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Size Factor

Is Small Cap Exposure Worth It?

Nicolas Rabener
10 min read
21 May 2017

SUMMARY

  • Size as a factor shows little consistency in generating positive returns over time
  • Investors do not seem to get compensated for the higher risks of holding small caps
  • If small cap exposure is still desired, best to implement via a small cap ETF

ORIGINS OF THE SIZE FACTOR

The Size factor is likely the simplest factor as it means buying companies with a small market capitalization and selling companies with a large market capitalization. The first influential paper on this factor was published by Banz in 1981, which highlighted abnormal returns from the Size effect over the period 1936 to 1975.

Using Fama-French data we can visualize the abnormal returns, which are calculated by using the difference between the bottom 10% (smallest companies) and top 10% (largest companies) for that period. It’s worth noting that the Fama-French returns are without transaction costs and include some very small companies that are too illiquid to actually trade.

Size Factor (1936 – 1975)

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