Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 509

The cheapest small cap valuations in decades

The global small- and mid-sized (capitalisation or cap) asset class (SMID) has strongly outperformed large-cap stocks over the long term, and while market leadership ebbs and flows over shorter periods, SMID appears well-positioned to potentially assume a leadership role over the next few years.

Exhibit 1: Global small/mid-cap stocks have strongly outperformed large-caps over time

Exhibit 2: While leadership has tended to rotate every few years

Why consider investing now?

In our view, the opportunity set for small- and mid-caps appears particularly attractive. Referring back to Exhibit 2, from the end of the dot-com-era (early 2000s) until the early days of the GFC in 2008, global small- and mid-cap stocks significantly outperformed relative to their large-cap counterparts. The MSCI ACWI (All Countries World) SMID Index returning 94% vs. the MSCI ACWI Large Cap Index return of just 21%.

And while no two periods are perfectly alike, there are similarities between that roughly eight-year period from the early to late 2000s to today’s environment. First, valuations offer investors a buying opportunity not seen in decades, as valuations are close to two standard deviations 'cheap' relative to large caps.

Exhibit 3: Global small/mid-cap valuations at multi-decade lows relative to large-caps

Second, inflation and interest rates during the run up to the GFC are more aligned with today’s reality versus what we witnessed in the decade following the GFC to the culmination of the pandemic. At that time, inflation was essentially non-existent and globally yields were either close to zero or even in negative territory. In fact, from 2000 through the end of 2007, the 10-year US Treasury yield averaged 4.7% and global inflation averaged 3.7% (Exhibit 4). That period is not all that different from today.

Exhibit 4: 2000 – 2007: Inflation and interest rates more reminiscent of today’s environment

Markets during the pre-GFC period also witnessed a dramatic sell-off as the dot.com bubble burst. The high-flying technology stocks with unattainable growth expectations - think irrational exuberance - of that period are analogous to the meme stocks of today. Looking at the concentration of the Russell 1000 Growth Index at the end of 2001, similarities are again apparent (Exhibit 5).

Exhibit 5: A handful of large-cap stocks dominated performance then and now

Future spending trends may benefit a wider cohort of sectors and industries, including small- and mid-cap stocks, rather than just the mega-cap technology companies that garnered the dominant share of spending in the past decade. Specific to SMID, spending trends may be driven by a 70-year high in the average age of fixed assets (see Exhibit 6).

Further, a move to localisation as governments and companies around the world onshore supply chains to improve their supply chain resilience could provide a tail-wind. The local nature of small- and mid-cap companies could work in their favour while large-cap company margins may come under pressure as benefits of globalisation (lower taxes and labour costs) subside as onshoring gears up.

Exhibit 6: Small/mid-caps may benefit as aging fixed assets may drive capex which has been highly correlated with sales growth

The strong performance of a handful of major US technology stocks during the past decade means today’s global investor is significantly less able to gain exposure to small- and mid-cap stocks through the traditional standard global benchmark allocation. In our view, the dominance of the most influential large-cap stocks can be better appreciated when viewed from the perspective of market-capitalisation buckets, as illustrated in Exhibit 7, where exposure to small- and mid-cap stocks in the MSCI World Index has declined from 43% of that index in 2010 to only 22%.

We witness an almost identical trend in the MSCI All Country Index, where small- and mid-cap stocks declined from 46% of the index to just 26%. 

Exhibit 7: Changing landscape of global large cap benchmarks

Why active management?

We believe this asset class may present more outperfromance (alpha) opportunity for active managers. The universe receives substantially less research coverage by sell-side analysts compared with other asset classes, particularly large-cap stocks (Exhibit 8). The return dispersion for these stocks is more than double that of large-caps (Exhibit 9). Both of these factors present ample opportunity for active managers with the experience and deep research resources to identify attractive stock opportunities.

Exhibit 8: Lack of research coverage may offer opportunity for active managers with a global research platform

Exhibit 9: Higher dispersion for global small/mid-cap may present more alpha opportunity for active managers

 

Nicholas J. Paul, CFA is an Institutional Portfolio Manager at MFS Investment Management. This article is for general informational purposes only and should not be considered investment advice or a recommendation to invest in any security or to adopt any investment strategy. Comments, opinions and analysis are rendered as of the date given and may change without notice due to market conditions and other factors. This article is issued in Australia by MFS International Australia Pty Ltd (ABN 68 607 579 537, AFSL 485343), a sponsor of Firstlinks.

For more articles and papers from MFS, please click here.

Unless otherwise indicated, logos and product and service names are trademarks of MFS® and its affiliates and may be registered in certain countries.

 

  •   17 May 2023
  • 1
  •      
  •   

RELATED ARTICLES

The case for a global small-mid cap portfolio

Now is the time to buy quality stocks

Why Aussie small caps are consistent underperformers

banner

Most viewed in recent weeks

Why spending more in early retirement can improve lifetime income

Conventional wisdom encourages retirees to preserve superannuation. But if those likely to qualify for the Age Pension later in life spend a little more today, it may deliver higher lifetime income and a more stable retirement.

Is it time to bail on Australian stocks?

For generations, Australian investors have backed banks, miners and dividends. But has that loyalty come at a cost? A look at the numbers raises an uncomfortable question about where future returns will come from.

Meg on SMSFs: What do we think about reversionary pensions these days?

Reversionary pensions have long been a staple of SMSF estate planning, but are they still the best option? Meg Heffron revisits a once-clear favourite and asks whether changing super rules have shifted the balance.

Testamentary trusts survived the trust tax. The drafting battle has just begun.

The fight over testamentary trusts looked settled. Then the draft legislation arrived. Hidden in a technical detail is a question that could force many families to rethink wills they thought were already future-proof.

How does the 4% rule stack up?

The 4% rule has long been retirement's gold standard. But after a difficult period for investors, fresh analysis suggests a more conservative approach may significantly improve the chances of making savings last.

The new capital gains tax trap for your portfolio

Investors have long accepted one portfolio rule without much question. A major tax shift could change that calculation entirely, forcing difficult trade-offs between risk, discipline and an overlooked cost lurking beneath.

Latest Updates

Exchange traded products

It’s time for LICs to die

A high-profile dividend cut and a prominent fund manager’s apology have reignited a long-running debate. If investors can access similar exposures more cheaply and efficiently elsewhere, what exactly is keeping LICs alive?

Taxation

Will investors be better or worse off under new housing tax changes?

Housing tax reforms have sparked warnings of market turmoil and promises of greater fairness. But after modelling nearly two decades of property data, the results suggest winners and losers may not be who many investors expect.

Retirement

Three considerations before reshaping your legacy plan

Many retirees hope to leave a legacy. Proposed trust tax reforms could force families to rethink. The question is not how much to leave behind, but whether today's inheritance plans will still make sense as circumstances change.

Investment strategies

Why experienced investors still get markets wrong

Retirement is approaching. Markets are noisy. And every headline seems to demand action. The biggest investment risk isn't fear, greed or market volatility, it often arrives disguised as research and sensible risk management.

Shares

Why pay more for less?

Conditions were stacked in favour of professional investors in 2026. Most still fell short, raising questions about where investors should look for value. Meanwhile, an alternative strategy continued to make its case.

Investment strategies

Bleeding air out of the bubble

Equity valuations have fallen sharply over the past year, yet investors have largely been spared the volatility and losses that typically accompany a de-rating. What explains this unusually orderly reset? Here are five key drivers.

Strategy

Has AI gone rogue?

We worry about AI becoming conscious. But what if consciousness isn't the issue? The more unsettling possibility is a machine capable of pursuing objectives relentlessly, without motives, emotions, or awareness of any kind.

Sponsors

Alliances

  • ASA-Logo-RGB-ActiveGreen-web.png

© 2026 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.