Small caps, mighty opportunity

It’s hard to be a small cap in a mega cap world, with big tech giants like Nvidia, Microsoft, and Apple constantly hogging the spotlight.

But while small caps may be, well, small, the returns on these equities are not to be underestimated—especially today.

The Russell 2000 Index skyrocketed 5.8% after Trump’s victory, marking its best day in about three years, and outpacing broader market indexes like the Dow Jones Industrial Average and S&P 500.

Small caps popped for some of the same reasons the broader equity market leaped today: anticipation of tax cuts, more lenient corporate regulation, and increased M&A activity.

Don’t forget that, unlike huge tech corporations, small-cap stocks inherently have more room to run, and most haven’t already rallied into overvalued territory.

Small caps in vogue

While small caps briefly picked up momentum in July, the great small-cap renaissance that many analysts anticipated hasn’t exactly panned out just yet.

Part of the reason we’ve experienced brief small-cap rallies instead of a broad small-cap surge is that these assets are particularly interest rate-sensitive. With rates still high, investors have been hesitant to fully commit to small caps—though the likelihood of further Fed rate cuts ahead promises to benefit smaller companies in particular.

What does all this mean for investors? A few days ago, JPMorgan’s Chief Stock Strategist Dubravko Lakos-Bujas predicted that today’s election results would “trigger a temporary but violent rotation in leadership.”

That’s precisely what we’ve seen today, with small caps outperforming the larger-cap stocks that have dominated the market this year. Lakos-Bujas also thinks that domestic companies, financial stocks, value and cyclical stocks will benefit from expected Trump policies.

Citi strategist Scott Chronert dug even further down and picked some key names in the category last week, including Texas Roadhouse, Ally Financial, and Eagle Materials.

And Wells Fargo analyst Chris Harvey pointed out last week that history is on the side of small-cap stocks. “Notably, small caps outperformed in the three months after both the Trump 2016 and Biden 2020 wins,” he wrote.

With slowing inflation, a strong economy, and the Fed likely to lower rates at least once more this year, small caps could have even further to fly. 

So instead of just focusing on AI, maybe it’s time to think small.—LB