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As the FTSE 250 soars to record highs, is it time to buy smaller stocks?

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The FTSE 250 hit an all-time high on Wednesday, breaking 24,054 points. Some of that is because of the weakening value of the pound, and that’s down to the international nature of the UK stock market. A high proportion of earnings are from overseas, predominantly denominated in US dollars.

That ties company valuations fairly strongly to the old greenback, so they’ll tend to command higher valuations when sterling falls. That’s far from the whole story, mind, as the smaller-company growth effect can be strong. All we need to do is compare the FTSE 250 with the FTSE 100.

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Over the past 12 months, the smaller index has climbed 36%. In the same timeframe, the London market’s bigger sibling has put on a more modest 17%. That is from low comparatives, so is it just a Covid recovery phenomenon? No, it doesn’t seem to be. Over the past two years, the FTSE 250 is up 25% against the FTSE 100’s, erm, nothing. And over five years, it’s 34% to the tiddler against just 4% for the giant.

The 21st century

There’s one key thing about the FTSE 250’s outperformance, though — it’s a relatively recent phenomenon. Until 2003, the two indexes had been pretty much neck and neck since inception. A brief spurt for the FTSE 250 followed. But by 2009 they were close again, though the mid-cap index did remain in front.

From then, though, the FTSE 250 has soared ahead and shows no sign of slowing. From the start of 2009 to today, it’s 272% for the FTSE 250 to just 62% for the FTSE 100.

What should we do?

But enough of these relative numbers. What does it actually mean and what should I do about it? Well, it’s almost enough to make me want to dump my investment strategy and get a FTSE 250 tracker. And I do think that could be a cracking strategy for anyone who just wants to stick their retirement cash away for a few decades and not have to think about it.

There’s a risk that we could be in for a reversal and for an ascendent period for the FTSE 100 now. But I could allow for that with a FTSE 350 tracker instead, covering the whole of both indexes. That might leave me too heavily weighted towards the FTSE 100, though, as its top companies are simply huge compared to anything in the FTSE 250. Were I to go for a tracker approach, I might actually avoid a FTSE 350 tracker and go for an equal split between a FTSE 100 tracker and a FTSE 250 one instead.

Switch to FTSE 250 shares?

I’m still going to stick with individual shares, though. The fact is, I simply enjoy it. I love the challenge of analysing my own stocks and making my own choices. But even then, I do have a lesson to learn from the FTSE 250’s superior gains. It’s that I’m probably too heavily weighted towards FTSE 100 stocks.

That’s because I’ve gone mainly for reliable dividends in recent years, and the biggest companies tend to be the ones that pay them. But that’s my challenge for my 2022 Stocks and Shares ISA… I’m going to spread my net wider in my search for investment candidates.

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Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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