cap of $1.7 billion,
--Winnebago Industries (WGO) with a market cap of $1.4 billion,
--and Dynavax Technologies (DVAX) with a market cap of $1.3 billion.

The top two holdings in the SPDR S&P 500 ETF (SPY), Apple (AAPL) and Microsoft (MSFT), have market caps of $825 billion and $598 billion, respectively.


Now, look at this IWC chart below. You can see it’s moving nicely higher – with gains of 4.9% in just the past month. That compares to only 2.3% for the SPY. Other similar ETFs are showing the same kind of outperformance, with the Wilshire Micro-Cap ETF (WMCR) up 4.7% and the PowerShares Zacks Micro Cap Portfolio (PZI) up 5.2%.

chart 1

Now I’ll be the first to admit that small caps are more volatile than large caps, and that micro caps are even more volatile than both. If we see a significant market correction, you can bet that less liquid names will take a greater beating.

But none of my indicators suggest we’re on the cusp of a substantial pullback. They’ve been bullish for a year now, and continue to be so. Investors are clearly betting on increased U.S. growth, potential U.S. tax cuts, and other positive fundamental forces.

That’s also the same message you get when you evaluate recent performance by sector. Take a look at this sector ETF table I created using the screening tools available at our Weiss Ratings website:

chart 2Data Date: 10/18/2017

Over the past month, the Financial Select Sector SPDR Fund (XLF) is leading the way with a total return of 4.4%. Next up are other “growthier” ETFs like the Technology Select Sector SPDR Fund (XLK) and Energy Select Sector SPDR Fund (XLE). Both clocked in with gains of 3.3%.

The worst performers are traditionally defensive ETFs that own utilities, REITs, and consumer staples. In fact, the Consumer Staples Select Sector SPDR Fund (XLP) has actually declined 1.6%.

Bottom line: My advice remains the same as it’s been for months: Stay focused on growthier sectors, attractive higher-yielding stocks, bonds with greater credit risk, and companies off the beaten path that have compelling stories to tell. The proof that they’re working best is in the charts and data. Come to think of it, maybe mom and dad were on to something!

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