This unique statistic reveals what stocks big investors are investing in in the last part of the year

As institutional investors have large sums of money at their disposal, they are generally believed to be the main driving force behind the market. Let's take a look, based on proven research, at where these large investors are likely to put their money in the remainder of 2022 and how this may affect your portfolio.

Professional investors struggle to keep up with the S&P 500 index of the largest companies

Institutional investors, who dominate the stock market, are increasingly favoring large-market-cap stocks as the end of the year approaches - and so should you.

The reason for year-end capital shifts into large market cap stocks has to do with the compensation incentives under which institutional investors operate. Many managers know they will receive a year-end bonus if they finish the year ahead of the S&P 500 $^GSPC+0.3% index. So, if they outperform the benchmark around that time of year, they have a strong incentive to start making their portfolios look more and more like an S&P 500 index fund, locking in positive returns.

Top 10 S&P 500 stocks

Given that the S&P 500 is an equity-weighted index dominated by a few dozen of the largest-cap stocks-including Apple $AAPL-1.5%, Microsoft $MSFT-1.2%, and Alphabet $GOOG-1.8%, $GOOGL-it-1.7% means fund managers will be weighting these stocks more heavily and underweighting small-cap stocks outside the index.

Even managers who slightly underperform the S&P 500 index in September will be tempted to buy large-market-cap stocks, according to the researchers. Surely, by doing so, managers will lock in their negative returns. But they also avoid investing in stocks that will lag the S&P 500 by such huge amounts that they risk being demoted or even laid off.

According to this theory, institutional investors will be most willing to invest in small-cap stocks that are outside the S&P 500 at the beginning of the year. Thus, if this theory is an accurate description of Wall Street behavior, we should see the greatest relative small-cap strength in January, along with a gradual shift throughout the year toward large-cap relative strength toward the end of the year.

Research supporting this theory was first published in 2003 in the Journal of Business Finance & Accounting by Lucy Ackert, professor of finance at Kennesaw State University, and George Athanassakos, professor of finance at the University of Western Ontario. Last year, they published an updated analysis in the Journal of Risk and Financial Management and found that the pattern persists.

The performance of small-cap stocks over different periods of the year

A graphical representation of the pattern is shown in the table above. It is based on data since 1926 and shows the average amount by which small-cap companies outperform large-cap companies at various times of the year. The relative strength of small-cap stocks is, of course, strongest in January and gradually declines throughout the year, then becomes significantly negative in the last quarter of the year.

Remarkably, the pattern continues even after its existence has been widely publicized. Patterns usually disappear almost as soon as they are discovered. That this has not happened in this case suggests that its underlying causes are strong enough to endure. This suggests that it remains a good bet for the future.

If you're tempted to bet on a repeat of this pattern for the rest of 2022, your easiest option is to invest in an S&P 500 index fund. However, if you want to make individual bets, the simplest strategy is to pick the stocks with the largest capitalization within the S&P 500 index.

DISCLAIMER: All information contained herein is for informational purposes only and is in no way an investment recommendation. Always do your own analysis. This study was reported by analyst Mark Hulbert.

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