Advisors Eye Mid Cap ETFs as Stock Rally Lengthens

The bull run for larger stocks is forcing downstream diversification.

Jeff_Benjamin
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Wealth Management Editor
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Reviewed by: etf.com Staff
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Edited by: Ron Day

Midcap stock ETFs may be back in vogue, at least for some financial advisors.

Counter to the performance-chasing mentality that often drives individual investors, advisors say they are starting to look beyond the outperformance of the largest companies to better diversify client portfolios across the market-cap spectrum.

Part of this trend was illustrated during the first quarter when more than $1 billion flowed into the Invesco S&P Midcap Quality ETF (XMHQ) and the Invesco S&P Midcap 400 GARP ETF (GRPM).

But that trend, however strong, still remains deep in the shadows of the booming bull market for the largest companies leading the broad market indexes, including the S&P 500, which has been carried along by the so-called Magnificent Seven stocks.

Those seven companies—Alphabet Inc., Amazon.com Inc., Apple Inc., Meta Platforms Inc., Microsoft Corp., Nvidia Corp. and Tesla Inc.—represent 28% of the market-cap weighted S&P 500, and at the same time have contributed nearly 65% of the index’s performance over the past year.

“The extended large cap rally is pushing investors to seek ETFs that can offer diversification beyond the mega-cap growth names,” said Nick Kalivas, Head of Factor and Core Equity ETF Strategy at Atlanta-based Invesco Ltd. “This is a key attribute of mid-cap, where factor screening combines less expensive valuation down the market-cap spectrum and a forecasted improvement for potential investment opportunities.”

Performance wise, no advisor would be accused of chasing performance by moving down the market capitalization spectrum at this time.

Since the start of the year the iShares Core S&P Mid-Cap ETF (IJH), which tracks the S&P 400 Index, is up 8.2% and is up 21.4% over the past 12 months.

By comparison, the SPDR S&P 500 ETF Trust (SPY), is up 9.6% this year and gained 28.2% over the trailing 12 months.

Moving further down the market cap spectrum, the SPDR Portfolio S&P Small Cap ETF (SPSM), which tracks the S&P SmallCap Index, gained just 0.16% this year and 13.4% over the past 12 months.

Advisors see Promise in Midcaps

“At a high level, midcaps have historically been the secret sauce for asset managers in both large-cap and small-caps,” said Nicholas Codola, senior portfolio manager at Orion Advisor Solutions in Omaha, Nebraska.

According to Invesco’s Kalivas, earnings forecasts over the next two years also favor smaller-sized companies.

The consensus estimates for large-cap year-over-year earnings for 2024 is 12.5%. But that jumps to 20.5% for mid-cap stocks, and 29.8% for small caps.

Looking out to 2025, Kalivas said the earnings estimates are at 13.9% for large caps, 17.2% for mid-caps and 18.6% for small caps.

“There is certainly a case that small- and midcaps are cheap relative to large-caps,” said Rick Wedell, chief investment officer at RFG Advisor in Birmingham, Alabama

“This certainly looks favorable versus historical trends, because ever since the bust of the dot-com bubble in 2002, small- and mid-caps traded at a premium to large caps,” he added. “But some fundamental arguments are that small- and mid-caps deserve a lower relative multiple than large caps versus the past given the historical weakness of small- and mid-cap earnings.”

Stephen Kolano, chief investment officer at Integrated Partners in Waltham, Mass., said one driver toward a broader market capitalization focus is the Federal Reserve’s slow shift toward lowering interest rates.

“Given how concentrated market leadership has become, with the top 10 names in the S&P 500 constituting roughly 33.5% of the index, the opportunity exists going forward for the rest of the U.S. equity market to participate in increased economic activity spurred by an easing in their respective costs of capital via lower interest rates,” he said.

Greg Corneille, founder of Choice Wealth Management in Lawrenceville, Georgia, is also pegging the potential of mid-caps to Fed policy.

“Historically, mid-caps have been outperformers following the last Fed rate hike in a cycle,” he said. “While that hasn't happened yet, adding mid-caps at this point could be a good way to balance a portfolio, particularly if one is concerned about a slowdown in the business cycle.”

Paul Schatz, president of Heritage Capital in Woodbridge, Conn., said the relative strength between stocks of different market capitalizations is an ongoing story, but one that is currently unique “because of the lengths and depths of underperformance of the mids and smalls.”

“It’s really been a widow-maker trade for all those who positioned for large caps to underperform,” he said. “Perhaps this time, the market is frontrunning a Fed rate cut which would energize this trade.”

Jeff Benjamin is the wealth management editor at etf.com, responsible for coverage related to the financial planning industry. This includes writing, hosting podcasts, webinars, video interviews and presenting at in-person events.


Jeff is a veteran journalist with more than 30 years’ experience covering the financial markets. He has won more than two dozen national and regional awards for his reporting. He most recently worked as a senior columnist at InvestmentNews where he wrote about investment products and strategies, as well as the broader financial planning industry. Prior to that, Jeff worked as an analyst at Cerulli Associates where he researched and wrote reports on the alternative investments industry. Jeff also worked as a money management reporter at Dow Jones Newswires, where he covered the mutual fund industry.


Based in North Carolina, Jeff is a former Marine and has a bachelor’s degree in journalism from Central Michigan University.