Does a Declining Number of Stocks Affect the Size Premium?
By Marlena Lee, PhD, Co-Head of Research
Over the past two decades, the number of US-listed, publicly traded companies has decreased by half.1 There are many theories about what might be driving the change, such as increasing mergers and acquisitions activity, competition from global exchanges for listings, or changes in public policy and the regulatory environment for listed companies.
Historically, small cap stocks have had higher average returns than large cap stocks. This return difference between small cap stocks and large cap stocks is known as the size premium. Investors may wonder whether fewer listed companies might impact the size premium.2 Our latest research shows that, historically, neither the existence nor magnitude of the size premium have been related to the number of listed stocks.3 Moreover, we believe investors should continue to expect a positive size premium over the long term.
Our Key Findings Include:
The number of stocks listed on US exchanges has declined from over 7,000 at its peak in 1997 to about 3,400 today. However, this has been more than offset by the growth in the number of publicly listed stocks outside the US, which is now over 39,000.4
Across developed markets, our research indicates that there is no relation between size premiums and the number of stocks. A smaller market should not cause investors to expect the size premium to shrink or disappear. For example, out of the 22 developed markets analyzed, Ireland, the smallest market by average number of stocks over the period examined, had the largest average monthly size premium.5
From 1975 through 2017, the size premium in the US was 3.48% (annualized). In an experiment that assumes only the largest 3,400 stocks existed over that same period, the size premium was virtually identical: 3.44%.6
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1Includes US companies traded on the NYSE, NYSE American (formerly AMEX), and Nasdaq. Excludes non-US companies, REITs, UITs, and investment companies. Source: Dimensional, using CRSP and Compustat data. As of December 2017, there were 3,447 publicly listed securities in the US.
2The size premium is also known as the small cap premium.
3Simpson, Kaitlin and Wei Dai. 2018. "Does a Declining Number of Stocks Affect the Size Premium?" Dimensional Fund Advisors.
4Source: Dimensional, using data from Bloomberg L.P.
5Average number of stocks is the average from 1990 – 2017, the period in which data is available for Ireland. Twenty-two developed market countries were analyzed as part of our research. The size premium is the difference between returns of small and large cap stocks as calculated by Dimensional. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Returns used to calculate the premium are hypothetical. See Important Disclosures for additional details.
6The returns used to calculate the size premiums are hypothetical, are not actual investment results, and are for illustrative purposes only. Past performance is no guarantee of future results, and actual results may vary. The size premium is the difference between returns of small and large cap stocks as calculated by Dimensional. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. See Important Disclosures for additional important details.
Ireland Size Premium: Within Ireland stocks, the smallest 0.1% of market capitalization is excluded, and the universe is restricted to exchange-traded stocks that meet minimum liquidity and listing requirements. Large cap stocks are defined as the top 87.5% of cumulative market cap ranked on firm size. Small cap stocks are defined as the bottom 12.5% of cumulative market cap ranked on firm size. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Source: Dimensional using Bloomberg data.
US Size Premiums: Size premium, also known as the small cap premium, is calculated as the difference between the returns of small capitalization and large capitalization securities. The universe of securities is determined by Dimensional. The market universe includes publicly listed securities in the US, including stocks listed on NYSE, NYSE MKT (formerly AMEX), and Nasdaq, excluding non-US companies, REITs, UITs, and investment companies. Source: Dimensional using CRSP and Compustat data. Large cap stocks are defined as those that comprise the top 90% of the market capitalization of the universe. Small cap stocks include the bottom 10% of market capitalization of the universe. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Stocks are weighted by their size within the small and large cap universes, unless otherwise stated. Profitability is measured as operating income before depreciation and amortization minus interest expense scaled by book. Rebalanced in a staggered fashion, with one-twelfth of the universe rebalanced at the end of the month. Additionally, applying the methodology above, the size premium for 3,400 stocks in the hypothetical example is calculated as the premium based on the 3,400 largest stocks from the market universe over time.
Filters were applied to data retroactively. Results are backtested with the benefit of hindsight. Past performance is no guarantee of future results. The returns used to calculate the premiums are hypothetical, are not actual investment results, and are for illustrative purposes only. The results are not representative of indices, actual investments, or actual strategies managed by Dimensional. Assumes reinvestment of dividends and capital gains. Results do not reflect any costs or fees associated with actual investing, such as advisory fees and transaction costs, which would reduce returns. Actual investment returns may be lower or may differ significantly. Data is subject to numerous limitations. Start date of data is based on availability of data. Results for different time periods could differ, perhaps significantly, from the results shown. Size, or small cap premiums, can be calculated using different methodology. Results using different calculation methodology could differ, perhaps significantly, from the results shown.
All expressions of opinion are subject to change. This is distributed for informational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, products, or services. Actual future results may vary significantly from expectations.
Risks: Investments involve risks. Small and micro cap securities are subject to greater volatility than those in other asset categories. International investing involves special risks, such as currency fluctuation and political instability. There is no guarantee strategies will be successful.
Dimensional Fund Advisors LP is an investment advisor registered with the Securities and Exchange Commission.