Move to the Middle for Recession Protection

Due to the fact that mid-cap stocks are overlooked compared to their large- and small-cap counterparts, so are the benefits associated with stocks in the middle.

For advisors familiar with mid-cap equities, frequently cited benefits of mid-caps include less volatility than small-caps and better long-term performance than both big and small stocks. Indeed, those are not points to be scoffed at. Rather, those traits should be prized by market participants.

That good news gets even better because one of the most overlooked traits of mid-caps, and one confirmed by historical track records, is a surprising amount of recession protection – a pertinent point amid mounting expectations that the U.S. economy could experience a mild recession at some point this year.

History confirms the benefits of mid-cap stocks in periods leading up to recessions. Over the past five-plus decades, mid-caps topped large- and small-caps in nearly 30% of the six-month periods leading up to recessions and mid-caps were never the worst-performing group of that trio in those periods.

More to Like About Mid-Caps in Recessions

Of course, the data points above don’t imply that stocks in the middle will rise when the economy falters, it can be inferred that mid-caps will be less bad leading up to economic contractions.

Importantly, mid-caps offer some buffer during the first half of recessions. Again, that’s not a guarantee of upside, but more a point to underscore “less bad” possibilities.

“During the first half of US economic recessions since 1970, returns for stocks tended to be negative,” according to First Trust research. “Large-cap stocks most frequently had the best performance in early recession periods (57% of the time), but also had the worst performance in a large number (43%) of these intervals. Small-caps had the best performance during 29% of early recession periods, but the worst performance during 57% of these periods. Mid-caps had the best performance during 14% of early recession periods, but never had the worst performance.”

Clearly, mid-caps’ win rate in the first half of recessions is decent though not awe-inspiring. What is, however, arguably awe-inspiring is that mid-caps are never the worst performers in those stretches. That can set the group up for some success, relatively speaking in the second half of recessions.

“Mid-caps had the best returns during 71% of late recession periods, and never had the worst performance,” adds First Trust.

Surprisingly, large-caps where the worst performers in seven of those 10 recessionary periods.

Forget Forecasting

Experienced advisors know that pinpointing start and end dates for recessions is no easier than, say, stock picking. It might even be harder and a less valuable use of time.

Mid-cap stocks and the related funds aren’t a cure-all for that scenario, but they can help while potentially improving client outcomes.

“Forecasting the beginning or end of an economic cycle is no easy task. For those seeking to position portfolios for a potential downturn, we believe performance tendencies from past US recessions make an intriguing case for mid-cap stocks,” concludes First Trust. “Mid-caps offered the best performance less frequently than large-caps during pre- and early recession periods, but never had the worst performance during these intervals, when avoiding losses was critical. Moreover, mid-caps had the best performance most frequently during late recession periods and recessions overall, while never posting the worst relative performance.”

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