Answer: equities of small-cap companies tend to outperform equities of large-cap companies on a risk adjusted basis.

## Explanation The size effect anomaly refers to the empirical observation that **small-cap stocks tend to outperform large-cap stocks on a risk-adjusted basis** over long periods. ### Key Points: 1. **Definition of Size Effect**: The size effect is the tendency for smaller companies (as measured by market capitalization) to generate higher returns than larger companies after adjusting for risk. 2. **Historical Evidence**: This anomaly was first documented by Rolf Banz in 1981, who found that small-cap stocks had higher average returns than large-cap stocks even after accounting for their higher beta. 3. **Why Option C is Correct**: - The size effect specifically relates to **company size** (market capitalization) - It's about **risk-adjusted returns** - small caps outperform even considering their typically higher volatility - This is a well-documented market anomaly that contradicts the efficient market hypothesis 4. **Why Other Options are Incorrect**: - **Option A**: Describes the **value effect** or **P/E effect**, not the size effect - **Option B**: Describes the **dividend yield effect**, not the size effect 5. **Important Considerations**: - The size effect has been less pronounced in recent decades - Some researchers argue it may be a compensation for higher transaction costs and lower liquidity in small-cap stocks - It's often considered alongside other anomalies like the value effect in multi-factor models (Fama-French three-factor model) **Correct Answer: C** - This accurately describes the size effect anomaly where small-cap companies tend to outperform large-cap companies on a risk-adjusted basis.

Author: LeetQuiz .