In investing, history likes to repeat itself. The specific situation may change, but the lesson often stays the same. Especially this one: What goes up must come down.
Just look at the crazy days of the late 1990s, and the subsequent bear market of 2000-2002. Today's market doesn't face the same risks it did back then, but certain trends have dominated for several years now. And history tells us that eventually, those winning streaks will end.
Small is in
Small-cap stocks have outperformed large caps in seven of the past eight calendar years:
|
Year |
S&P 500 Index Return |
Russell 2000 Index Return |
|---|---|---|
|
1999 |
21% |
21.3% |
|
2000 |
(9.1%) |
(3%) |
|
2001 |
(11.9%) |
2.5% |
|
2002 |
(22.1%) |
(20.5%) |
|
2003 |
28.7% |
47.3% |
|
2004 |
10.9% |
18.3% |
|
2005 |
4.9% |
4.6% |
|
2006 |
15.8% |
18.4% |
Despite this hot streak, history suggests that eventually, large-cap stocks will regain the upper hand. Relative valuations provide one key incentive for this potential shift. Because small caps have racked up such incredible gains over the past few years, they're now generally more expensive than their larger-cap brethren. Foolish investors know that buying stocks when they're cheaper provides greater upside potential.
Second-quarter lowdown
In a volatile second quarter of 2007, large-caps came out ahead. The S&P 500 Index was up 6.3%, led by technology issues such as Apple (Nasdaq: AAPL) and Dell (Nasdaq: DELL). In comparison, the small-cap Russell 2000 Index posted only 4.4% growth. Likewise, the average Morningstar large-cap blend fund rose 6.2%, versus 5.5% for the average small-cap blend fund. This performance has fueled speculation that the long-awaited large-cap rebound may finally be here.
That's entirely possible, but with just one quarter's performance to go by, it's still too soon to tell. As Fools know, short-term trends vary, and large-caps may be just as likely to trail in the coming months as they are to outperform. All the same, large caps' long-term outlook seems bright.
A long-term view
So how can Foolish investors best capitalize on any coming large-cap rebound? Well, don't abandon small caps completely. You might want to pare back your small-cap holdings a bit, but it's important to maintain at least some exposure there.
Meanwhile, consider moving some of your money into stocks on the larger side of the spectrum. Quality large-cap stocks such as General Electric (NYSE: GE), Bank of America (NYSE: BAC), or Texas Instruments (NYSE: TXN) may provide your portfolio with an extra boost once the market begins to favor larger stocks again. Better yet, investigate mutual funds that focus on large-cap equities, and leave the burden of individual stock-picking to an investment professional.
If the economy hits rough waters in the second half of the year, or even in 2008, there's a good chance that larger stocks will benefit. Typically, investors flock to stable, high-quality large caps when the economy turns south. Where smaller companies might be particularly hurt by a tough economy, larger, more established firms are more likely to weather the hard times.
It's difficult, if not impossible, to predict exactly when a large-cap turnaround will occur. But if it's not already under way, it will happen eventually. It's not too late to get in on the action. Provide your portfolio with significant exposure to large-cap stocks, and you'll stand an excellent chance of reaping the benefits of a large-cap bounce -- whenever it actually occurs.
More larger-than-life Foolishness:
Whether you're looking for large-cap funds, small-cap funds, or something in the middle, find out which mutual funds are right for your portfolio. Check out the Fool's Champion Funds newsletter with a free 30-day trial today.
Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned herein. Dell is a recommendation of Stock Advisor and Inside Value. Bank of America is an Income Investor selection. The Fool's disclosure policy regularly consults its Magic 8-Ball.
