Under the Radar: Structural Alpha in the Small-Cap Equity Market
19 Pages Posted: 2 Sep 2015
Date Written: July 10, 2015
As the hedge fund industry has grown over the last decade, alpha has become more elusive. This paper examines several properties of the U.S. small-cap equity market and identifies a number of structural inefficiencies that may be exploited to generate alpha.
We show that small-cap equities are covered by fewer analysts and their analyses are published less frequently, with "noisier" earnings forecasts than those published for large-cap equities. We also demonstrate that large hedge fund investors tend to gravitate to large-cap stocks. Further, despite limited attention from both the sell-side and the buy-side, we underscore that most M&A deals occur among small caps. Lastly, the majority of returns from small caps are driven by stock-specific factors rather than by industry or style-related variables. In conclusion, we believe small cap stocks offer a more fertile ground than large caps for alpha-focused investors.
Keywords: small-cap, inefficiency, alpha, hedge funds, stocks
JEL Classification: G12, G14
Suggested Citation: Suggested Citation