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Capital Markets

Small caps: Small is bountiful – but decreasingly so

Small and mid-sized companies have outperformed larger ones for the past six years and their winning streak has so far continued into this year. While the S&P 500 has risen 2.2% year to date, the S&P 400 mid-cap index has shot up 7.7% and the small-cap S&P 600 by 4.7%.

According to the Hoare Govett Small companies index report, an annual review of small-cap performance compiled by ABN Amro and the London Business School, small companies outperformed large ones in 15 out of the 22 countries studied in 2006. In only three countries, Portugal, Japan and Ireland, was their performance significantly worse.

Such superior performance has won small companies some big fans, such as hedge funds, but there are growing signs that the attention lavished on them might be making them less interesting.

According to a recent study by Citi about 8% of all European small caps have hedge fund ownership of at least 10%, while only 1% of large caps are at least 10% owned by hedge funds.

Small is bountiful

Annualized small-cap premia over large caps for 22 countries and the World Index

Source: Hoare Govett

Investing in small-cap and mid-cap companies is a natural strength of the value-investing breed of hedge funds that have real expertise in stock-picking. "The dispersion between the best-performing and worst-performing small and mid-cap stocks is huge," says Thierry Olive, head of equity capital markets at BNP Paribas in Paris, "so the key to successful investing in them is stock-picking.

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