Wall St. Weeks Ahead After Huge Fall, US Small Caps Lure Investors With Cheap Valuations

The floor of the New York Stock Exchange (NYSE) is seen after the close of trading in New York, US, March 18, 2020. Reuters/Lucas Jackson

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NEW YORK, July 29 (Reuters) – Shares of smaller U.S. companies are trailing a rally in the broader equity market as investors seek cheaper-priced stocks and those who are betting on the conglomerate are already priced in. It is in economic downturn.

The small-cap Russell 2000 (.RUT) jumped 10.4% in July against a 9.1% gain for the benchmark S&P 500 (.SPX), its biggest percentage-point outperformance on a monthly basis since February.

Small caps are more domestically oriented, less profitable and carry a heavier debt load than their larger counterparts, often putting them in the firing line when concerns over the economy take hold and markets become volatile. .

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This year was no exception: Russell 2000 has fallen 16% compared to the S&P 500’s 13.3% decline in 2022 despite a July rebound, as the Federal Reserve tightened monetary policy more than expected to fight red-hot inflation. Gave up and reduced appetite for risk. Market.

In the eyes of some bargain investors, the small-cap index is now at its cheapest versus the large-cap Russell 1000 (.RUI) since March 2020, according to data from Jefferies.

“There has been a huge amount of losses in the small-cap space,” said Francis Gannon, co-chief investment officer at Royce Investment Partners. “It’s one of the cheapest segments in the US market.”

Gannon has been increasing positions in small cap, industry, materials and technology companies in the space.

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Some investors also believe that small-cap prices – which are seen as more accommodating to the ups and downs of the economy – may already portend a potential recession, if one’s prediction comes to fruition. So can limit their downside.

This week’s data shows US GDP shrank for the second quarter in a row, meeting the often cited definition of a recession. Read more However, the National Bureau of Economic Research, the official arbiter of business cycles, has yet to declare a recession and Fed Chairman Jerome Powell said this week it was unlikely that the economy would recover, citing a strong employment background. Giving was in one.

Analysts at RBC Capital Markets reported in early July that small-caps are “already ripening in a lot of economic pain”.

“The slowdown has become a good buying opportunity for small caps,” he said.

The bank also noted that the Russell 2000’s forward price-to-earnings ratio is trading in the 11-13x range, “which marks its bottom.”

“Stocks across the market cap spectrum appear closer to pricing in a recession than their large-cap peers,” Citi US Equity Strategists wrote earlier this week.

Not everyone is convinced that it is time to buy small caps. Appetite for stocks in smaller companies could drop sharply if inflation remains persistent and the Fed is forced to raise rates more aggressively than expected, inflicting more pain on the economy.

The central bank has already raised interest rates by 2.25 percent this year as it battles the worst inflation in four decades, but Powell spoke about what to expect next during his news conference after Wednesday’s Fed meeting. I gave some specific guidance. read more

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“There could be some more disappointing economic news, even if the market is (already) somewhat bearish,” said Angelo Courcafas, an investment strategist at Edwards Jones.

The strength of the economy will face a significant test next week when the monthly US jobs report for July is released. Economic data is expected to be particularly important to market sentiment over the next two months to give an indication of the Fed’s next steps.

Analysts at Wells Fargo Investment Institute said smaller companies will be challenged to maintain profitability and healthy cash positions as the economy slows. The firm projects the US economy will be in recession in the second half of 2022 and into early 2023.

“We don’t think small-caps have a leg up on this move,” said Sameer Samana, senior global market strategist at the Wells Institute.

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Reporting by Lewis Kraskoff and David Randall in New York Editing by Matthew Lewis

Our Standards: Thomson Reuters Trust Principles.

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