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Small Cap Stocks Performance

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Historically, small-cap stocks have been shown to outperform the rest of the market over the long term.  And, small-caps tend to underperform during bear markets but outperform in bull markets.

Some of the best stocks to buy in the past 25 years started as small-cap stocks. Amazon was a $7 stock in 1998, and Tesla had a market valuation of just over $1 billion in 2010. Of course, not every small-cap company becomes a giant. Investing in small companies can be rewarding, but it also comes with risks that investors need to understand.

Over the long-term, small caps tend to outperform because of greater growth opportunities. A massive company is limited by its existing size. It’d be exceptionally difficult for, say, Apple Inc. to triple its revenues and free cash flow anytime soon.

However, a $1 billion company can much more easily grow to be multiples of its current size. Many small caps stay small because they have structural problems, management lacks the capability to grow the business, or their niche simply isn’t large enough to support a bigger enterprise. That said, many small caps can graduate to greater things, earning shareholders tremendous returns along the way.

Small-cap stocks tend to experience more price volatility and to suffer more stock price destruction than their larger cap peers during bear markets and when equities are broadly struggling due to inflationary and recessionary fears.

Small cap stocks typically underperform entering recessions and periods of economic weakness but outperforms coming out of them. In the long run, small caps tend to be winning investments. Yale professor Roger Ibbotson and financial consultancy Duff & Phelps analyzed nearly a century of data to find that small caps have outperformed large companies by 1.6% on average every year through 2020.

Fearful investors who throw in the towel during market downturns risk missing out on the rewards when the market possibly reverses course in 2023.

“This is one of the best times to invest in small company stocks that we’ve seen in a very long period of time,” says Gregg Fisher, founder of global small cap hedge fund Quent Capital, which manages $1 billion in assets. “The odds historically of a huge rally off this massive decline are high.”

The small-cap benchmark Russell 2000 Index (RUT) generated a total return (price appreciation plus dividends) of -20.4% for the year-to-date through Dec. 16. That trailed the S&P 500’s (SPX) total return of -17.9%.

No surprises there. Risker and “growthier” equities such as small-cap stocks tend to underperform when markets are volatile and headed south (bearish).

By the same token, however, small-cap stocks also tend to outperform the broader market when equities are catching a bid. No one can know for certain if we’ve already seen the bottom of our current bear market. Once the equity malaise lifts, however, the best small-cap stocks to buy should theoretically be among the market’s top outperformers.

To find the best performing small cap that have continued to grow through the bear market, Search for companies with a market value between $300 million and $2 billion that also had positive sales growth over the past 12 months and a share price of at least $5. Financial institutions, REITs, utilities, royalty trusts and limited partnerships were excluded, as were companies that have been public for less than one year.

Over time, small-cap stock prices tend to be more volatile than those of larger companies, and stock values fluctuate more dramatically. But, in general, the longer the evaluation period, the greater the likelihood that small-cap stocks outperform the large-caps.

in recent months small-cap stocks have fallen sharply amid a broader pullback on fears of a Federal Reserve Board rate hike, especially in high-priced growth stocks. Since small-cap stocks are more likely to be in their growth phase and are often unprofitable or minimally profitable, they get hit harder during “risk-off” moments like the one that started 2022. In other words, small-caps tend to underperform during bear markets but outperform in bull markets.

References:

  1. https://www.fidelity.com/insights/investing-ideas/small-caps-2023
  2. https://www.forbes.com/lists/best-small-cap-companies
  3. https://money.usnews.com/investing/slideshows/9-of-the-best-small-cap-stocks-to-buy-for-2023
  4. https://www.fool.com/investing/stock-market/types-of-stocks/small-cap-stocks/
  5. https://www.fool.com/investing/stock-market/types-of-stocks/small-cap-stocks/how-to-find-small-cap-stocks/

10 Key Concepts About Money, Wealth and Financial Freedom

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Brian Feroldi — financial advisor, YouTuber and author — posted on Twitter the key lessons he learned from the10 people that permanently changed the way he thought about money, wealth and financial independence:

  1. Financial independence is achievable if you hyper-focus on your savings rate.
    “Your time to reach financial independence depends only on one factor:  your savings rate as a percentage of your take-home pay.” ~ Pete Adeney
  2. Income and wealth are not the same things.
    “People who look rich may not actually be wealthy. Income does not equal wealth.” ~ Dr. Thomas Stanley, The Millionaire Next Door
  3. Putting what goods and services really cost in proper perspective.
    “The true price of anything is the amount of life you sold to buy it.” ~ Vicki Robbins
  4. Saving more money is more powerful and beneficial than making more income.
    “One dollar save is two dollars earned.” ~ David Chilton
  5. Your mind and mindset can be your greatest asset or your greatest liability.
    “Thoughts are powerful. Your mind is the one thing that can stop you in your tracks, or propel you to financial success.” ~ Napoleon Hill
  6. Money’s true highest purpose and benefit…financial independence and freedom.
    “Money’s greatest intrinsic value — and this cannot be overstated — is the ability to give you control over your time.” ~ Morgan Housel
  7. All spending is not created equally. Spend with purpose and according to your values. 
    “Spend extravagantly on the things you love, and cut costs mercilessly on the thing you don’t.” – Ramit Sethi
  8. Every financial decision you make involves a tradeoff and has an opportunity cost.
    “You can afford anything, but not everything. Every financial choice you make is a trade off against something else.” ~ Paula Pant
  9. There’s an optimal time to have positive life experiences. Don’t over-save and under spend on positive life experiences.
    “With each year that passes, our ability to convert dollars into positive life experiences decline over time.” ~ Bill Perkins
  10. Think like an entrepreneur, not a consumer. Buy assets with your personal capital that produce income and appreciate in value; and avoid personal liabilities and consumer debt.
    “Instead of taking a class, offer a class. Instead of borrowing money, lend it. Instead of taking a job, hire for jobs. Instead of taking a mortgage, hold a mortgage. Break free from consumption, switch sides, and reorient to the world as producer.” ~ MJ Demarco

Source: Twitter

Federal Spending and U.S. National Debt

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In response to the COVID-19 pandemic, more than 50% of increased federal government spending between 2019 and 2021 was for assistance to individuals, which more than tripled to $1.1 trillion in 2020 and increased by another $300 billion in 2021, according to USAFacts.

In fiscal year 2021, the federal government spent 68% more than it collected, resulting in a $2.8 trillion deficit. The deficit decreased from fiscal year 2020 when the federal government spent 91% more than it collected.

Most federal government spending happens in two ways:

  • Direct spending on federal programs (such as for the military and social security) and
  • Indirect spending through transfers to state and local governments in the form of grants (such as for infrastructure) that those governments then spend. State and local governments raise money both through federal grants and revenue raised through state and local revenue sources.

Source:  USAFacts

It Takes Courage

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It takes courage to leave your comfort zone, it takes courage to go after your dreams, it takes courage to live a life worth remembering. It’s very easy to die, it takes courage to live.

It takes courage to grow and become all you are destined to be, it takes courage to embrace the possibilities of your potential, it takes courage to go after what you desire. It’s very easy to stop, it takes courage to keep climbing until you reach the top.

It takes courage to look at your failures and still choose to try again, it takes courage to meet with fierce opposition and still choose to fight, it takes courage to endure pain, and choose to be strong. It’s very easy to fall, it takes courage to stand.

If you have tried and met with defeat, If you have planned and watched your plans fail, If you have given your all and again you lost,
Remember that the great men and women who have lived before us were all products of courage.

Courage doesn’t mean you don’t get afraid, it means you don’t let your fear stop you.

You can’t swim for new horizons until you have the courage to lose sight of the shore. You can’t become all you are destined to be until you have the courage to leave where you used to be.

The great things of life that you so much desire is on the other side of fear, you need courage to go after and possess them.

Don’t be numbered among the fearful ones who neither achieve greatness nor experience defeat, who neither enjoy the thrills of success nor learn the lessons of failure.

Go out into the world, it’s time to start living. Face your fears, fight your battles, it’s time to conquer, that’s what you are made for, that’s why you are here.

Source: MordyQuotes (https://mordyquotes.com/quotes/)

Cryptocurrencies – Nonproductive Assets

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Do not Invest in nonproductive assets like cryptocurrencies, says Warren Buffett, Chairman and CEO, Berkshire-Hathaway.

“Anytime you buy an asset that can’t do anything, produce anything, you’re simply betting on whether somebody else will pay more for [the Greater Fool Theory], again, an asset that can’t do anything…

“I would bet on good-producing businesses to outperform something that doesn’t do anything over any period of time.” ~ Warren Buffett

— 2011 BERKSHIRE ANNUAL MEETING

“Cryptocurrencies basically have no value and they don’t produce anything. They don’t reproduce, they can’t mail you a check, they can’t do anything, and what you hope is that somebody else comes along and pays you more money for them later on, but then that person’s got the problem. In terms of value: zero…I don’t have any cryptocurrency and I never will.”

— 2020 CNBC Squawk Box interview.

“It draws in a lot of charlatans who are trying to create various sorts of exchanges or whatever it may be. It’s something where people who are of less than stellar character see an opportunity to clip people who are trying to get rich because their neighbor’s getting rich buying this stuff that neither one of them understands. It will come to a bad ending.”

— 2018 shareholder meeting (and four years before FTX and Sam Bankman-Fried alleged fraud)

Taxing Unrealized Capital Gains

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For U.S. companies that report over US$1 billion in profits to shareholders, the Inflation Reduction Act implements a 15% corporate alternative minimum tax (CAMT) based on book income.

A 15% corporate alternative minimum tax for a corporation whose financial statement income exceeds $1 billion was included in the Inflation Reduction Act in 2022.  Since the passage of the law, there has been uncertainty about whether corporations would owe taxes on paper profits, or unrealized capital gains, on stocks starting in 2022.

The new tax will require companies to compute two separate calculations for federal income tax purposes and pay the greater of the new minimum tax or their regular tax liability. To determine whether the new tax applies, companies must first ascertain whether their “average annual adjusted financial statement income” (AFSI) exceeds $1 billion for any three consecutive years preceding the tax year.

The historic tax treatment has long been that paper profits (or unrealized capital gains) created a deferred tax liability that is only paid when the stocks or assets are sold, and the profits realized.

Recent guidance from the Internal Revenue Service, while not definitive, suggests that paper profits on stocks could be subject to a 15% tax this year, according to New York tax expert Robert Willens. The issue involves the tax treatment of applicable financial statement income (AFSI), a measure of earnings.

“The IRS left open the question of whether ‘mark to market’ gains and losses should be disregarded when computing AFSI,” Willens wrote to Barron’s. “As of now, they are included in AFSI. The IRS solicited the comments of investors as to whether these gains and losses should be backed out of AFSI or whether they should remain in the tax base.”

The beauty of the previous tax rules is that a company could defer the taxes indefinitely on unrealized gains in long-held stocks, especially when the preferred holding period is “forever.”

Individuals can defer capital-gains taxes until the sale of assets and can often avoid taxes entirely if the assets are left in their estates, assuming the estates are below the current threshold for inheritance taxes.

There have been proposals floated in Congress from some lawmakers to tax unrealized gains held by individuals, but they haven’t gained traction.

References:

  1. https://www.barrons.com/articles/warren-buffett-berkshire-hathaway-tax-51673028329
  2. https://www.ey.com/en_gl/tax-alerts/us-inflation-reduction-act-includes-15-corporate-minimum-tax-on-income

Being Mindful

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Mindfulness means maintaining a moment-by-moment awareness of your thoughts, feelings, bodily sensations, and surrounding environment, through a gentle, nurturing lens.

Mindfulness is about being completely aware of what’s happening in the present—of all that’s going on inside and all that’s happening around you. It means not living your life on “autopilot.” Instead, you experience life as it unfolds moment to moment, good and bad, and without judgment or preconceived notions.

Here are a few key components of practicing mindfulness:

  • Pay close attention to your breathing, especially when you’re feeling intense emotions.
  • Notice—really notice—what you’re sensing in a given moment, the sights, sounds, and smells that ordinarily slip by without reaching your conscious awareness.
  • Recognize that your thoughts and emotions are fleeting and do not define you, an insight that can free you from negative thought patterns.
  • Tune into your body’s physical sensations, from the water hitting your skin in the shower to the way your body rests in your office chair.
  • Find “micro-moments” of mindfulness throughout the day to reset your focus and sense of purpose.

Studies suggest that mindfulness practices may help people manage stress, cope better with serious illness and reduce anxiety and depression. Many people who practice mindfulness report an increased ability to relax, a greater enthusiasm for life and improved self-esteem.

Becoming more mindful requires practice. Here are some tips to help you get started and develop these skills in everyday life:

  • Mindful breathing, a common component of many forms of meditation that involves bringing attention to the physical sensations of the breath as it flows in and out. Take some deep breaths. Breathe in through your nose to a count of 4, hold for 4 second,  then exhale through the mouth to a count of 4 and hold for 4 seconds. Repeat often.
  • Enjoy a stroll. As you walk, pay attention to your breath and the sights and sounds around you. If thoughts and worries enter your mind, note them but then return to the present.
  • Practice mindful eating. Be aware of taste, textures, and flavors in each bite. Listen to when your body is hungry and full.
  • Body scan, another common practice where you bring attention to different parts of your body in turn, from head to toe. This can help you connect with your body.
    The raisin exercise, where you slowly use all of your senses, one after another, to observe a raisin in great detail, from the way it feels in your hand to the way its taste bursts on your tongue. This exercise is intended to help you focus on the present moment, and can be tried with different foods.

A major benefit of mindfulness is that it encourages you to pay attention to your thoughts, your actions and your body. For example, studies have shown that mindfulness can help people achieve and maintain a healthy weight.

You can practice mindfulness throughout the day, even while answering e-mails, sitting in traffic or waiting in line. All you have to do is become more aware—of your breath, of your feet on the ground, of your fingers typing, of the people and voices around you.

References:

  1. https://newsinhealth.nih.gov/2021/06/mindfulness-your-health
  2. https://greatergood.berkeley.edu/topic/mindfulness/definition#how-cultivate-mindfulness

The Producer Price Index (PPI) Declined 0.5% in December

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Producer prices in December fell the most for any single-month since April 2020, as falling costs for food and energy more than offset rising prices across most other categories, the U.S. Bureau of Labor Statistics reported.

The headline number in today’s Producer Price Index report will be heralded by some as a sign that inflation has been defeated.  And while it certainly does look like peak inflation is behind us, we aren’t popping any champagne bottles just yet, states Brian Wesbury, First Trust Chief Economist. The Producer Price Index (PPI) measures the average change over time in selling prices received by domestic producers for their output.

What the above means in layman terms is that the producers’ input prices continue to rise, but price increases slowed for each of the three major final-demand components—services, goods, and construction. In other words, the rate of that rise in input prices have declined month-to-month. Slowing rate of increasing prices still equate to prices increasing and purchasing power declining.

While energy prices fell 7.9% in December and food prices declined 1.2%, “core” producer prices – which remove the typically volatile food and energy categories rose 0.1 % in December and remain up 5.5% in the past year, well exceeding the Fed’s 2% inflation target.

Looking deeper into core inflation, prices for both goods (ex-food and energy) and services (+0.2% and +0.1%, respectively) rose once again in December.  The service side of the economy will be the key area to watch in 2023.

What matters most for the economy, and the financial markets, is that inflation continues to run well above the Federal Reserve’s target, writes Brian Wesbury. Additionally, he desires that the Federal Reserve tightened enough to slow inflation, but not enough to throw the economy into recession.

Expect a 25 basis point rate hike at the Fed’s meetings in two weeks, along with guidance that the Fed is prepared to continue raising rates further in 2023.  The path ahead to tame inflation will test the Fed’s resolve.

References:

  1. https://www.ftportfolios.com/blogs/EconBlog/2023/1/18/the-producer-price-index-ppi-declined-0.5percent-in-december
  2. https://www.bls.gov/news.release/ppi.nr0.htm