Small caps have finally joined the stock market rally, with the Russell 2000 index up about 10% in the past month, outpacing the S&P 500. The surge comes after a better-than-expected June inflation reading, leading to optimism about Federal Reserve interest rate cuts.
Wall Street strategists are now debating whether the rally has more room to run. UBS Investment Bank’s Maxwell Grinacoff believes there is potential for the rotation into low-quality stocks to continue if rate cuts remain priced and the “Trump 2.0 trade” continues ahead of the US elections.
Bank of America’s Savita Subramanian also sees the trend in small caps persisting, but warns that not all small-cap stocks are created equal. She notes that about one-third of the Russell 2000 companies are not profitable and face refinancing risks with higher interest rates.
Subramanian suggests that higher-quality small-cap stocks, such as industrials and energy companies, may be more attractive as they have greater sensitivity to GDP and consumption. However, she cautions that companies with more refinancing risk or credit sensitivity may still be in the “penalty box” until the Fed actually begins to cut rates.
Overall, the small-cap rally is gaining momentum, but investors should be selective in choosing which stocks to invest in to maximize returns in this shifting market environment.
