The Overlooked Tweaks That Easily Adds 8% to Your Returns

Here’s the data behind an easy 8% edge.

Fluenteers, welcome back! And a special salute to the Fluent Few, our inner circle of long-term compounders. 👋🏻

Your biggest enemy is yourself.

It’s not the media, not hedge funds, not users on social media, not your broker… the problem is you, you're the biggest enemy of yourself.

‘‘But how can I be the problem?’’

That’s a good and understandable follow-up question. Let me answer this for you.

It’s not what you do that's the issue. It’s how you’re brain is hardwired to think.

Without you knowing it, your subconscious is making the worst possible decisions, and your conscious self is following the subconscious orders without pushing back.

That’s the problem!

‘‘How do I fix this?’’

Again, an excellent follow-up question. Continue reading, and by the end of the article, your subconscious will be under control, and your conscious self will solely make decisions based on your true best interest.

Happy compounding!

Why Does My Subconscious Make The Worst Decisions?

Your brain evolved for survival, not for investing. It prioritises short-term safety and emotional equilibrium, not long-term compounding. A handful of behavioural frameworks help to explain why.

• Loss aversion: Research shows loss-averse investors require about twice the gain to offset the pain of an equivalent loss. You sell winners too soon and hold losers too long.

• Recency bias & extrapolation: The brain uses recent events as a guide to the future. So if small-caps have underperformed recently, you instinctively assume they’ll keep underperforming, despite evidence to the contrary.

• Fear of missing out (FOMO): You’ll chase performance when you see others winning. That leads to buying late in the cycle at elevated valuations.

• Herd behaviour & narrative bias: According to research, lesser-known stocks (“neglected firms”) historically offered higher returns because fewer analysts covered them, but that advantage has diminished as coverage increases.

• Overconfidence & ego: After a couple of good trades, you believe you’re smarter than the market. That’s when the mess begins.

Why this matters for small-caps

• Small-cap stocks are often more volatile, more sensitive to macro conditions (e.g., interest rates, credit spreads).

• The environment as of October 2025 (steady interest rates, inflation still sticky, credit spreads wider than decade lows) means your emotions will be under more pressure than usual.

You must move decisions from your emotional sub-system into a disciplined, pre-defined system. That’s not robotic investing, it’s smart investing.

A Framework for High-Quality Small-Cap Investing

If you’ve ever hesitated before buying a small-cap or sold too early out of fear, this section is for you. It’s time to apply rigorous frameworks so you can invest in small-caps without relying on hope or hype.

• A white-paper from Royce Investment Partners (Sept 2025) found that global small-caps (MSCI ACWI Small-Cap) averaged ~8.1% annualised over 5-year rolling periods, vs ~5.8% for global large-caps; over 10-year rolling periods ~8.4% vs ~6.8%. Small-caps outperformed large-caps in 74% of 10-year periods since inception.

• Vanguard data (Aug 2025) shows “quality” small-caps (ROIC > 20% over trailing 3 years) trade at a significant forward P/E discount versus large-caps of similar profitability. Vanguard forecasts annualised outperformance of ~1.9 percentage points over the next decade for quality small-caps.

• The cycle length for dominance of large-caps vs small-caps has averaged ~11-12 years. We are around year 14 of large-cap outperformance. According to Hartford Funds (Jan 2025) and Wellington Management, this suggests a potential turn favouring small-caps.

Thus, the evidence supports: small-caps can outperform, but only if you select the right ones.

Want the full experience? The premium side is where we go deep, real 10x small-cap cases, member-only discussions, and actionable resources you won’t find anywhere else.

Here’s what you’ll get:

• Access to our community

• Access to investment cases on 10x small-caps

• Resources and PDFs to guide you

• And much, much more

👉 Get 1 month FREE — just share this newsletter with a friend.
It costs nothing, takes seconds, and unlocks a full month of premium content.

6 investors are already earning free access! When will you start?

Filtering for Quality in the Small-Cap Universe

Small-cap stocks are a mixed bag. Many are weak, undercapitalised, or heavily levered. You must avoid the trash and own the winners. Use a checklist:

Quality metrics (apply thresholds, adjust to your universe)

• Return on invested capital (ROIC) > 15% (preferably > 20%)

• Free cash flow positive and growing (3-5 years of FCF margin positive)

• Debt-to-equity ratio < 0.5 (or interest coverage > 5x)

• Operating margin trend positive (e.g., last 3 years with increasing margin)

• Insider ownership or founder-led management (aligns incentives)

Valuation filters

• Forward P/E < large-cap peer group plus margin of safety (Vanguard’s data shows quality small-caps trade at a noticeable discount).

• Price-to-book (P/B) ratio historically below peer group or < 1.5x (depending on industry)

• Relative valuation gap: If small-cap index trades at a historic discount to large-caps (as of late-2024, U.S. small-caps ~-40% valuation gap per Research Affiliates).

Risk-assessment filters

• Avoid companies with large negative earnings or persistent losses (evidence: the number of small-caps posting losses has risen).

• Liquidity: Minimum float, decent trading volume, avoid illiquid micro-caps unless you have bespoke research coverage

• Business model clarity: Is the company niche but scalable? Does it require massive future cap-ex or depend heavily on cyclical booms?

Portfolio Construction & Monitoring

• Build a basket of 10-20 high-quality small-caps rather than concentrated bets.

• Use staggered entries (e.g., 50% initial entry, 25% after six months, 25% after 12 months) to smooth timing risk.

• Set monitoring triggers: Example, sell if ROIC declines two years in a row or if debt-to-equity climbs > 1.0.

• Review quarterly, but focus on business performance, not daily price swings.

Why Small-Caps with Quality Matter

• Interest rates remain elevated globally: small-caps with weak credit are under pressure (higher borrowing cost). That weeds out weaker firms, good.

• Valuation gap: Quality small-caps are trading at historically low valuations relative to large-caps (Vanguard’s 2025 note).

• Cycle timing: After 14 years of large-cap dominance, history suggests the opportunity for small-caps is increasing.

• Macroe backdrop: Rising inflation, moderate growth, potential regime shift favour nimble firms. The Royce paper found small-caps recovered stronger post-downturns (e.g., average +56.9% the year after a trough vs +44.4% for large-caps).

• But caution: Broad small-cap indexes contain many low-quality companies; filtering is essential.

The Hidden Architecture of Your Decisions

You’ve built your framework, but your own mind will still fight you. Let’s explore the qualitative side.

Understanding Your Inner Chief

• You’re not just an investor; you’re two personas: the impulsive, emotional “subconscious you” and the rational, disciplined “conscious you.”

• The subconscious responds to stimuli: market headlines, sudden price moves, peer posts. Without rules, it will press sell when fear hits, or buy when hype erupts.

• Conscious, you must override that by having a pre-set process, checkpoints, and guardrails.

Three Common Emotional Traps & How to Escape Them

1. Trap: Panic in a small-cap pullback

   • Reality: Small-caps are more volatile; some pullbacks are structural, some are noise.

   • Escape: Refer to your memo. “Does the thesis still hold? Yes → hold. No → sell.”

2. Trap: Chasing the next “10-bagger” because you’re jealous of others

   • Reality: Most top returns come from a handful of winners, but they don’t come from chasing hype.

   • Escape: Stick to your filter and basket. If one company meets your quality and valuation criteria, great; otherwise, skip.

3. Trap: Overtrading / lost discipline

   • Reality: Active trading rarely beats disciplined investing. Many studies show that only a small fraction of managers beat their benchmark. Vanguard: only 5.8% of active large-cap blends beat the benchmark in the last 10 years vs 18% for small-cap blends.

   • Escape: Use a “cooling-off” rule. If you feel an urge to act impulsively, wait 24 hours, then refer to your checklist.

Anchoring Long-Term Focus

• Track process metrics (e.g., # stocks screened, # met quality filter) rather than daily returns.

• Maintain a “Don’t-Do” list: e.g., no trades when you haven’t made your screening or memo.

• Build feedback loops: Quarterly, you ask: Did I follow my rules? Did I act emotionally? What did I learn?

How to Execute in Today’s Market Environment

Here are specific steps you can apply this week.

Step-1: Screen

• Pull the universe of U.S. small-cap stocks (e.g., the bottom third of market capitalisation in the Russell 3000)

• Filter by ROIC > 15% (ideally > 20%) and debt-to-equity < 0.5

• Remove companies with negative free cash flow in the past 3 years

• Rank remaining stocks by valuation (forward P/E) and relative discount to large-cap peers

Step-2: Select your basket

• Choose 10-20 names: 5 core holdings + 5 speculative (but still meeting quality filter) + 5 margin-of-safety picks

• Allocate modestly: set each position at 3-5% of your small-cap sleeve

Step-3: Pre-commit to rules

• Entry rule: When a selected stock falls 3-5% below the screen threshold, add up to 50% of the target allocation (use dollar cost averaging)

• Exit rule: Sell if ROIC drops below threshold for 2 years OR if valuation expands > 40% above your fair-value calculation OR business model deteriorates (e.g., margin decline > 20%)

Step-4: Quarterly review (structure)

• Check each holding: Has ROIC improved or declined?

• Are there signs of leverage creep, margin pressure, or competitive erosion?

• Update thesis: Confirm the “why I own this” memo still holds. If not, consider exit.

• Rebalance: If one position has grown to > 7% the portfolio due to a share price rise, trim back to 5%.

Step-5: Psychological hygiene

• Every time you feel an impulse to act (buy because of hype or sell because of fear), stop and ask: “Am I following my checklist or following an emotion?”

• Keep a journal: “Date, stock, reason to buy/sell, emotional trigger, outcome”. Review every 6 months.

Closing It Off

If you’ve ever hesitated before buying a good small-cap or sold too early out of fear, you’re not alone. Your brain’s default wiring is the same as everyone else’s. But the investors who consistently outperform don’t feel less emotion, they simply design systems so emotion does not control their decisions.

So here’s your call to action:
Today, screen for small-caps with

• ROIC > 15%

• low debt

• sustainable free cash flow

• trading at a valuation discount to peers

Then, write your thesis for one company. Don’t act yet. Sleep on it. Tomorrow, re-read your notes and decide with clarity, not impulse.

That’s how compounding starts: one rational decision at a time.

Happy compounding, Fluenteers. Your subconscious just got demoted.

Thank you for reading and being part of this growing community of thoughtful investors.

FluentInQuality exists to help you cut through the noise and focus on what truly compounds over time: quality, patience, and discipline.

If you enjoyed this piece, share it with someone who values long-term investing as much as you do.

Together, we grow smarter.

You can also connect with me across all platforms, where I share shorter insights, portfolio updates, and market lessons:

🔗 Connect with me here

And remember:
Great investments don’t shout. They compound quietly.

— Yorrin (FluentInQuality)