We all know that small stocks outdo big ones during the bull market. Why is that? When a company with £10 mln annual sales wants to grow by 100% it has to increase them “just” by  £10 mln. It’s not easy, but it’s doable and we’ve seen many companies actually doing this. Now what if company like VOD or BP. would like to increase sales by 100%? With their current size it’s almost impossible (maybe in a very very long time).  It’s just easier to increase sales / earnings / whatever by fixed amount of percent for a little company, than for the big one. During the bull market many stocks increase their sales / earning, but small ones do this faster than big ones.

During the bear market the situation is different. Investors seek for stability, which is the main domain of big companies. Many of them lose money, but if we look at the percentages, they do it much slower than small companies.

Nothing revealing for now, but here is the tricky part: If the bulls likes small companies and the bears likes big ones, maybe when we compare the behavior of those two groups of stocks, we will be able to determine, where in the bull-bear cycle we currently are. Let’s try this.

  • As a representative of big stocks, I’ve chosen FTSE 100 index, which contains 100 biggest UK stocks.
  • As a representative of small stocks, I’ve chosen FTSE Small Cap index, which contains about 270 small stocks (these are the stocks which didn’t make it to FTSE 350, so they are in places from 351 to 619 in size ranking).

I’ve collected historical data for both indexes for last 15 years. Next I’ve counted for each “the strength” of index, which is just an annual change of that index. At the end I’ve just subtracted both numbers to get the difference between both strengths. So for example if we have:

  • FTSE 100 annual change = +5%
  • FTSE Small Cap annual change = +20

The result will be: difference in strengths = -15%.

Negative result means that small stocks were stronger than big one. Positive result means that big stocks were stronger. I’ve calculated such difference in strength for each day and these are the results:

strength big vs smallBlue line is our “difference in strength” and red…

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