XEQT’s Small-Cap Exposure Gap — What You’re Missing and Whether It Matters

I thought I owned the entire global stock market when I bought XEQT. That was kind of the whole point — one ETF, thousands of stocks, every major economy on earth. Done. Then I fell down a rabbit hole reading about factor investing and the Fama-French model, and I stumbled onto something that surprised me: XEQT is overwhelmingly a large-cap and mid-cap fund. The small companies — the ones that some academics argue deliver the best long-term returns — are barely represented.

My first reaction was mild panic. Had I been doing this wrong the whole time? Was my beautifully simple one-ETF portfolio secretly leaving money on the table? I started researching small-cap ETFs, running spreadsheets, and building hypothetical tilted portfolios in my head at 11 p.m. on a Tuesday night. Classic overthinking.

After weeks of digging, I landed on an answer that honestly surprised me. Let me walk you through everything I found — the actual numbers on what XEQT holds, the academic case for small-caps, and whether any of this should change what you do with your money.

1. What XEQT Actually Holds (And Why It Skews Large-Cap)

To understand the small-cap gap, you first need to understand how BlackRock builds XEQT. It is not a single index fund. It is a fund-of-funds that holds four underlying iShares ETFs:

• ITOT (iShares Core S&P Total U.S. Stock Market ETF) — ~45% of XEQT
• XIC (iShares Core S&P/TSX Capped Composite Index ETF) — ~25%
• XEF (iShares Core MSCI EAFE IMI Index ETF) — ~20%
• IEMG (iShares Core MSCI Emerging Markets ETF) — ~10%

Now, here is where things get interesting. Each of these funds has a different approach to market capitalization coverage:

ITOT tracks the S&P Total Market Index, which includes large, mid, and small-cap US stocks. This is probably where XEQT gets its best small-cap representation. But even within ITOT, the weighting is market-cap based, meaning Apple and Microsoft dwarf any individual small-cap holding by a factor of several thousand.

XIC tracks the S&P/TSX Capped Composite, which covers about 250 Canadian stocks. It includes some mid-caps, but true small-cap Canadian companies are mostly excluded. The Canadian market is already dominated by a handful of mega-cap banks and energy companies.

XEF tracks the MSCI EAFE IMI Index — the “IMI” stands for Investable Market Index, which theoretically includes small-caps in international developed markets. So there is some small-cap exposure here, but again, market-cap weighting means the big names dominate.

IEMG covers emerging markets and also uses an IMI-style approach that includes some smaller companies, though mega-caps like Taiwan Semiconductor and Samsung take up most of the weight.

The bottom line: XEQT technically includes some small-cap stocks, but the market-cap weighting means they are a tiny sliver of the total portfolio.

2. How Much Small-Cap Exposure Does XEQT Actually Give You?

This is the question I spent the most time on, and the honest answer is: it depends on how you define “small-cap.” But here is a reasonable breakdown.

In global investing, companies are typically categorized by market capitalization:

• Large-cap: Over $10 billion USD
• Mid-cap: $2 billion to $10 billion USD
• Small-cap: $250 million to $2 billion USD
• Micro-cap: Under $250 million USD

When you look at XEQT’s holdings through its underlying funds and weight them appropriately, the approximate market-cap breakdown looks something like this:

So XEQT gives you roughly 5-8% in true small-cap stocks. That is not zero, but it is significantly less than small-caps’ share of the total global stock market, which is closer to 12-15% depending on the index methodology you use.

Compare that to what a “total market” portfolio would look like if you perfectly matched global market weights:

XEQT overweights large-caps and underweights small-caps relative to the true global market. That is the gap people talk about.

3. The Academic Case for Small-Cap Stocks

Alright, so there is a gap. But does it actually matter? To answer that, we need to talk about one of the most influential ideas in modern finance: the Fama-French three-factor model.

In 1992, economists Eugene Fama and Kenneth French published research showing that stock returns are not just driven by market risk (beta). They identified two additional factors that explained returns:

• Size: Small-cap stocks have historically outperformed large-cap stocks
• Value: Cheap stocks (low price-to-book) have historically outperformed expensive stocks (high price-to-book)

This “small-cap premium” has been documented across multiple countries and time periods. The long-run historical data is compelling:

• From 1926 to 2024, US small-cap stocks returned approximately 11.5% annualized, versus about 10.2% for large-caps (based on Dimensional Fund Advisors data)
• The small-cap premium has been observed in international markets as well, though the magnitude varies by country and time period
• The premium has been strongest in small-cap value stocks — companies that are both small and cheap relative to their fundamentals

That roughly 1-1.3% annualized difference does not sound like much, but compounded over 30 years, it is enormous. A $10,000 investment growing at 10.2% for 30 years becomes about $187,000. At 11.5%, it becomes about $247,000. That is a $60,000 difference from a single percentage point of extra annual return.

So in theory, XEQT’s underweight to small-caps could be costing you real money over very long time horizons.

4. The Counterargument: Why Small-Caps Have Not Delivered Lately

Here is the thing nobody mentions when they cite the long-run small-cap premium: much of the outperformance comes from historical data that predates the modern investing era. And in recent decades, small-caps have actually underperformed large-caps.

Let me give you the reality check:

• 2010-2024: Large-cap growth stocks — particularly US tech mega-caps — absolutely dominated. The S&P 500 (mostly large-cap) crushed small-cap indexes by a wide margin.
• The “Magnificent Seven” era: Apple, Microsoft, NVIDIA, Amazon, Alphabet, Meta, and Tesla drove a disproportionate share of market returns. No amount of small-cap tilting would have compensated for missing or underweighting these names.
• Higher failure rates: Small-cap companies go bankrupt more often, have less access to capital, and are more volatile. The “premium” is compensation for this additional risk — and sometimes that risk materializes in painful ways.
• The premium may have been arbitraged away: Once Fama and French published their research, money flowed into small-cap funds. Some researchers argue that the very act of identifying the premium reduced or eliminated it.

Here is the historical comparison over recent periods:

See the pattern? Small-caps had their decade of dominance in the 2000s, but large-caps have won convincingly since 2010. If you had tilted your portfolio toward small-caps over the last 15 years, you would have underperformed the large-cap-heavy XEQT approach.

The long-run data says small-caps win. The recent data says large-caps win. Nobody knows which pattern holds for the next 30 years.

5. What Would a Small-Cap Tilt Actually Look Like?

Let’s say you are convinced by the academic case and want to add some small-cap exposure alongside XEQT. What are your options as a Canadian investor?

Here are the most commonly discussed Canadian-listed small-cap ETFs:

A common approach for factor-tilted portfolios would be to hold something like:

• 90% XEQT — your core global equity allocation
• 5% XCS — additional Canadian small-cap exposure
• 5% XSU or a US-listed small-cap ETF — additional US/global small-cap

This would boost your overall small-cap weighting from roughly 5-8% to maybe 12-15%, which is closer to the true global market weight.

Some more aggressive factor investors go further — holding 70-80% XEQT with a 20-30% tilt toward small-cap value specifically. But at that point, you are making a strong active bet on a specific academic theory continuing to hold.

6. The Complexity Cost: What You Give Up by Adding a Second ETF

Here is where my philosophy on this topic gets clear, and it is central to why this blog exists.

Every ETF you add to your portfolio comes with costs that are not captured by the MER:

Rebalancing burden. If you hold XEQT plus XCS, your target allocation will drift over time. If large-caps outperform (as they have recently), your XCS slice will shrink below target. You need to actively rebalance, either by selling XEQT to buy XCS or by directing new contributions disproportionately. This requires math, discipline, and attention.

Behavioral risk. What happens when your small-cap tilt underperforms for 5 years straight? That is not hypothetical — it literally just happened from 2018 to 2024. Will you stick with the plan, or will you abandon the tilt at the worst possible time? The more complex your portfolio, the more opportunities you have to second-guess yourself.

Tax implications. If you are holding these in a taxable account, rebalancing by selling creates capital gains. In a TFSA or RRSP this does not apply, but it is worth considering if any of your portfolio sits outside registered accounts.

Decision fatigue. One of the most underrated benefits of XEQT is that it removes decisions. You buy one thing. You are done. When you add a second ETF, you need to decide: what percentage? When do I rebalance? Should I adjust the tilt? What if a new study says small-cap premium is dead? Every decision point is an opportunity to make a mistake.

I have seen this play out in online investing communities countless times. Someone starts with XEQT, adds a small-cap tilt, then adds a value tilt, then adds REITs, then adds a tech overweight “just temporarily” — and suddenly they are running a 7-ETF portfolio that they can barely keep track of, defeating the entire purpose of index investing.

The simplicity of XEQT is not a limitation. It is the feature.

7. Who Should Actually Care About the Small-Cap Gap?

I want to be honest here. For a small number of investors, a small-cap tilt might genuinely make sense. But the criteria are narrower than most people think.

You might consider adding small-cap exposure if:

• You have a time horizon of 20+ years and the discipline to stick with a strategy for that entire period without changing course
• You have a strong understanding of factor investing and accept that the small-cap premium may not show up in your investing lifetime
• You are comfortable with higher volatility in part of your portfolio — small-caps drop harder in downturns
• You are already maximizing your TFSA and RRSP contributions and want to fine-tune rather than fundamentally change your approach
• You genuinely enjoy portfolio optimization and will not be tempted to abandon the tilt during periods of underperformance

You should NOT add small-cap exposure if:

• You are still building the habit of consistent investing — adding complexity will slow you down
• You have less than $50,000 invested — the marginal benefit of a small-cap tilt on a smaller portfolio is negligible
• You are the type of person who checks their portfolio frequently and feels anxious when one component underperforms
• You picked XEQT because of its simplicity — honor that decision
• You cannot clearly articulate why small-caps might outperform and for how long you are willing to wait

For the vast majority of investors reading this blog, the honest answer is: the small-cap gap does not matter enough to do anything about it. I know that is not the exciting conclusion some of you wanted, but it is the truth.

8. A Look at XEQT’s Sector Overlap With Small-Caps

One thing that is worth understanding is that small-cap stocks have very different sector compositions compared to large-caps. If you were to add a small-cap ETF, you would not just be adding “smaller versions” of the companies you already own. You would be shifting your sector exposure.

Canadian small-caps (like those in XCS) tend to be heavy in:

• Energy — small oil and gas producers
• Materials — junior miners, exploration companies
• Industrials — smaller manufacturing and services firms
• Real estate — smaller REITs and property companies

They tend to be light in:

• Technology — most Canadian tech companies are either micro-cap or have already grown into mid/large-cap (Shopify, Constellation Software)
• Financials — the big banks dominate, and there are not many small-cap financial players
• Healthcare — Canada has very few small pharma or biotech companies compared to the US

So adding XCS to XEQT would not just increase your small-cap exposure. It would also increase your exposure to Canadian energy and materials. Whether that is desirable depends on your view of those sectors.

US small-caps (like those in the Russell 2000) have a more balanced sector mix but still tilt toward financials, industrials, and healthcare relative to the S&P 500.

9. The Verdict: XEQT’s Small-Cap Gap Is a Non-Issue for Most Investors

After all the research, spreadsheets, and late-night reading, here is where I landed — and where I think most investors should land too.

XEQT already gives you some small-cap exposure. It is not zero. Through ITOT and XEF’s IMI indexes, you hold hundreds of small-cap stocks around the world. You are not completely shut out.

The small-cap premium is real but unreliable. Over very long periods (50+ years), small-caps have outperformed. Over the time horizons most of us actually invest (20-30 years), the outcome is uncertain. The last 15 years have been a massive headwind for small-cap tilts.

The magnitude of the gap is small. Even in optimistic scenarios where the small-cap premium fully materializes, we are talking about maybe 0.5-1% of additional annualized return from a modest tilt. That is not nothing, but it is dwarfed by more important decisions like:

• Whether you invest consistently at all
• Whether you stay invested during market crashes
• Whether you keep your fees low (XEQT’s 0.20% MER is already excellent)
• Whether you use your TFSA and RRSP efficiently

Simplicity has compounding value too. Every year you spend consistently buying XEQT without overthinking your portfolio is a year you did not blow up your plan. The behavioral advantage of simplicity is real and probably worth more than 0.5% per year for most people.

I still own just XEQT. After all this research, I considered adding a small-cap tilt and ultimately decided against it. Not because I think it is a bad idea in theory, but because I know myself. I know that the moment small-caps underperform for a few years, I would start questioning the decision. And the whole point of my investing strategy is to remove decisions.

If you are reading this blog, there is a good chance you are here because you value simplicity. You picked XEQT — or you are about to — because you want one fund that handles everything. The small-cap gap is a real thing, but it is not a problem you need to solve. Buy XEQT. Contribute regularly. Give it decades. That is still the plan.