While markets have been largely defined by globalisation and large-cap outperformance in recent decades, particularly that of the Magnificent Seven, the tides are turning as global policy diverges and regional dynamics gain significance.
According to George Efstathopoulos, portfolio manager at Fidelity International, the more recent rise of tariff-induced protectionism is accelerating the shift towards regionalisation, which in turn has led to a significant restructuring of supply chains and a move towards onshoring.
“In this context, domestically focused revenue generation emerges as an attractive theme, with mid-cap companies presenting unique advantages in this evolving landscape,” Efstathopoulos said.
As such, multiple unfolding dynamics are proving to be advantageous for the mid-caps space globally, the portfolio manager said.
“At present, the valuation gaps between mid-cap and large-cap stocks are historically wide, suggesting that mid-caps may be undervalued,” he said. “Additionally, mid-caps are positioned to benefit from domestic industrial policies, infrastructure projects and capital expenditure cycles, which align well with current economic trends.”
Speaking at last week’s Morningstar conference, chief investment officer at Bell Global Equities, Ned Bell, highlighted consensus which predicts roughly 30 per cent earnings growth in small to medium size companies over the next two years.
“You’re not getting that in the Mag 7,” he said. Bell identified semiconductors and software as the two key “buckets” likely to dominate investor focus in the small to mid-cap space over the coming years.
Although the mid-cap theme is evident across the globe, Efstathopoulos said certain markets are enjoying additional tailwinds including China.
China, for its part, is the only market globally where Fidelity is observing easing across monetary, fiscal and regulatory policies, he said.
“With a notably high savings rate, China’s mid-cap stocks could benefit significantly if policymakers choose to stimulate domestic consumption, the second engine of China’s dual circulation economy. This is particularly timely as the first growth engine of exports faces increasing challenges amid escalating global trade tensions,” Efstathopoulos said.
By harnessing its fiscal capabilities to rebalance its economy, he added China can simultaneously stimulate sustainable domestic growth and position onshore mid-caps as key beneficiaries.
Japan and Europe favourable to mid-caps
Efstathopoulos also pinpointed Japan and Europe as markets supportive of mid-cap growth.
“These markets are undergoing multi-decade, if not generational, shifts in dynamics, offering compelling investment opportunities,” he said.
For Japan, the country’s wage-driven inflation is driving increased domestic demand, the portfolio manager noted, marking a close on the previous chapter of extended economic stagnation.
“Japan’s mid-cap stocks offer a compelling investment opportunity; they are largely insulated from JPY volatility, making them a stable choice. Additionally, mid-caps are closely aligned with the domestic economy, which is currently undergoing reflation spurred by positive real wage growth,” Efstathopoulos said.
Also bullish on Japanese small to mid-caps is Caroline Cai, managing principal and CEO at Pzena Investment Management, who said this area of the Japanese market is “exceptionally interesting”.
“Our exposure to Japan has been going down in our large-cap global portfolios,” she said at Morningstar’s conference.
Turning to Europe, Efstathopoulos noted that with the European Central Bank already on an easing path, further rate cuts are expected in the coming quarters, a trend that bodes well for mid-cap growth.
“This environment is favourable for mid-caps, whose earnings are more sensitive to GDP growth compared to large caps,” he said.
On Europe’s largest economic player, Germany, Efstathopoulos added that the fiscally conservative government is moving away from austerity and is instead embracing substantial fiscal stimulus, with local mid-cap stocks poised to benefit.
