Why ETF Investors are Wrong to Shun Mid-Caps

Why ETF Investors are Wrong to Shun Mid-Caps

Although ETF investors favor large and small caps over mid-cap strategies, performance data from Bank of America shows that this is misguided, according to a recent article in CityWire.

The BofA reports shows that mid-cap ETFs account for only 5% of total inflows so far this year but are responsible for 31% of US corporate earnings and 39% of total market returns. And even though past performance doesn’t indicate what will happen in the future, the BofA report makes three strong arguments for investing in mid-caps:

  • Mid-caps are more sensitive to U.S. GDP growth.
  • Mid-caps are poised to benefit from the “acceleration of production on-shoring” and domestic capital raising activities by U.S. companies (which favors cyclical sectors like industrials, financials and materials).
  • Mid-caps are under owned.

The article speculates on the lack of enthusiasm for mid-caps as follows:

  • The perception that mid-cap active managers are a “better bet”—that is, because the stocks are less liquid and less researched, there is an informational advantage that active managers can pursue. In reality, however, mid-caps are not that much less liquid and “should be just as efficient at capturing some extra return.”
  • Mid-caps are viewed as less appealing because they are “boring and value oriented.”
  • Compared to the growth hopes for both large- and small-caps, mid-caps are “neither fish nor fowl. They are not scale-based leviathans nor tiny acorns. And thus, when they are explained to clients, they seem rather lacking in the narrative department.” This is exacerbated by the fact that there isn’t a lot of economic data specifically related to mid-caps.

“Add it all up and one can easily understand why mid-caps are under owned,” the article concludes, adding, “The numbers don’t lie about performance, but behavioral biases get in the way.”

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