Sept. 12 (Bloomberg) -- The first report by Merrill Lynch & Co.'s new strategist for U.S. small-cap stocks recommended that investors keep their holdings to a minimum. His reasoning may be applicable worldwide.

Steven DeSanctis, who joined Merrill this year after following small caps at Prudential Financial Inc. for a decade, outlined three themes affecting companies valued at $300 million to $2 billion.

-- ``Small lags large.'' The Russell 2000 Index, a widely followed gauge of smaller companies, has trailed the Standard & Poor's 500 Index since May 2006. Before then, the Russell 2000 led for seven years running.

-- ``Active managers regain their touch'' and beat their benchmark indexes. Mutual funds that focus on smaller companies of all kinds had a 4.2 percent average return in January through August, according to data from Reuters Group Plc's Lipper unit that DeSanctis cited. The Russell 2000 returned 1.4 percent.

-- ``Growth beats value.'' The Russell 2000 Growth Index, beaten in six of the past seven years by a similar index of so- called value stocks, is comfortably ahead this year. The index of companies with relatively fast growth in sales and earnings has risen 5 percent, compared with a 6 percent decline in the Russell 2000 Value Index.

DeSanctis, based in New York, recommended that investors hold a relatively small percentage of the stocks by comparison with their market weighting.

Looking for Growth

The report's small versus large theme is also playing out worldwide this quarter. Morgan Stanley Capital International's World Small Cap Index dropped 8.2 percent, about twice as much as the MSCI World Index, through Sept. 10. The small-cap gauge led in the first half and in six of the last seven years.

Smaller companies are trailing not only in developed countries, tracked by MSCI's world indexes, but also in emerging markets. While the MSCI Emerging Markets Small Cap Index gained 1.7 percent in the quarter through Sept. 10, a comparable index of larger companies added 2.7 percent.

Interest in companies best positioned to benefit from an expanding global economy may be behind this shift. As DeSanctis notes in his report, only 32 percent of companies in the Russell 2000 have sales abroad. The percentage is twice as high for the Russell 1000 Index, a gauge of larger companies.

The ``growth beats value'' theme is global as well. MSCI's World Growth Index has dropped only half as much this quarter as its World Value Index, down 5.7 percent.

Seeing Exceptions

Growth stocks, like larger companies, have been behind for much of this decade. Their MSCI gauge has lost 16 percent since the end of 1999, and the value-stock index has risen 34 percent.

Some of the world's biggest markets are exceptions to this quarter's pattern. In Hong Kong, the Hang Seng Small Cap Index has risen four times as much as the benchmark Hang Seng Index. And in Switzerland, value stocks are beating growth stocks.

Even so, the trends are broad enough to suggest that DeSanctis's themes have significance beyond the U.S. market.

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Porsche AG's automaking business is taking a back seat to its holding in Volkswagen AG, which Chief Executive Officer Wendelin Wiedeking said yesterday he wants to raise ``significantly'' by exercising options.

The 31 percent stake in Volkswagen, Europe's largest car producer, accounted for three-fifths of Porsche's market value as of yesterday's close. Porsche, based in Stuttgart, Germany, and known for its 911 sports car, was valued at 22.4 billion euros ($31 billion).

Volkswagen, which announced plans yesterday to unveil a dozen new models by 2010, has soared 75 percent this year. Shares of the Wolfsburg, Germany-based company have risen more than any of the world's 25 most-valuable auto manufacturers. Porsche, whose preferred shares have gained 32 percent, ranks fourth.

Martin Winterkorn, Volkswagen's CEO, views Toyota Motor Corp. as his company's main competitor. No wonder: Volkswagen surpassed Honda Motor Co. and Nissan Motor Corp. this year by market value and is behind only Toyota and DaimlerChrysler AG.

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Tesco Plc, the U.K.'s largest retailer, is lagging behind most of its European peers in the stock market this year. Any reversal may hinge on what happens outside its home country.

While shares of the Cheshunt, England-based company have risen 7.2 percent, they rank 14th out of 20 supermarket owners in the region, according to data compiled by Bloomberg. Alfa- Beta Vassilopoulos SA, a Greek chain controlled by Belgium's Delhaize Group, leads the pack with a 76 percent surge.

The stock has slumped as Tesco, whose shareholders include billionaire Warren Buffett's Berkshire Hathaway Inc., gets ready for its first U.S. venture. The company plans to open 30 Fresh & Easy Neighborhood Markets in the Southwest by year-end and has committed itself to spend $2 billion on the chain by 2012.

Tesco's shares may reach 734 pence by then as the company profits from expansion in Europe and Asia, according to Matthew Truman, a Lehman Brothers Holdings Inc. analyst based in London. He made the forecast, 69 percent higher than yesterday's close, in raising his rating to ``overweight'' from ``equal weight.''

To contact the writer of this column: David Wilson in New York at dwilson@bloomberg.net

Last Updated: September 12, 2007 00:07 EDT