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Where Are The Next Small Cap Opportunities? (Episode 28)

Where Are The Next Small Cap Opportunities? (Episode 28)

Details Transcript Guests

Tyler shares his analysis of the small-cap asset class, within the lens of the broader market. He also offers some stocks he’s eyeing.

Stocks Mentioned in This Episode

Company	MarketRank™	Current Price	Dividend Yield	P/E Ratio
GTLB GitLab	2.7712 of 5 stars	$48.27 +10.6%	N/A	-1,206.75
SPT Sprout Social	3.2617 of 5 stars	$10.82 -3.5%	N/A	-11.39
LAW CS Disco	2.1782 of 5 stars	$6.02 -5.9%	N/A	-6.40
INSP Inspire Medical Systems	4.8629 of 5 stars	$77.36 -1.9%	N/A	44.72
SWAV Shockwave Medical	N/A	$334.75	N/A	78.21
RVLV Revolve Group	3.8301 of 5 stars	$20.77 -1.9%	N/A	33.50
BIRD Allbirds	2.8384 of 5 stars	$6.26 -0.9%	N/A	-0.59
GO Grocery Outlet	2.889 of 5 stars	$15.01 -2.7%	N/A	214.46

Compare These Stocks Add These Stocks to My Watchlist

Kate Stalter
Host

00:04

Welcome to The MarketBeat Podcast. I'm your host, Kate Stalter. And in this show, we cut through the noise and give you real market insights from professional investors, traders, asset managers, and analysts, our guests put the market developments in context and give you actionable information to make you a more successful trader or investor let's get started.

Kate Stalter
Host

00:33

You know, it may not feel like it while everything has been trading lower recently, but smaller stocks are outperforming large caps. So far in 2022, the S and P small cap index is down 12.7, 6% a little better than the S and P 500, which is down 15.6%. And believe it or not small caps as a group also outperformed in 2021. Now over time, historically small caps do tend to outpace larger equities, but that doesn't mean that this phenomenon, which is called the small cap premium occurs in every year or quarter smaller companies tend to be more volatile and can in many cases be less liquid than larger ones. And for this extra risk investors demand to be paid more in the sense of expecting a higher return when they purchase small cap stocks. Now, that's where the idea of the small cap premium originates.

Kate Stalter
Host

01:37

In addition to volatility and liquidity questions, it can also be harder for investors to get information about these smaller firms as there's often less analyst coverage, but other factors may also contribute to small cap out performance. For example, many small caps are younger companies, so they have an innovative product or service that's in high demand and the management team, isn't just a bunch of jaded, corporate drones. You know what I'm talking about? So they still have good financial incentives to grow the company fast, which ultimately benefits shareholders, as you may have guessed today's interview focuses on the small cap space, and you will absolutely hear discussion of single stocks that our guest Tyler London is watching right now. Tyler, who is an analyst for the Cabot small cap, confidential and early opportunities. Newsletters gives us the investment case for these companies. Also the backdrop for small caps in general, and where he sees future potential. Despite the current downturn, this is one where you'll wanna take some notes to start building your new small cap watch list. Here's today's interview with Cabot wealth analyst, Tyler Laden. All right. So Tyler Small caps are often, but not always concentrated in the growth category, which as we all know has gotten, especially pummeled lately for a variety of reasons. But I think that most investors and traders probably don't really think about small caps as an asset class, although they certainly are. And that requires a very specific approach toward investing in trading. Doesn't it?

Tyler Laundon
Guest

03:22

Yeah, I think it does. And you know, what I tend to do is I'll follow the S and P 600 small cap index. That's my preferred one much better than the Russell, in my opinion, a much higher quality index. And of course you have the ETFs to follow that. Like the IJR is the big one, but what I tend to do is follow that index as well as the sub sectors. So we can take a look at how say small cap energy is doing relative to large cap or small cap materials or technology, or what have you. So I do tend to follow it at a high level, kind of as an asset class, as compared to large caps. What we've seen lately is the performance hasn't been that much different, small caps are now 18% off their highs. As of today, Thursday, we were down as much as 22, 20 3% off the highs. So, you know, officially in a bear market, whereas the S and P 500 has been down, you know, 19, 20%, a little bit less. So small caps as an asset class, while typically more volatile than large caps during this downturn, haven't been really that much worse, just a couple of percentage points, which has been interesting to follow from my perspective.

Kate Stalter
Host

04:30

Yeah, because they can be at times much more volatile than large caps, can't they?

Tyler Laundon
Guest

04:35

Yeah, absolutely. And of course they often are on a stock specific basis, but as we've all seen throughout, you know, the second quarter or the first quarter earning season, I mean, large caps have been, the whole market has been volatile. So we're sort of in a unique timeframe, I think, where we're seeing stocks like target and Walmart, you know, down double digits on earnings and, and things like that.

Kate Stalter
Host

04:58

Yeah. It's true. Everything is volatile. That's a really good point. So what areas of the market are holding up? You had mentioned that there are some certain sectors how they differentiate between large and small. Maybe energy is an example in here. And certainly in one of the portfolios that I run for Cabot, there is a small cap energy ETF, or there was, that was doing very well. So what is your assessment of that?

Tyler Laundon
Guest

05:27

Yeah, so I just am looking at the data through May 20th, the year to date data, and it tells us, you know, what, we're all kind of feeling, which is energy has been the leader in both large and small caps. So it's up 41% in small caps, up 34 and a half percent in large caps. And then, you know, materials have been relatively resilient down only 5%. That's sort of a win year to date utilities have been resilient. Consumer staples have been resilient down 7.4%. And then as we go down the line into the higher growth areas, so information technology is down 22% for small caps and down 25% for large caps. So that's kind of how I slice and dice it at a high level. And, you know, again, it kind of tells us what we're all feeling and it sort of mirrors the small cap asset class kind of mirroring what we see in large caps, but to varying degrees.

Kate Stalter
Host

06:21

Now, one of the things that surprises people and I've talked about this on the podcast very recently, is that so far this year, the earnings have been pretty solid. And that's actually, despite some warnings that have been out there, the actual earnings that we've been seeing, coming from corporations reporting, both large cap and small cap have actually been pretty good, haven't they?

Tyler Laundon
Guest

06:47

Yeah. It's one of the ongoing questions. You know, it's sort of notorious that analysts start lowering their estimates from the beginning of the year, throughout the year, their forward estimates. And of course we had the COVID, you know, year 20, 20 and 2021, we're totally messed up. But this year we are seeing forward estimates continue to tick higher in both small and large caps. And, you know, I mean it, some people are saying, well, what are analysts thinking? Are they overly optimistic? What's going on here, but forgetting about, you know, what they're thinking, they're looking at the earnings reports and they're saying on average, you know, the weighted average by sector, that earnings should be going up for both small and large caps. So in terms of numbers, they see small cap EPS up 13.7% this year and up 11.4% in 2023. And that compares to around 10% growth in earnings for large caps this year.

Tyler Laundon
Guest

07:45

And next year, of course, that's subject to change. This is, you know, as of this point in time. But part of that probably has to do with, it's still a COVID recovery there's some year over year funkiness. And if you look, you know, energy is having an outsized positive impact because of massive earnings growth in that sector. So, you know, it kind of goes back to what we were talking about earlier, where you look at this stuff, big picture, and then it really pays to get a little more granular and go into what's going on on a sector by sector basis. And then of course, stock by stock, which we'll get into later. Okay.

Kate Stalter
Host

08:21

Then let's do that. Because one of the things that you've noticed is of course, valuations are lower. No surprise, because that's tends to happen when you do go into a market correction like we're in, but what does that mean for small caps as an asset class, as a whole Tyler?

Tyler Laundon
Guest

08:40

Yeah. So the, again, the latest data, as you indicated, when earnings estimates are going up and stock prices are coming down forward, PE multiples forward valuations basically plummet. And that's what we're seeing right now. So small cap PEs right now forward, PEs are the S and P 600 is trading with the forward PE of 11.7. And that is quite inexpensive, both for small caps, but also relative to large caps, which trade with a forward PE of 16.7. And I know for listeners, it's, you know, you hear these numbers and it's kind of hard to visualize what that means. So just to try to put that in perspective, those are both well below the trailing average, over several years, small caps have now been trading at a discount to large caps for 92 weeks. They haven't traded at that much of a discount since 1999, 2002. And that nearly 30% valuation discount is on power with the largest valuation discount since 2001. So, you know, there's been all these analogies about the tech bubble and all that, but this is another way of looking at it, which is small caps are basically back to the early two thousands in terms of valuation discount to large caps. So pretty attractive period to be looking at the asset class, if you have a longer time horizon.

Kate Stalter
Host

10:03

And I think what a lot of people don't realize is that over time there is what's called the small cap premium, which simply means that over time they will tend to outperform large caps, but that doesn't necessarily mean in any given quarter or year does it

Tyler Laundon
Guest

10:23

Right? Yeah. Obviously quarter to quarter, week to week, you know, year to year, things can be kind of all over the map, but I have a chart in front of me, which I wish we could share with your listeners, but I'm looking at the chart since 2004 of forward PEs for both large and small caps. And clearly the small cap PE line is above that of large caps for most of the time. So we're looking, I'm looking at 2012 through 2018, you know, that's a six year period where small caps almost always traded at a premium to large caps. So that small cap premium that you're talking about, it does exist. And we will get back there at some point. And it's just a matter of when,

Kate Stalter
Host

11:05

Right? Which is again where risk and reward are related because you have to take the risk with all that uncertainty about whenever this outperformance is going to occur.

Tyler Laundon
Guest

11:16

Yeah, exactly. Everything feels pretty risky right now. And you know, we're not immune to the reality of the day, of course, but that's, you know, those are the markets. That's what we're here for to try to help people through this.

Kate Stalter
Host

11:26

That's right. Not sure what stocks to buy and which to sell. Well, no worries. Market beat. Has you covered get the latest buy and sell ratings from wall streets, top performing most accurate and most respected research analysts. That's just one part of what you will receive as a MarketBeat all access subscriber. You'll also get MarketBeat's new trending stock, which monitor social media chatter in real time to help you identify the next game stop or AMC before you hear about it on the news market, beat all access also features real time news market events and performance data for your stocks, with the MarketBeat portfolio monitoring tool. And you can take a completely risk free trial for just $1. If you head over to the link we will put in the show notes, you'll get best in class stock research tools, performance ratings for wall street analysts, realtime news, feed executive newsfeed, executive support team access, all of this add free for just $1 for the first month sign up today. The link is in the show notes. So Tyler let's kind of shift gears and get into some of these specific areas, maybe industries, sectors, specific companies you're looking at, but I know you also kind of frame this within the context of what the fed is doing, which is super important right now. So how do you see the Fed's actions perhaps affecting what we might see in small caps? And then let's talk about a few specific examples.

Tyler Laundon
Guest

13:07

Sure. Yes. You know, I know talking about economic data in the fed is it can tend to put a lot of people to sleep. And it does to me as well, but they say don't fight the fed either in a bull market or a bear market. And the fed has basically told us that we need to pay attention to the data when it comes to inflation and they are run the show. So we should listen to them. They are beginning their quantitative tightening process next Wednesday on June 1st, that's gonna be the second component of managing interest rates. And so they're gonna stop buying as many treasuries and mortgage back securities starting next month. We definitely need to pay attention to that. That's gonna happen in June, July, and August. And probably continue after that on June 10, we are gonna get the next inflation data.

Tyler Laundon
Guest

13:54

The consumer price index data is gonna come out on June 14 to 15. The fed meets again, we're expecting a 50 basis point hike, July 26 and 27 is their next meeting. And then on July 28, we get Q2 GDP. I know I just listed a lot of stuff and a lot of dates there, but basically what this means is through July, we're getting a lot of this really, really important data that the fed is telling us is critical to how they're gonna manage interest rate hikes and what the economy's doing and what inflation is looking like. So I think that through July, the market's gonna be trying to digest all of this after July. We're gonna have a little bit of a pause. There's no fed meeting in August. So kind of high level, that's the calendar that I'm watching and being prepared to try to analyze and understand as far as how it's gonna influence not only small caps, but you know, the broader market as well. So that again, it's kind of boring stuff, but when you're trying to figure out what's likely to happen in the market, this is the stuff that's really gonna matter over the next couple of months.

Kate Stalter
Host

14:58

Right. And I think it always helps to be prepared. So at least you don't wake up in the morning and look at your portfolio and say what the heck happened overnight here. You know, you might have some kind of explanation anyway.

Tyler Laundon
Guest

15:09

Exactly. I would say people should be ready next Wednesday for headlines about quantitative tightening and just be prepared for that. I'm not saying the market's gonna be up or down on that, but it's gonna be in the headlines and we should all be prepared.

Kate Stalter
Host

15:22

And what date is that?

Tyler Laundon
Guest

15:23

The fed begins the Q the quantitative process next Wednesday, June one.

Kate Stalter
Host

15:28

Okay, perfect. So in case this runs, after that people will know June one, that's what started to happen there. So Tyler, let's kind of shift gears a little bit. I know there's several industries and sectors that you are looking at right now. Jump in and give us some examples of something that you might believe is a good sector for a watch list candidate, some specific stocks, what are you looking at right now?

Tyler Laundon
Guest

15:52

Sure thing. So I'm always watching software and have been for a long time. And software was one of the huge beneficiaries during the pandemic. It's kind of a dirty word. Now it's a dirty sector, cuz these stocks have just been demolished, but they are long duration growth assets. So if there is any kind of positive data on the inflation numbers coming down, software will probably start to do quite well. It's just a matter of time before software stocks start doing well again. So we're being patient with some names there and also looking at some of the emerging platforms that could be the go-to solutions of the next five, 10 years. So a couple of examples here, a company called get lab, G I T L a B the ticker simple is G T L B. They basically have a platform, uh, for managing code and collaborating on club development.

Tyler Laundon
Guest

16:53

Market cap is 6 billion and it came public at $77 in October of last year. And it's a $40 stock right now. It's in a down trend. It's not gonna lie. It's not looking great. But again, when we're looking for names that could do well coming out of this, this is one of them also looking at sprout social ticker symbol. There is S P T and they have a software platform. The business is used to manage social media. So for listening, for reaching out to, to consumers, all of that kind of stuff, it's a small cap market cap of 2.5 billion and it has nice growth numbers. Of course we heard recently snap, you know, had a horrible quarter and guided down and sprout social traded down in sympathy with that. But again, you know, that's one company sprout, we're looking for a platform company that's gonna help businesses manage their social media over the next five to 10 years.

Kate Stalter
Host

17:49

Right. Which is not going away regardless of all these problems at the moment.

Tyler Laundon
Guest

17:53

Exactly. I don't think that businesses are gonna go back to trying to reach consumers through print media. Uh, in lieu of social, right? Not the print, you know, won't be a part of things, but, and then lastly, Kate, we are looking at CS disco, ticker symbol on that. One is L a w. It's a really interesting company. If you get into the background, the founder is still there. It's a platform for legal technology and it is definitely gaining ground on some of the more established players. Again, stock is in a down trend like most in software, but it's, it has a really compelling value proposition. And if you get into the nitty gritty of the different products they have and what they're doing, there's, there's some interesting stuff there, super smart management team. So I like that name. It came public at $32 last year in July, and it's a $25 stock right now.

Kate Stalter
Host

18:46

You know, if people have the guts to be able to kind of adhere to the buy low sell high adage. And I know you're not recommending these as buys right now, and I wanna emphasize that to everybody, but nonetheless, I think you are saying that eventually there could be some very good opportunities here too, by at a lower valuation. Aren't you?

Tyler Laundon
Guest

19:09

Yeah, absolutely. If we look at like the enterprise value, um, to forward revenue, multiple, which is how software stocks are, you know, tend to be valued. These things have come down to below five year trailing averages and yeah, I mean, obviously not saying go allocate 20% of your portfolio or whatever names like this, but for those people that are out there that are interested in high growth platform companies that could have, you know, major, major growth down the road, these are the types of names that personally I would be, be interested in.

Kate Stalter
Host

19:41

Okay. And you've got a few other sectors you're looking at don't you?

Tyler Laundon
Guest

19:44

Yeah. So we're always interested in medical technology as well. And right now, especially interested in that because it is a little bit of a defensive area in terms of where investors can go. They have, some of these businesses are recovering from COVID. Hospitals are opening up, they're increasing procedure volumes, assuming, you know, that trend should continue assuming COVID, doesn't come roaring back. And during the pandemic, a number of these companies were working on their technologies, came out with new technologies, new versions of something that they already had, and they've released those. They have new approvals. So a couple of names there that I like inspire therapy, ticker symbol is I N S P a sleep apnea solution. And the stock is down. Let's see, as of today. And it's, you know, May 26th, it's 38% off of its high, but it's coming back a little bit. And procedure volume is growing nicely. Basically. It's, it's a great story for anybody that's interested in medical technology. And if anybody has any experience with sleep apnea, they should look into it. just because their technology could help them.

Kate Stalter
Host

20:53

It's interesting. These really niche companies, like you mentioned a couple of 'em right now, legal software sleep apnea specialists. I mean, some of these are just very nichey, but that can be where the opportunity is. Isn't it,

Tyler Laundon
Guest

21:07

That's a good clarification on your point. I do tend to look for companies that are pure plays on something that's ultra specific. Obviously we're not talking like a Microsoft or, you know, anything that's diversified across hardware and software and cloud and all that stuff. These are really, really specialized players. So the other MedTech name I wanted to mention is shockwave. Uh, that's different symbol S w a V. And they've developed a, basically a better way to treat, uh, calcified cardiovascular disease. And there's obviously a whole bunch of details behind that technology, but market cap of 6 billion and an interesting growth business stock has held up okay, throughout this and, you know, procedure volumes are on the upswing. So that's another one that, you know, kind of a, again, same big picture theme, like inspire. It's all about procedure volumes going up good coverage, new product introductions, that type of thing.

Kate Stalter
Host

22:07

And that's a great perspective on what's happening in the broader economic environment that might be helping these companies, as you said, is that after so many elective procedures, and there were other reasons why people were not seeking medical care for other things during COVID, but that does seem to be rebounding now. And that's a theme to definitely keep in mind. Now you've got a couple other things I'm conscious of the time here, Tyler, but I wanna give you a chance let's work in a few more tickers and we can kind of go through 'em pretty quickly

Tyler Laundon
Guest

22:37

Sure thing. So consumer plays again, the last couple of weeks, consumer has been a dirty word because everybody's worried that consumers are gonna stop spending, but for those that are interested, companies like internet retailer, revolve RV, LV, uh, is liked by millennials should be a good company, just trying to find the right price to buy it at. Then we have Allbirds ticker symbol, B I R D the sustainable shoe materials company.

Kate Stalter
Host

23:03

Oh, I love these things. Yeah,

Tyler Laundon
Guest

23:05

makes a great product, right. Again, it's just a matter of, you know, being patient and keeping an eye on that one and trying to figure out when the right time to buy is, but it's a good story. And they have a great bunch of products. And then lastly, for the conservative investor, I've been following some grocery, basically discount companies, one of which is grocery outlet, ticker symbol go. So we're not talking like a discount retailer, that's like Walmart or target selling everything under the sun. It's really more about groceries and kind of the basic goods. And so in, you know, in a down economy where consumers are prioritizing groceries and, you know, basic necessities companies like this, that offer a good value proposition should do well and hopefully avoid some of the cost pressures that mega retailers are facing on with having so many different products.

Kate Stalter
Host

23:58

Right. That's kind of a defensive play right there. Isn't it? Yeah,

Tyler Laundon
Guest

24:01

Absolutely.

Kate Stalter
Host

24:02

Okay. Hey Tyler, thank you so much for being so generous and sharing your views of what's going on in the market and with small caps in particular, and some names that the listeners can research and add them to a watch list and just keep an eye on these. If the listeners wanna know more about what you are doing and how they can follow you, what's the best way to do that.

Tyler Laundon
Guest

24:26

So the best way to do that is to come to Cabo wealth network and then look at the advisories in growth and look for Cabot, small cap, confidential and Cabot early opportunities, or just type in either of those two advisory names along with my name, Tyler London, and they'll, um, they'll get right to us.

Kate Stalter
Host

24:44

All right. Hey, thank you so much for joining the show today. This is really interesting.

Tyler Laundon
Guest

24:48

Thanks Kate.

Kate Stalter
Host

24:52

Thanks again for listening to The MarketBeat Podcast, do not forget to subscribe on Apple Podcasts, Spotify, Stitcher, Google, anywhere else, you get your Podcasts. And you'll also find us on MarketBeat.com. If you enjoy the content here, please give us a five star review. So others can also find all the great interviews and market insights that we bring to you each week. Also, did you know that MarketBeat has a YouTube channel? We sure do. The Podcasts are there as well as tips for getting the most out of MarketBeat and becoming as always a better investor or trader.

Tyler Laundon

Tyler Laundon, Guest

Editor, Cabot Small-Cap Confidential

Kate Stalter

Kate Stalter, Host

MarketBeat Contributor, MarketBeat

Kate Stalter is a Series 65-licensed asset manager, with more than two decades of experience in various areas of financial services. As an investment advisor and financial planner, Kate personally manages client portfolios, with a focus on successful retirement, including asset allocation, income generation and tax strategies. Kate also serves as a capital-markets contributor at Forbes.com, and is an expert columnist for the investment advisory channel at U.S. News & World Report.

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