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Portfolio > Portfolio Construction

Small-Cap Value Still Chugging Along

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While small-cap stocks have generally underperformed large-caps in recent years, small-cap value has kept pace with its larger-cap value peers. The average small-cap value portfolio gained 13.8% (annualized) for the three years ended June 2007, slightly edging the 13.6% performance of large-cap value. For the five-year period, small-cap value actually beat large-cap value, 14.1% to 11.6%.


Value-oriented securities tend to feature modest price-to-earnings, price-to-book ratios, or high dividend yields (or any combination thereof). Small-cap value companies have the added advantage of often serving as attractive takeover candidates.

The financial services industry forms a significant portfolio of small-cap value vehicles, with the sector representing about one-third of the iShares Russell 2000 Value Index Fund (IWN), a proxy for the most widely used small-cap value benchmark. Consequently, larger trends impacting the financials sector, including interest rates and subprime mortgage woes, may have a disproportionate impact on small-cap value funds.

One of the better performers in this sector, the $88-million Paradigm Value Fund (PVFAX) invests in U.S. companies with market caps of $1.5 billion

or less. Portfolio manager John Walthausen searches for undervalued names that may include unknown companies, turnaround situations, asset plays, companies with accelerating growth, or takeover candidates. With 65 holdings as of March 31, 2007, the fund is highly diversified by sector.

Another strong performer is the $259-million Bridgeway Small-Cap Value Fund (BRSVX) managed by John Montgomery. The portfolio has 95 individual holdings, with the ten largest positions accounting for 27.3% of total assets.

The Bridgeway fund does not shy away from very small companies. With a median market cap of just $1.22-billion, about 31.9% of the fund’s assets are invested in micro-cap stocks, with another 7.1% in companies designated as “ultra-small.”



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