EquitiesMay 31 2013

Investing in large-caps: The big league

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      You would be hard-pressed to find someone in equities who does not have a strong opinion on large-cap investment. Although some will argue that investing your money in tried and tested names like BP, Diageo and Vodafone is shrewd, others have dismissed this asset class as overpriced, over-researched and vastly inferior to the growth prospects of small-caps.

      Like most forms of gambling, betting on the underdog can yield far greater returns than backing the favourite. The same can be said for the stockmarket, where popular consensus supports the theory that higher risk is synonymous with better returns.

      Research by the London Business School reinforces this notion of a risk-reward trade-off, claiming that small-caps have outperformed their large counterparts by an average of 3.8 per cent a year since the inception of the Numis Small-Cap index in 1955. This impressive outperformance, most say, is linked to greater growth prospects among smaller up-and-coming companies and the theory that this end of the market spectrum is under-researched and thus full of potential bargains.

      But not everyone is in a position to risk their hard-earned money on potential growth stories and consequently many pension funds and risk-averse investors still tend to favour the big players in the stock market. While perhaps not as exciting and exotic as riskier asset classes, the large-cap sector still has plenty of advocates and may not be as boring and sluggish as some like to suggest.

      Fuelling the tank

      One of the biggest crowd-drawers to the large-cap space is the lure of equity income. Unlike the smaller players, who tend to reinvest any profits made to further growth, the big guns often pay dividends to their shareholders, which provide investors with an income to supplement steadier capital appreciation.

      Jason Hollands, managing director of Bestinvest, says equity income over the past few years has produced superior returns for less risk and that, over the long-term, dividends have made up a significant proportion of the overall return on equities.

      “Markets have been volatile over the past 12 years with the stock market struggling to make new highs,” he says. “£100 invested in the FTSE 100 index would have sunk to £89.97 since 1 January 2000, while with dividends reinvested the value would have risen to £138.29.”

      When looking at the attractive yield profiles of large-cap companies, Mr Hollands adds that traditional high-yielding sectors such as tobacco and utilities, which – according to Chart 1 – make up just over 20 per cent of the index, have brought FTSE 100 yields up to about 3.2 per cent, roughly one percentage point higher than the Mid 250 index. Furthermore, he believes the outlook is promising for large company dividends.

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