With the credit crisis now more than a year old, small companies across the country are starting to show the same signs of pinched purse strings as larger rivals.

But investors are starting to feel much of that same pain. It's bad enough that the SPDRs Trust (AMEX: SPY) has dropped more than 22% since late-September. But consider that the iShares S&P SmallCap 600 Index (NYSEArca: IJR) is down 30%-plus in that same period.

"The impact of the credit crisis is starting to trickle down from larger companies to smaller ones," said Kyle Waller, a research analyst at Wiser Wealth Management in Marietta, Ga. "As the economy slows, small-caps are having more problems raising short-term capital."

That comes as a stark contrast to earlier in the year. In four out of the past seven months leading up to October, the Dow Jones Wilshire Small-Cap Index produced greater returns than its sibling large-cap index. And it wasn't even close—the small-cap benchmark outperformed by at least 2 percentage points each time.

By contrast, during the three months in that period when large-caps did better, they did so by less than 0.50 percentage points.

"We've seen some big months for small-cap stocks this year," said Bob Waid, a Wilshire Associates vice president. "But the other months have basically been a draw with large-caps."

This year's biggest performance spikes in small-caps came when markets appeared ready to rebound the most, he adds.

But by late September, when an economic slowdown was apparent and Congress wrestled with a rescue package for U.S. banks, "Small-cap traders apparently threw in the towel," said Waid.

"The market is clearly de-leveraging. Once that winds down, we'll be at a bottom and equities will do what they normally do—go up," he said. "But when that happens is anybody's guess."

An Extended Run

When markets open on Friday, IJR will begin trading down 33% on the year. That's still better than SPY's more-than 36% loss so far.

But some portfolio managers are expecting that gap to close. They view valuations as being more favorable to large-cap stocks at this point in market cycles, and after an eight-year run by small-caps.

From 1999-2006, the Dow Jones Wilshire Small-Cap Index outperformed its large-cap cousin. That streak ended in 2007 as the Dow Jones Wilshire Large-Cap Index gained 6.40% and the small-cap benchmark 1.90%.

But analyst Waller points out that even with last year's outperformance by large-caps, U.S. blue chips were "beaten up pretty badly" during small-caps' multiyear run.

With the Dow Jones Wilshire indexes as proxies, consider that the trailing price earnings ratio for large-cap stocks through Wednesday was at 11.8. Meanwhile, small-caps were trading at a multiple of 15.9 times earnings over the past 12 months.

Perhaps more striking is that at the end of September, large-caps had a P/E of 15.5 while small-caps were trading at a 24.2 multiple. (See chart below.)

But another key valuation metric, price-book, was greater with large-caps in both pre-October and late-October periods. "Price-book values have traditionally been higher with large-caps than with small-caps," said Waid. "It would mean something if this difference [reversed]."

Previous Page

1  |  2

Next Page