“Privates Are a Form of the New Small-Cap"

Should the definition of small-cap be revisited? Are true small-caps even found in the public markets anymore? On this episode of ETF Zoo, ETF.com's Dave Nadig, President and Director of Research, and Sumit Roy, Senior ETF Analyst, are joined by Eric Balchunas, Senior ETF Analyst at Bloomberg Intelligence and Elisabeth Kashner,  CFA, Director of Global Research Funds at FactSet to discuss small-cap performance and unicorn realities. To watch the full conversation that includes emerging market's shocking performance, the silver flash crash, and more, go here. 

Small-Caps Surge

Nadig: All right, Eric, I want to get to one of your charts here we've got as well, and this was again mostly just you sort of pointing out that like, despite the chaos of the news cycle, market's just sitting here grinding north. I also, we missed you a couple weeks ago when we were talking about the resurgence of value of small caps again, you know, the other thing that is always not working that everybody feels like you should be invested in. 

And I thought it was funny that Vanguard's Small Cap Value is at all-time highs. It's nearly, nearly right on the brink of beating SPY over 20 years, which is wild to me after this horrific period. So, do you think this is it? Is small-cap value finally getting its day?

Balchunas: Yeah, and the Avantis Small Cap Value has beaten the S&P. I don't know if it's, I haven't checked in like eight months. Avantis Small Cap Value is the number one small-cap value ETF now, bigger than VBR. That's amazing. And because it beat the S&P even, so there are small-caps in there that if you pick the right ones exactly, you're in business, but as an index, it's done okay, it just has lagged the large-caps. And so, it's not that, again, it's not that it's bad, large-caps have just been that much better. 

But I do think and we're—this is one of our themes this year—is private companies. I think privates are a form of the new small-cap because they wait a lot longer to go public. And so if you want to catch toddlers and teenagers before they become fully grown adults you can't go to small-caps much. There are a couple, but it's mostly a dumping ground of rejected adults, right? And so privates are where you get the young, truly young unicorn-type companies now and this is a fascinating dynamic that we're seeing play out. 

But no, it doesn't mean small cap is down, but I think the whole thing is like, on ETF IQ, I always see IWO in the flows like once a month for the weekly flows, and then it goes out and it just seems like it's, like it can never get going. And I think some people remember the 2000's where small cap was like the in charge of the market for the whole decade and they're waiting for that moment to come back and I think it just feels like it's waiting for Godot for about 10 years now.

Speaker 3: Oh, I was just going to speak up on behalf of rejected adults everywhere. But you know, I love this chart, Eric. Not so much because of the end points, honestly, but because of the oscillation, right? Like big period of outperformance in the back half of last decade and then some underperformance. And, you know, it just reminds me, I think, that trying to time the market, trying to chop things up into little pieces and pick winners and losers is a good way to make your portfolio more complicated than it needs to be, more expensive than it needs to be, and less efficient than it needs to be.

Nadig: I want to pull on the thread about efficiency and Eric's comment about-

Balchunas: Hold on, real quick, by the way, who made that chart?

Nadig: The one on the right I made. That's a Koyfin chart. The one on the left you made.

Balchunas: That 2010... oh, I have a 10-year chart that has SPY up 320% and VBR up 191%.

Nadig: This is exactly 20 years which is why I used it.

Balchunas: I see, 20 years, yes. But 10 years, SPY is almost doubling, yeah. Okay, just to be...

Kashner: But point made, right? Like depending on where you start and where you end.

Balchunas: Yeah, and I don't know if you get caught in this too, Elisabeth, where you work. I'm just like, I really don't know the future. Like, I have—I have come to an actual—like there's no wiggle room, I don't know what's going to happen, and I've got Bogleism in my bloodstream now, but sometimes it's at odds with what the machine needs. They want to know what's going up and down, what should I do? Even when markets go down... yeah, I get it, VOO and chill.

The Influence of the Private Market on Small-Caps

Nadig: Well, I wanted to talk about this efficiency issue because, you know, if we're talking about the adults in the room, how do we think about companies like this potential SpaceX, xAI, whatever this thing's going to be called when it finally actually IPOs, that's going to IPO like bigger than Walmart? Like how do we start? 

That's not a unicorn, that's not a small-cap, that's just a company that is going to have to age into the index, which it will do within weeks probably, right? I mean, everybody will bend over backward to break every rule they can to get SpaceX into their index. So like, that doesn't feel to me particularly healthy. Like that doesn't feel like the small-cap market, am I alone in that?

Kashner: I don't think you're alone. Go ahead, Sumit.

Roy: That's not the- no, that's not the small cap market, that's totally different. I did like what Eric said about private markets being the new small-caps, but that is a- maybe SpaceX five years ago, but SpaceX today, definitely not. That's something else and I'm going to be really curious to see what the actual valuation on that ends up being.

Nadig: Crazy. Okay, let's-

Balchunas: But didn't Meta come in as a large-cap as well? There's been a couple of places where, but most of the—well, not all of them, I shouldn't say that—but the big blockbuster ones seem to be coming out larger and larger. But I'm with you, this is going to be... by the way, this SpaceX, the reason we're really onto the private company thing is that A, ETFs are starting to like dabble with them. 

But SpaceX to me seems like it might just make like going IPO and like forgetting SPACs, it might just make IPOs cool again. There could be a couple right behind it, they're like, "Hey, look what they did, I should do the same thing." So we—my colleague who's in a different area of BI has this unicorn IPO comeback theme that he's looking at. And if you look, there's eight companies over $100 billion currently in the private market that are maybe, you know, on deck for IPOing.

Nadig: I see- I- maybe I'm just an old man, but I really liked the days when small companies went public to raise capital to fund their business growth. I know that sounds archaic, but that's what you used to do. IPO wasn't the cash out, it was how you actually developed capital. But I guess that nobody does that anymore.

Roy: I mean, so many investors would love that, right? I mean, to get in on the ground floor of Anthropic or OpenAI or whatever. It's just I guess the incentives aren't there and the private markets are so big they just have no need to go public. That's the problem.

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