As the U.S. dollar strengthens against foreign currencies and hurts Corporate America’s overseas profits, equity investors should consider small- and mid-cap exchange traded funds that track companies doing more business at home.
For instance, the iShares Core S&P Mid-Cap ETF (IJH) and SPDR S&P MidCap 400 ETF (MDY) both track the S&P MidCap 400 Index, with about 71% mid-cap exposure and 28% in small-caps. The Vanguard Mid-Cap ETF (VO) provides an alternative as it follows the CRSP US Mid Cap Index, but the it also includes a 20.2% weight in large-caps, along with 79.0% mid-caps. [Mid-Cap ETFs Take the Lead]
To access the smaller segment of the market, the iShares Core S&P Small-Cap ETF (IJR) reflects the S&P SmallCap 600, which includes a 68% tilt toward small-caps and 30.1% toward micro-caps. The Vanguard Small Cap ETF (VB) follows the CRSP US Small Cap Index, which also covers a wider market capitalization, including a 43.7% position in mid-caps and 47.0% in small-caps. Lastly, the widely observed iShares Russell 2000 ETF (IWM) tracks the Russell 2000, with a 11.0% position in mid-caps, 59.1% in small-caps and 29.9% in micro-caps. [Small-Cap ETFs: Look Beyond the Russell 2000]
As the U.S. dollar continues to strengthen against foreign currencies, large-cap companies with overseas revenue streams could see profits diminish – countries that do business overseas will see a lower overall revenue when repatriating a weaker foreign currency-denominated profit to a stronger USD.
For instance, General Motors (GM) said foreign exchange risks shaved $1.8 billion off first-quarter revenue, Procter & Gamble (PG) expects full year sales to fall 5% or 6% due to the strong USD and 3M (MMM) projects foreign currency impact to cut earnings by 35 cents to 40 cents per share, reports Ciara Linnane for MarketWatch.
Wall Street strategist Nicholas Colas of Convergex argues that first-quarter earnings and slowing revenue growth among the bigger players are a concern, reports Michelle Fox for CNBC. [Strong U.S. Dollar Could Pressure S&P 500 Earnings, ETFs]
“They see estimates that had to come down just to get beaten,” Colas said on CNBC. “The bottom line, it is not just oil and not just currency. It is a slow U.S. economy dragging down corporate earnings and they’re looking to the first quarter to be the trough for the year. But at 18 times earnings … we’re looking at a pretty expensive market.”
However, Colas believes investors should consider mid- and small-cap stocks as these companies have less exposure to the U.S. dollar and “are much more fruitful.”