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Small-cap stocks in the U.S. have risen less than large-cap companies, but they stand to gain more from U.S. economic growth, so they are a good opportunity, explains Matt Mahon, co-portfolio manager at T. Rowe Price, a Baltimore-based firm founded in 1937 that manages $1.54 trillion in assets.
The US economy continues to grow, and forecasts for the rest of 2024 are optimistic: how does it support the small-cap sector?
While many large companies derive the bulk of their revenues overseas, smaller companies tend to be focused on the United States and are therefore more sensitive to domestic economic conditions. Today, there are significant tailwinds in the consumer and corporate sectors, which are supporting the strength or improved conditions of many small companies. American consumers are benefiting from a strong labor market: unemployment is at a historically low rate and average hourly earnings are growing faster than inflation. Many are better off financially today than they were before the COVID-19 pandemic. Infrastructure spending and corporate production shifts are benefiting small-cap stocks, especially those operating in industries directly affected by these initiatives. These companies include building materials companies, distributors, and companies that provide innovative tools that facilitate automated assembly lines.
Which is more convenient, large-cap or small-cap valuation?
On a market-cap-weighted basis, the S&P 500 depends on the fortunes of global technology, and valuations incorporate high expectations for future results. While these expectations are likely to be realized, the risk of disappointment is high. In contrast, relative valuations of smaller companies have fallen to historical lows, reflecting more modest expectations. However, many companies continue to deliver solid results and are expected to have good growth going forward. Long-term investors may want to consider increasing their exposure to small-cap stocks, focusing on companies that are driving productivity improvements and/or have pricing power. While smaller companies are generally more volatile, their greater upside potential has historically offset the additional risk. For long-term investors, we believe a diversified portfolio of small-cap stocks may be a viable strategic allocation that can generate value in varying market conditions.
What impact will the expectation of a Fed rate cut in 2024 have on small-cap stocks?
Future rate cuts could provide further support to small businesses, but for now, the Fed’s extended pause is a positive development.
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