For investors looking to add some diversification to large-cap-heavy portfolios while avoiding the risks often associated with smaller stocks, midcap equities and related ETFs are excellent ways of splitting the difference.
The good news is that midcap stocks are performing admirably this year. Arguably in quiet fashion, the S&P MidCap 400 Index is higher by almost 9% year to date. That indicates ETFs such as the WisdomTree U.S. MidCap Dividend Fund (DON) may be worth examining. For its part, the $3.63 billion fund is proving to be a better bet than small-caps. That’s because it’s beating the Russell 2000 Index by a margin of almost 2-to-1, with significantly less volatility.
As is often par for the course, midcap stocks and ETFs such as DON aren’t getting much attention. Some of that is attributable to the group’s status as a perpetually overlooked asset class. And some of that scenario is derived from sell-side analysts typically ignoring midcaps. Those factors aren’t indictments of midcap. If anything, they’re calls to action for investors.
DON Has Plenty of Perks
For advisors and investors considering midcap exposure, DON makes a lot of sense on multiple fronts First, as noted above, midcaps aren’t often hotbeds of analyst attention. That means this can be a difficult space in which to stock-pick. DON eliminates the stock-picking burden, doing so with a 333 stocks. None of those command more than 1.59% of the fund’s roster. DON has other perks, too.
“Relative to large caps, mid caps tend to be under-followed by Wall Street analysts, leaving greater variance in valuation estimates and room for active investment managers to find strong businesses at attractive prices [source: FactSet]. Relative to small caps, mid caps tend to be more diversified businesses, with pricing power at both the input (raw materials, labor, etc.) and product output levels, greater access to capital markets, and an ability to adapt to changing environments,” noted Madison Investments.
DON is pertinent to advisors for other reasons. While it’s true that combining both large- and small-cap funds might create “synthetic” midcap exposure, there are more compelling reasons to embrace the midcap purity offered by products such as DON.
“When examining historical performance, the case for mid caps becomes even more compelling. Relative to other asset classes, mid caps have produced a higher average annual return and lower volatility. Sharpe ratio, which measures the return of an investment with its risk, favors mid caps as well,” added Madison Investments.
Adding to the case for DON are the points that midcaps are undervalued relative to large-caps despite the former offering better growth prospects than the latter and the long-term track record of midcaps outperforming larger peers.
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