Mid-Cap
Mid-cap stocks are an important part of any diversified portfolio. They offer the “best of both worlds”. That is, within mid-caps you will find both ‘off-the-beaten-path’ value stocks, as well as growth stocks.
What Is Mid-Cap?
Mid-cap (or mid-capitalization) is defined as companies with a market capitalization — or market value— of between $2 and $10 billion. As the name implies, a mid-cap company falls in the middle between large-cap (or big-cap) and small-cap companies.
These companies tend to be substantial firms with solid businesses, with an established foothold in their respective market. Mid-caps are often domestic or niche companies that are looking to expand.
And since mid-cap stocks may often offer both dividends and price appreciation, they can balance investment portfolios between income and growth. In effect, mid-caps offer a compromise between the growth, risk and volatility trade-offs of their larger and smaller counterparts.
There are two main benchmarks for mid-cap stocks:
The S&P MidCap 400 Index tracks the performance of 400 mid-sized U.S. companies with valuations between about $2 billion and $8 billion. As of September 2021, the median market cap of companies in this benchmark was nearly $5.5 billion.
The Russell Midcap Index tracks nearly twice the number of companies than the S&P index — more than 800 — and is a subset of the larger Russell 1000 Index. The companies in this index had a median market cap of $11.3 billion as of September 2021.
Why Invest in Mid-Cap Stocks?
Despite being often overlooked by investors, mid-cap stocks have delivered performance. Since 2012, the aforementioned S&P MidCap 400 Index has outperformed the Dow Jones Industrial Average.
And, according to Hennessy Funds, the longer mid-cap stocks are held, the more likely they are to outperform. In fact, 76% of the time, mid-caps outperformed small-cap and large-cap stocks over any 10-year rolling period in the past 20 years.
Hennessy (using Morningstar data) says that, not only have mid-cap stocks generated higher absolute returns over a longer time frame, but they have also provided these returns with less associated risk.
Over the 20-year period ended 12/31/21, investors in mid-caps have experienced higher returns and lower risk relative to investors in small-caps. In addition, while mid-caps had more risk than large-caps, investors have been rewarded with a higher return over the same period.
The outperformance of mid-caps stems from the fact that many of these companies exhibit solid growth, either as they expand overseas or into new products and services.
And historically, mid-cap companies offer one of the best ways to profit from an economic recovery. That is a result of their large exposure to the industrial sector.
The historical outperformance is clear to see.
After the early 2000s recession, mid-cap equities outperformed large caps for three consecutive years – 2003 through 2005. And similarly, mid-caps performed well after the global financial crisis, beating large caps four out of five years from 2009 through 2013.
How to Invest in Mid-Cap Stocks
It’s not wise for investors to randomly pick any mid-cap company. After all, mid-cap companies could be the large-caps of the future or of the past.
Your individual asset allocation will vary based on your risk tolerance and investment goals. However, mid-cap stocks do deserve a place in any portfolio.
That’s why the American Association of Individual Investors (AAII) in their model conservative, moderate and aggressive investment strategies have a 10% to 20% allocation to mid-cap stocks.
Investing in mid-cap stocks is easy. You can invest in a group of mid-cap stocks by buying mid-cap index funds, either mutual funds or exchange-traded funds (ETFs). There are about 40 such ETFs and 600 mutual funds.
By doing so, you can reduce the risk associated with owning any individual stock while positioning your portfolio to benefit from broader market gains.
You can find funds that track key mid-cap benchmarks, styles of investing like growth versus value and mid-caps in specific industries.
Your search can be made easier by using Magnifi, a search-based investing platform that can help match investments to your goals. Magnifi’s AI driven system finds investment suggestions for you based on just a few inputs.
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Magnifi is changing the way we shop for investments, with the world’s first semantic search engine for finance that helps users discover, compare and buy investment products such as ETFs, mutual funds and stocks. Open a Magnifi investment account today.
The information and data are as of the February 25, 2022 (publish date) unless otherwise noted and subject to change. This blog is sponsored by Magnifi.
Multifactor ETFs
As investors seek protection from stock market volatility and potential downturns, products have been developed to take up this challenge.
One of these types of products is the multifactor ETF, which first appeared in 2003.
What Are Multifactor ETFs?
Multifactor funds provide exposure to stocks with different characteristics—or factors—such as value and momentum, all in the same product. These ETFs take a broad index, like the S&P 500, and apply a rules-based quantitative process to select stocks based on the chosen factors.
These funds are part of the concept of “smart beta”, which involves building portfolios skewed to “factors” that have historically been correlated with outperformance. These include value, dividend generation, momentum, small size, quality, profitability and low volatility.
Much academic research has been done regarding these “factors”.
A landmark 1992 study, by University of Chicago Professor Eugene Fama and Dartmouth College Professor Kenneth French, argued that – based on history – focusing on smaller stocks and those with lower relative prices may improve a portfolio’s expected return. Subsequent research conducted by University of Rochester Professor Robert Novy-Marx identified profitability as another factor that enhances expected returns.
The beauty of multifactor ETFs is that they combine two or more of these elements. This approach is designed to increase diversification and provide a smoother ride for long-term investors since it sits between passive and active strategies.
The funds’ goal is to provide less risk than passive funds that track broad-based indexes, and at a lower cost than many active funds.
Why Invest in Multifactor ETFs?
Some investors dumped multifactor ETFs late in 2020. That’s because some of these funds underperformed the market average (S&P 500). This was almost solely due to the poor performance of value investing, which by one measure had its worst run for 200 years.
U.S. markets are more concentrated now than they have been in the past 40 years, with technology stocks, such as Amazon, Apple, Microsoft and Alphabet representing over 20% of the S&P 500.
So if an ETF is tracking the S&P 500, the portfolio will be highly concentrated in a few stocks, which will increase stock-specific risk that quite often should be diversified away, depending on your individual financial circumstances.
Multifactor ETFs seek to provide better risk diversification by identifying companies across a variety of areas, rather than focusing on a small number of heavily concentrated positions. By providing simultaneous exposure to multiple, uncorrelated factors, multifactor ETFs aim to enhance risk-adjusted returns over traditional passive ETFs and provide investors with a more consistent return profile over a full market cycle.
A key strength of these ETFs is their ability to manage the correlation between different factors in a way that a series of single-factor funds could never replicate.
The active returns of single factors have low correlation to each other, so it’s unlikely multiple factors will underperform at the same time. This means diversifying across multiple factors can smooth out your return without reducing performance potential.
Multifactor funds also have an advantage wherever performance fees are levied, in that they allow the netting of fees. An investor does not have to pay a performance fee for one factor that has shot the lights out, if another has tanked and dragged the overall performance back down.
How to Invest in Multifactor ETFs
Multifactor ETFs can be bought through any brokerage firm.
However, you should not invest in these funds blindly. How a multifactor ETF can enhance the existing investments in your portfolio has to be considered.
You will need to do some due diligence. Investors need to look well beyond just the fund’s name.
For instance, there are many different ways to measure the value factor, including price-to-book, price-to-earnings, and price-to-sales ratio. There are also numerous ways to measure profitability, another key factor.
The bottom line is that how a factor is measured can have a major impact on how the fund performs and interacts with the other factors bundled into the fund, as well as your own portfolio.
Importantly, keep in mind that multifactor funds can have a prominent place in portfolios, especially when different investment styles are fighting for dominance.
For help in finding the right multifactor ETF to fit your portfolio, please be sure to check out the Magnifi website under multifactor funds.
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Magnifi is changing the way we shop for investments, with the world’s first semantic search engine for finance that helps users discover, compare and buy investment products such as ETFs, mutual funds and stocks. Open a Magnifi investment account today.
The information and data are as of the February 15, 2022 (publish date) unless otherwise noted and subject to change. This blog is sponsored by Magnifi.
Preferred Securities
Preferred securities are investments that are popular with investors looking for a source of safe and steady income. It is a hybrid security, blending characteristics of both stocks and bonds.
What Are Preferred Securities?
Preferred securities are fixed-income investments with equity-like features. Many of them are issued by large banks and insurance companies.
Some of the key differences between common and preferred stocks include: preferred stockholders having a higher claim on distributions (dividends) than common stockholders; preferred stockholders usually have no or limited, voting rights in corporate governance; and, in the event of a liquidation, preferred stockholders’ claim on assets is greater than common stockholders but less than bondholders.
Here are some of the common characteristics of preferred securities:
Price and Yield: preferred stock shares are issued at a $25.00 price with a set yield. In order to get the annual dividend rate, multiply the yield times the share price.
Perpetual, but Callable: most preferreds are issued as perpetuals (they have no stated maturity date), but the issuer will have an option to “call”, or redeem the stock at a fixed value, before the maturity date – usually at 5 or 10 years after issuance.
Fixed and Floating Rates: preferreds with more debt-like traits can have fixed rate, floating rate, or fixed-to-floating rate dividends. Floating rate structures offer much lower interest rate risk than fixed rate bonds.
Cumulative or Non-Cumulative: deferred or missed payments on cumulative preferred securities accumulate as obligations of the issuer, and must be paid out to holders of preferred securities before common shareholders can receive any dividend payments. However, with non-cumulative preferred securities, missed payments do not accumulate as obligations of the issuer and shareholders are not entitled to receive missed payments.
High Quality Ratings: preferreds are often issued by investment grade entities, and even though they are typically ranked two or more notches below an issuer’s senior debt, many preferreds still garner investment-grade ratings.
Distributions are dividends, not coupon payments: preferreds pay dividends on a fixed schedule, rather than coupons like a bond. And in periods of severe financial stress, the issuer may skip a payment without triggering a default. Income earned from preferreds are usually taxed at a federal rate which is considerably less than ordinary income tax rates that are applied to other fixed income securities.
Junior Capital Structure Ranking: preferreds rank lower than senior debt, but higher than common stock in a company’s capital structure. That means, in the event of an issuer’s default, investors holding that company’s preferreds will get paid back after the bondholders and before the stockholders.
Why Invest in Preferred Securities?
While preferreds are stocks, they are vastly different from common stocks. So don’t get them confused. . .they’re a world apart when it comes to risks and rewards.
In brief, preferred stocks can make an attractive investment for investors seeking steady income, with a higher payout than they’d receive from common stock dividends or bonds. However, these investors may miss out on the upside potential of common stocks and the safety of bond payments.
In an environment of low interest rates and rising volatility, preferred securities are attractive because of their historically high relative yields and their ability to weather changing interest rate environments. They also may help diversify a fixed income portfolio, due to their historically low correlation to other bond and stock asset classes.
And since preferreds are predominantly investment grade securities, it helps investors manage their portfolio’s credit risk.
In addition, there is tax-advantaged income potential, since many preferred security structures pay qualified dividend income (QDI).
A few firms issue convertible preferred securities. They can typically be exchanged for a specified amount of a different security, often the common stock of the issuing company. Convertible preferred securities may combine the fixed income characteristic of bonds with the potential appreciation characteristics of stocks. There are often provisions attached to convertible preferred securities that place restrictions on when they can be converted. Since convertible preferred securities can be exchanged for shares of the issuer’s common stock, the value of these securities will be more volatile than your typical preferred security.
How to Participate in Fixed Income Investing/preferred Securities
Preferred securities, like other stocks and fixed income securities, can be purchased through your brokerage firm.
However, keep in mind that no two preferred securities are alike. So take the time to read the ‘fine print’ and determine whether a particular preferred issue aligns with your investment needs, risk tolerance, and goals.
Another aid for investors – either to find preferred securities, ETFs or funds, or even individual preferred stocks – is to check the Magnifi website under preferred stocks.
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Magnifi is changing the way we shop for investments, with the world’s first semantic search engine for finance that helps users discover, compare and buy investment products such as ETFs, mutual funds and stocks. Open a Magnifi investment account today.
The information and data are as of the February 9, 2022 (publish date) unless otherwise noted and subject to change. This blog is sponsored by Magnifi.
Real Assets
Real assets exist in the physical world, and their value derives from their physical qualities. This is in contrast to financial assets, like stocks, bonds, cash and cryptocurrencies.
However, one similarity between real and financial assets is that their valuation depends on their cash flow generation potential.
What Are Real Assets?
Real assets can be categorized into several categories: real estate; natural resources – oil & gas, metals and minerals, timber and farmland/agricultural commodities; infrastructure – energy pipelines, transportation (roads, airports, railroads), utilities, telecommunications infrastructure (cell phone towers, etc.); physical equipment (factories, machinery, buildings, etc.).
These real assets have their valuations tied to cash flow and how much investors are willing to pay for the future stream of earnings. However, one of the primary differences between many stocks and real assets is that real assets have intrinsic value in and of themselves.
Investing in a real asset typically has the following benefits:
- It earns good cash on cash yield
- Is contracted for a long duration
- Have a stream of cash flows that are tied to inflation
- Have lower volatility because they are privately owned
That is why real assets are so popular with institutional investors. Overall, real assets represent more than $10 trillion out of $27 trillion of global institutional assets under management in 2019.
Why Invest in Real Assets?
Due to their low correlation to other financial assets, real assets offer investors the opportunity for diversification. Diversifying one’s portfolio is key to limiting exposure in order to lower investment risk.
As Cesar Perez Ruiz, chief investment officer (CIO) at Pictet Wealth Management, said to the Financial Times: “Real assets are a good late-cycle investment, when increasing volatility can offer interesting entry points into areas that have low correlation with other asset classes.”
This asset class tends to be more stable than financial assets. Inflation, currency fluctuations, and other macroeconomic conditions affect real assets less than financial assets.
Real assets are particularly well-suited investments during inflationary times because of their tendency to outperform financial assets during such periods. The S&P 500 Real Assets Index, which launched at the end of 2005, has outperformed the S&P 500 in every high inflation year since its inception.
The asset management giant Blackrock looked at average annual returns in different regimes of growth and inflation over the past 20 years. It found that U.S. and global real estate, as well as global infrastructure, beat stocks and bonds when inflation is high. Outperformance was seen in both low and high periods of growth.
All that some real assets, such as commodities, need is a whiff of inflation to get rolling. For example, the Bloomberg Commodity Spot Index ended 2021 with a gain of 27%. That was the biggest yearly jump since 2009.
Also, real assets have appeal to investors searching for reliable income. Cash flow from real assets like land, infrastructure, and real estate projects provide sound and steady income streams to investors.
However, keep in mind that real assets are often less liquid (harder to sell quickly) than financial assets.
Another major plus for real assets versus say U.S. stocks is that the real assets market is often riddled with inefficiencies. The lack of knowledge about specific real assets (such as a copper mine or a cell phone tower) offers investors the potential for high profits.
How to Invest in Real Assets
The good news is that you do not need a lot of money to invest into real assets.
You could buy the actual real asset, such as silver coins. Or buy futures contracts on physical commodities. Or invest in real estate via fintech companies for just a few hundred dollars.
Investors can also gain exposure to these types of investments through individual stocks, ETFs and mutual funds. A simple search on Magnifi will help you find numerous ways to invest into real assets.
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Magnifi is changing the way we shop for investments, with the world’s first semantic search engine for finance that helps users discover, compare and buy investment products such as ETFs, mutual funds and stocks. Open a Magnifi investment account today.
The information and data are as of the February 9, 2022 (publish date) unless otherwise noted and subject to change. This blog is sponsored by Magnifi.
Outperformance
What Is Outperformance?
Outperformance is used to describe the returns of an investment producing better results when compared to another. The term is commonly used to compare an investment’s return to a benchmark index, such as the S&P 500.
For example, investors could say they “outperformed” the market, if their portfolios produced better returns than the S&P 500.
There are a number of reasons why stocks can outperform the market. These may include: a company’s revenues or earnings growing faster than expected versus its peers, superb management decisions, market preferences, network effects, its industry sector was undervalued and has now rebounded, or even sheer luck.
So how can you find stocks that will outperform the overall stock market?
Finding Outperformance
Investors are often able to achieve outperformance by determining where the economy/business is in its cycle, the strength of different sectors, and then picking the strongest stocks within those sectors to invest in.
An economic cycle, sometimes referred to as a business cycle, is the periodic growth and decline of a nation’s economy. Economic cycles can be broken down into four parts, each of which is associated with the outperformance of certain sectors:
Early recession:
The economy begins to slow and consumer expectations are falling. Growth is slowing as inflation climbs higher, and stock prices begin to look high compared to earnings. Interest rates are rising and the yield curve is flat or even inverted (meaning that long-term interest rates are equal to or lower than short-term rates).
Historically, the following sectors have profited during these times: consumer staples, such as food producers and grocery retailers, healthcare and utilities.
Recession:
Economic growth is down (GDP is contracting), and industrial production is at a low point. The unemployment rate is high and rising. Interest rates begin to fall, and the yield curve is normalizing (meaning that long-term rates are higher than short-term rates). Although consumer expectations are low, they are beginning to improve.
The best sectors in this phase include utilities, healthcare, and consumer staples early on and then cyclicals (such as energy and materials) near recession-end.
Early recovery:
The economy begins to improve, and consumer expectations continue to rise. Industrial production begins to grow. Interest rates are falling. Corporate earnings grow. People spend.
The sectors to consider investing in at this stage include: other cyclicals like transportation as well along with technology.
Late/full recovery:
Interest rates are on the rise and the yield curve has flattened. Industrial production is slowing and consumer expectations are beginning to fall. Sectors to consider include consumer staples and precious metals.
Part of the big picture analysis involved in deciding where we are in the business cycle includes interest rates and inflation.
How Interest Rates Play a Role in Outperformance
Interest rates rise and fall as the economy moves through periods of growth and stagnation and are important in crafting a portfolio.
When interest rates rise, some stock sectors – considered to be defensive – rise. These include the likes of healthcare, consumer staples and precious metals.
Also financial stocks may benefit as banks can earn more from the spread between what they pay to savers and what they can earn from highly-rated debt like Treasuries.
On the other hand, there are stock sectors that rise when interest rates decline. These include technology, utilities (and other high dividend payers) and commodities. And since lower interest rates tend to boost economic growth, small and midcap stocks also benefit.
How Inflation Plays a Role in Outperformance
Research from the investment firm Schroders found that equities outperformed inflation 90% of the time when inflation has been low (below 3% on average) and rising – that is where we have been for many years.
When inflation is on the rise, there are certain sectors that usually outperform the market. These include commodity-related sectors such as basic materials and energy, as well as some utility stocks.
Another industry to consider is real estate (equity REITs) – it is a real asset that produces steady income.
Investors can gain exposure to these types of investments through ETFs and mutual funds. A simple search on Magnifi indicates numerous ways for investors to access an array of funds with low fees.
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Magnifi is changing the way we shop for investments, with the world’s first semantic search engine for finance that helps users discover, compare and buy investment products such as ETFs, mutual funds and stocks. Open a Magnifi investment account today.
The information and data are as of the February 9, 2022 (publish date) unless otherwise noted and subject to change. This blog is sponsored by Magnifi.