Global Equity Strategy -- Preference for big cap ::Credit Suisse,

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● We see the following reasons for preferring big cap to small cap:
(1) When the VIX rises, the benefits of diversification rise such
that large cap companies outperform. (2) When credit spreads
rise, large cap should outperform. (3) Big cap has much easier
credit conditions relative to small cap. (4) Big cap economic
momentum (ISM) is better than that for small cap (NIFB).
● Valuation of big versus small is in line with average on P/E but
slightly cheap on P/B. Relative performance of big versus small is
at the bottom end of its long-term range.
● We continue to recommend the “new gold standard” among
equities: big cap stocks with a CDS below sovereigns, dividend
yields above government bond yields and international earnings:
Novartis, BAT, Vodafone, Intel, Coca-Cola and Microsoft.
● NEUTRAL- or OUTPERFORM-rated small caps with more than
10% downside on HOLT® and net debt/EBITDA above 3x are
FCC, Air France-KLM, Eiffage, Toll Brothers, Shaw Group and
Masco. The cheapest large cap index is the FTSE 100, the most
expensive small cap index is the Russell 2000.

Preference for big cap versus small
We find the following reasons particularly supportive for favouring big
cap now.
● Risk hedge: Uncertainty has risen a lot and this tends to benefit
big cap. We can see that when the VIX rises, big cap should
outperform small cap. However, in the last episode of rising
volatility this is yet to happen. A rise in VIX benefits more
diversified business models—and large companies tend to be
more diversified than small caps.
● Better credit rating: As credit spreads rise, large cap should
outperform small cap. So far there has only been a modest
reaction to widening spreads. The reason that large caps should
outperform as spreads widen is that large cap companies have
higher credit ratings than small cap companies.
● Better access to financing: Large cap companies have much
easier access to capital markets, while credit conditions to smaller
companies are being tightened by more than they are for large
cap companies, according to the Federal Reserve loan office
survey. This is particularly important when most financial systems
are seeking to manage down their loan books. This may be
particularly important in Europe where banks account for 84% of
lending to corporates and there are signs that they are
significantly reducing their RWAs (e.g. BNP Paribas by 10%).
● Better economic momentum: Large cap economic momentum is
much better than that for small cap, with the gap between the ISM
and the NFIB survey still above average. During periods when lead
indicators are falling, large cap tends to outperform.
● Time for a catch up: Clearly, small cap have outperformed big
cap over the long run, with the price of the S&P 500 relative to the
Russell 2000 close to the bottom end of its range.
● Undemanding valuation: The FTSE 100 trades in line with its
average 12m forward P/E relative to the FTSE 250 (the average is
a 12% discount) and slightly below average on P/B. The S&P 500
is also in line with its average relative to the Russell 2000, but
slightly cheap on P/B relative.
Risks to our view
We recognise that the uptick in M&A activity could favour small cap;
however, we find that the FTSE 100 actually tends to outperform
when M&A rises as a share of market cap (Figure 27). We also have a
preference for growth stocks given historically low interest rates
should re-rate companies with longer duration earnings. Some small
cap indices have superior growth rates (we look at a CAGR of trailing
5-year and prospective long-term earnings growth).
Stock screens
Our favoured large cap stocks remain what we call the “new gold
standard”: stocks with a CDS below G7 government CDS spreads, a
dividend yields above the average G7 government bond yield and a
large proportion of overseas earnings (as this makes it more difficult to
tax them).