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Time to Add Small Caps and China to Your Portfolio?

Published 02/07/2024, 03:46 AM
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  • U.S. indexes continue to thrive, but small caps and China stocks have traded sideways and could be at attractive valuations, making them intriguing for long-term investors
  • Given the sideways trend with occasional declines, it could be a good time to consider accumulating these two in your portfolio.
  • With potential interest rate cuts on the horizon, small caps historically perform well in such environments, presenting investors with an opportunity to consider these assets for portfolio diversification.
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  • The year kicked off much like its predecessor, 2023, characterized by a handful of prominent stocks propelling the U.S. equity indexes and subsequently, the global indexes.

    However, outside the U.S., both valuations and sentiment have yet to turn positive. In many cases, we are still witnessing sideways movement rather than outright bear market conditions.

    Since the end of last year and particularly in the early months of 2024, I have found two asset classes particularly interesting: Small Cap and China.

    I'm drawn to these asset classes because, from a valuation standpoint, they have significantly lagged.

    From an investor's perspective — thinking not in terms of a month, but rather a minimum of five years — they hold substantial potential for appreciation in portfolios.

    Let's delve into more detail and find out whether it is the right time to add these two to your portfolio.

    Russell 2000 Price Chart

    Shanghai Composite Weekly Chart

    As we can see from the charts above, both have been traveling sideways for a long time now, Small Cap (represented by Russell 2000 here) since early 2022, while China (Shanghai Composite) even since 2015.

    Both asset classes are currently trading below historical average valuations on the valuation side.

    Considering China's substantial 19% share of the world's GDP, it is challenging to exclude at least a fraction of its weight from any diversified portfolio, particularly given the current attractive valuations.

    Moreover, the potential scenario of an imminent interest rate cut, whose timing remains uncertain, is expected to be favorable for small caps. Historically, small caps have demonstrated strong performance in such environments (see below). Russell 2000 History

    Conclusion

    Consider initially evaluating the percentage weight limit in portfolios (which don't necessarily have to be core assets).

    If declines persist over time, you can gradually accumulate these assets. Always maintain the right time horizon, avoiding expectations of an immediate rally. Allow the market the necessary time to stage an eventual comeback.

    ***

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    Disclaimer: This article is written for informational purposes only; it does not constitute a solicitation, offer, advice, counsel or recommendation to invest as such it is not intended to incentivize the purchase of assets in any way. I would like to remind you that any type of asset, is evaluated from multiple points of view and is highly risky and therefore, any investment decision and the associated risk remains with the investor.

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