Investors are currently facing the post-election challenges of balancing the risks of expensive large-cap stocks against the uncertainties of lower-quality small caps. The so-called "Trump trade" has driven outsized gains in U.S. small caps, represented by the Russell 2000 index. However, blindly following this trend comes with significant risks.

Our analysis shows that much of the U.S. market's gains have been highly concentrated in a handful of large tech names like Apple, Microsoft, NVIDIA, and Tesla (the Mag 7). For these companies to simply maintain their current stock prices, they would need to sustain extremely lofty growth expectations over the next 5-7 years. Any shortfall could result in significant downside.

At the same time, delving into the small-cap universe in search of the "Make America Great Again" effect comes with its own pitfalls. The Russell 2000 has, in many ways, become a "dumping ground" for cash-hungry young growth companies lacking access to capital and debt-laden "zombie" companies reliant on low interest rates to survive. While the index may be rallying, we question the underlying quality.

So, where does this leave us as investors? Expensive large caps are vulnerable if growth fails to materialise, while surging small caps often conceal weak fundamentals. Looking outside the U.S. provides little relief, as markets in Europe and Australia are similarly concentrated, albeit not to the same degree as the U.S.

To navigate this challenging landscape, we are focusing on screening for pockets of quality at reasonable prices, rather than concentrating risk or chasing the most speculative parts of the market. For example, our initial screens for U.S. small caps with high returns on equity and low debt—quality companies in less frothy areas—have shown some promise. While there isn’t an investable product tracking this exact strategy in Australia yet, we’re actively working on potential solutions.

For now, we’re taking a patient, discerning approach. We’re hesitant to barrel into small-cap trades or stretch for growth at any price. With the crowd piling into the "Trump trade," we see wisdom in a more selective strategy, continuing to turn over stones in search of a smoother path forward. The easy gains may be behind us, but opportunities remain for those willing to look beyond the indexes.