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(Boursier.com) — It’s no secret… Small caps are clearly lagging behind large stocks. In the United States, the situation is such that S&Ms are experiencing their worst performance compared to large companies in more than 20 years. As noted by the ‘Financial Times’, the Russell 2000 index has increased by 24% since the start of 2020, compared to a gain of more than 60% for the S&P 500 over the same period. This performance gap upends a long-term historical norm whereby fast-growing small caps tend to generate higher returns for investors who can withstand higher volatility…
The unusually wide gap between the two closely watched indexes has widened in recent years, as ‘small stocks’ with relatively weak balance sheets and modest pricing power have been particularly hard hit by high inflation and a surge borrowing costs. “I’ve been investing in small caps for almost 30 years and you haven’t seen a lot of money invested in this compartment since 2016 or 2017,” Greg Tuorto, small cap portfolio manager at Goldman Sachs Asset, tells the British daily. Management. “It takes a little bit of greed, it takes a little bit of that animal spirit, maybe a resumption of M&A or a booming IPO market, for small caps to really take off,” he said. he adds.
Stubborn inflation
The S&P index has soared since early November, with strong earnings and investor enthusiasm over the artificial intelligence boom that has generated huge gains for companies like Nvidia And Meta. Although there are signs that the stock market rally is starting to extend beyond the biggest tech stocks, stubborn inflation and a resilient job market have recently helped make traders accept that interest rates could remain higher than what they had predicted a few months ago…
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In the event that the Federal Reserve is forced to hold rates steady for months, or even raise them, small businesses would likely be hit the hardest. Around 40% of the debt on Russell 2000 balance sheets is short-term or variable rate, compared to around 9% for S&P companies, the FT points out. Fourth-quarter profits at U.S. small businesses, about 30% of which are unprofitable, fell 17.6% year-on-year, according to LSEG data. In contrast, profits of S&P groups increased by around 4%, although much of this increase was due to the ‘Magnificent Seven’.
Central banks at work
But, barring any major upheaval, the Fed should begin to reduce its rates in the coming months, which should primarily benefit small caps… “If profits [des petites capitalisations] “And profits should increase.” Analysts on average expect earnings growth of 14 % for Russell 2000 companies this year. “Access to capital is improving, financial conditions have eased, high-yield markets are wide open and equity issuance is really picking up,” adds Lefkowitz.
For Jill Carey Hall, US equity strategist and head of US small and mid-cap strategy at Bank of America, falling small-cap valuations bode well for returns. The segment has historically traded at similar multiples to the S&P 500, but given the large-cap rally in recent months, it now trades at a near-record discount. “The only other time you saw relative multiples this cheap was in 1999 and 2000, and that ended up being a great decade for small caps.” A good omen?
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