Several managers believe next year will be better than this year.
Small-cap stocks have led the way out of the recession that ended in 2002. But as the summer started, many small-stock fund managers are opting to keep their powder dry.
The managers are optimistic. But they are also realistic. They say that the 43% gain in the average small-stock fund in 2003 is a tough act to follow. For now, their best bet is to buy attractive stocks on price declines. Next year, they expect to profit as the economy hits its stride.
Vincent Gallagher, manager of one small-cap growth fund, the Needham Growth Fund, says current technical and fundamental trends favor larger companies. He is positive on economic growth and is convinced the recent upswing in job creation is a signal the economy could grow to 3% to 4%.
"Since the beginning of the year there has been renewed interest in large-cap stocks," says Gallagher, who also manages Needham's large-cap growth fund. "It is not a rotation out of small caps. But large caps have not had a play for a year and are overdue."
David Bagby, manager of the UMB Scout Small Cap Fund, agrees. He only invests in cash-rich small companies when the technical trends indicate higher stock prices. Now, he isn't buying or selling. "From a valuation perspective large caps are more undervalued," he says. "The cheapest part of the Russell 2000 is the small-cap growth stocks. But the small-stock market is flat."
Bagby expects the stock market to pick up steam as we near the election. Historically, the stock market has performed well in the last half of the fourth year of the decade in which there is a presidential election. He says small-cap growth stocks will gain ground with large-cap growth stocks.
Gallagher believes that large companies will better withstand higher inflation than small companies. In a growing economy, he says, large companies find their better inventory and pricing systems allow them to pass on price increases faster.
Meanwhile, Jean-Pierre Conreur, manager of the Tocqueville Small-Cap Value Fund, isn't buying many stocks this year either. He took some hefty profits after a 66% gain in 2003. Earlier this year, he put the money to work in several distressed manufacturing, consumer and wireless companies. These companies should perform well as the economy improves next year.
"I've not been overly active buying stocks in the last six months," he says. "I am down to 34 stocks from 41 stocks a year ago. I have put some money into companies and reconcentrated the portfolio into existing names."