Small Cap Index is Best Index for the PP?
Posted: Mon May 09, 2016 4:15 pm
I'm going argue here the Small Cap Index is better than the Total Market Index or S % P index funds for the PP.
1. Backtesting using the Small Cap Index results in a PP CAGR of 10.3% which beats the 9.4% earned by tradition PP using a large cap or total stock market index. That's not particularly surprising since most studies have shown small caps outperform large caps over long periods of time. What is surprising is that since 1972, the small cap PP had 7 years of negative real returns versus 10 years of negative returns for the Big stock PP. So basically you got higher rewards with less volatility using small caps.
2. You can use backtesting to show anything but in this case, the lower volatility using the small cap index makes sense. If we accept Harry Browne's premise the PP was developed to reflect economic conditions in the US (prosperity, inflation deflation, tight money, etc) the small company index better reflects economic conditions here in the US. Large S & P type companies almost always have a large international exposure while US small companies are much more domestically oriented. Therefore. small caps stock performance would seem to more quickly aligns with economic conditions in the US that large caps. The performance of large caps is due in large part to their business performance in foreign markets which may not coincide with conditions in the US.
1. Backtesting using the Small Cap Index results in a PP CAGR of 10.3% which beats the 9.4% earned by tradition PP using a large cap or total stock market index. That's not particularly surprising since most studies have shown small caps outperform large caps over long periods of time. What is surprising is that since 1972, the small cap PP had 7 years of negative real returns versus 10 years of negative returns for the Big stock PP. So basically you got higher rewards with less volatility using small caps.
2. You can use backtesting to show anything but in this case, the lower volatility using the small cap index makes sense. If we accept Harry Browne's premise the PP was developed to reflect economic conditions in the US (prosperity, inflation deflation, tight money, etc) the small company index better reflects economic conditions here in the US. Large S & P type companies almost always have a large international exposure while US small companies are much more domestically oriented. Therefore. small caps stock performance would seem to more quickly aligns with economic conditions in the US that large caps. The performance of large caps is due in large part to their business performance in foreign markets which may not coincide with conditions in the US.