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Battle Boredom with Small Cap Stocks
By Stephen J. Butler |
 Archives |
Tom Wolfe, the
novelist, pointed out in a recent essay that kids who supposedly
have attention deficit disorder (ADD) have no trouble playing
SEGA video games for hour after hour. These kids (99% are boys)
may pose problems for teachers and parents, but Wolfe suggests
that the issue is not caused by an inability to concentrate. Speaking
for an earlier generation, Johnny Carson described his problem
as one of having "a low threshold of boredom."
Boredom is a real factor for investors. The stock market of the
2000s has lost the entertainment value and stimulation it provided
in the 1990s. It was marvelous fun to invest in Cisco, Lucent
or a growth-oriented mutual fund--or even an S&P 500 Index
fund--and watch these investments double and triple over short
periods of time.
Now, we can barely stand to open the statement envelopes or boot
up the computer to check our balances. The only funds doing well
are the same value stocks we shunned back when they were losing
money and their managers were being ridiculed or fired. There
were articles suggesting that the ultimate value investor, Warren
Buffett, had "lost it" and that he "didn't get
it" when it came to the new economy.
Value stocks
are indeed boring. The investment world's answer to ice fishing
leaves us fidgeting in our seats. Value investing means locating
companies that have hidden value and then waiting, sometimes years,
for a stock's price to rise. Buffett has said that his ideal holding
time "is forever."
In contrast, growth stocks seemed so exciting. They offered instant
gratification because you were effectively a "momentum"
investor. You bought a stock because it was already going up in
value. This created a self-fulfilling prophesy. Professional investors
of the growth investment style persuasion had screening software
that would identify the same fast-moving stocks and the feeding
frenzy was launched. Herman Melville, in Moby Dick, describes
how sharks eat captured whales by taking bites "the size
of human heads." The analogy fits our more recent experience
with growth stocks.
Those who long with nostalgia for the better times of growth stocks
will likely find it first in the small capitalization company
arena. Small companies traditionally have lead the market out
of declines because they can outmaneuver larger organizations.
Small companies can cut back expenses quickly when times are tough.
There is a greater cause and effect relationship between employees
and the product or service for sale.
In large companies, by comparison, the situation was described
best in the 1950's-era classic, The Man in the Gray Flannel Suit.
The prevailing fear in the life of a large company manager was
the discovery that he (and they were almost all men) didn't do
anything of value. GE's Jack Welch made the fear come true when
he insisted that all GE departments fire the least valuable 10%
of their employees each year.
In establishing what became the most difficult career demand for
surviving managers at GE, Welch made the company an engine of
success. Companies like GE and Tyco International have demonstrated
this ability, but most big outfits lack the organizational discipline.
A director of a major paper company once dismissed the success
of a competitor by saying, "All that those people care about
is profits."
In smaller companies, the cause and effect between employees and
profits is hard-wired. Lacking that sea of money on which big
companies float, small companies have dramatically less margin
for error. This explains why small cap stocks historically have
lead the stock market out of a decline. In just the past month,
as a matter of fact, small company mutual funds have increased
by about 5%.
The stock market historically has lead the economy out of a recession
by an advance of about 6 months. As a predictor of economic peaks,
the stock market leads by about 9 months. These cyclical relationships
between stock prices and economic activity can be traced back
to as early as 1913, which makes them reasonably well established.
If you are bored with market performance and looking for a return
to the stimulation of the Roaring '90s, it may be time for moving
money into a selection of diversified small-company stocks. These
are the ones that have taken the biggest beating over the past
eighteen months. The cyclical trends are in their favor. Also,
they offer an opportunity for those investors who re-balance their
portfolios periodically. These small company investments, if we
had them at all, now command a smaller percentage of our portfolios
than when they enjoyed so much attention at the end of '99.
Re-balancing, remember, is a form of dollar-cost averaging. To
sell what has been a winner and buy what has languished is a strategy
that can reduce risk and improve performance. A rule of thumb
also says that the time to buy last year's best-performing fund
is two years later. When it comes to small company funds, we're
almost there again.
The nice thing about being adults is that we don't have to sit
quietly in our seats. If we get bored, it is perfectly acceptable
to act out and invest in some small companies or even technology
stocks. Whatever turns us on. It may take longer than we can comfortably
stand, but the small company sector will rise again--sooner than
the rest.
BUYandHOLD
does not offer or provide any investment advice or opinion regarding
the nature, potential, value, suitability or profitability of
any particular security, portfolio of securities, transaction
or investment strategy. Any investment decisions you make will
be based solely on your evaluation of your financial circumstances,
investment objectives, risk tolerance, and liquidity needs. The
securities mentioned above are being used for informational purposes
only and should not be regarded as an offer to sell or as a solicitation
of an offer to buy and past performance is no guarantee of future
results. The opinions expressed above are not necessarily those
of BUYandHOLD, its officers, directors or its affiliates.
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