Resurrecting the Size Premium

There have been a number of articles over the past few years claiming to refute the existence of a small-cap (or size) premium, which is the historical difference in returns between small-cap stocks and large-cap stocks. While the critiques have been somewhat varied, two common claims are that the risk-adjusted returns of small-cap stocks have been similar to large-cap stocks and that the performance of small-cap stocks has been weak in international stock markets.

The Size Premium in Growth and Value Stocks

While it’s true in aggregate that small-cap stocks have had similar risk-adjusted returns (or Sharpe Ratios) compared with large-cap stocks, a more nuanced picture emerges when we separately look at the performance of small-cap versus large-cap in growth stocks and then in value stocks. The figure below displays the difference in Sharpe Ratios comparing small-cap growth stocks with large-cap growth stocks and then comparing small-cap value stocks with large-cap value stocks.

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