Mid cap stocks tend to be less well known than their larger peers, yet we believe there are several important reasons for investors to consider a mid cap fund for their portfolios.
The first reason is returns. UK mid caps have typically grown earnings faster than large caps. The mid cap FTSE 250 Ex-Investment Trusts index generated average annual earnings growth of 8.1% between 1994 and 2018 compared with a 2.9% annual return for the large cap FTSE 100.1
Another reason is dynamism. The UK mid cap index can offer new opportunities at a faster rate than the large cap index. Mid caps tend to relatively under-researched, and this provides ample opportunity for stock pickers to discover undervalued companies with appealing growth characteristics.
Then there’s breadth. The mid cap index offers good exposure to both the UK and global economies via a diverse set of medium-sized companies, from UK-focused retailers to technology innovators and manufacturing exporters.
So far in 2019 there has been a reversal of the challenging Q4 market conditions. The Fed has halted monetary tightening and there’s been a recovery in US stocks that has benefited UK shares including mid caps. Although the Brexit end game remains unforecastable at the time of writing, we see more likelihood of an outcome that the market would view as favourable, which should be positive for UK stocks.
That leads to another reason – value. UK assets have been unloved and investors, especially international investors, are underweight the UK market. The FTSE 250 is trading below its historic premium to the more defensive and international FTSE 100.2 This reflects Brexit-related political uncertainty.
Excluding the Brexit impact, however, the underlying UK economy is in decent shape. The risk of recession is low, employment and wage growth are strong and inflation is below target. We believe that in the case of a soft Brexit or no Brexit, UK stocks could rerate and mid caps could rerate meaningfully versus large caps.
Value, returns, dynamism and breadth. These are four reasons why we believe mid cap stocks deserve to be better known by investors.
1 Peel Hunt, Thomson Reuters Datastream, as at 4/1/2019
2 Bloomberg, as at 4/1/2019