In the stock market, where titans like the S&P 500 often steal the spotlight with their record-breaking performances, it is easy to overlook the smaller players on stage. Yet, as the saying goes, "The bigger they come, the harder they fall." In the realm of investing, however, we have a twist: When it comes to small-cap stocks, after a notable dip, it seems they are poised for a significant comeback.
Perhaps it is high time to shift our investments towards these underdogs.
Anna / Pexels / Industry analysts anticipate a significant comeback of SP Small Cap 600 as we progress into 2024.
While the S&P 500 was busy basking in the glow of new all-time highs, its lesser-known cousin, the S&P Small Cap 600, experienced a 7.1% dip from its late December peak through January 18. With an average market cap hovering around $3 billion, this index felt the chill as investor optimism waned, partly due to recalibrated expectations around Federal Reserve interest rate cuts.
Unlike its larger counterparts, the S&P 600 lacks the cushion of fast-growing, high-quality Big Tech stocks, such as Nvidia or Meta Platforms. Thus, leaving it more exposed in tumultuous times.
The Silver Lining
Despite this, the small-cap sector holds a glimmer of hope. The economy is still on an upward trajectory, and the Federal Reserve is expected to slash rates a few times to sustain this growth. Such a move could breathe new life into small-caps. Thus, allowing them to recover from their current lows by capitalizing on potential earnings growth.
Kampus / Pexels / If the economy does cool down and the Fed cuts rates, Small-Cap stocks are sure to rise.
Imagine this: With consumer spending and loan demands projected to see moderate growth this year, sectors like consumer and financial- which make up nearly 40% of the S&P 600's market value - could witness a notable boost. Though the growth might not be earth-shattering. With analysts predicting nearly 3% annual sales growth for the index over the next two years, it could be sufficient to enhance profit margins, especially as cost inflation begins to ease.
An Opportune Moment for Investors?
What does this mean for investors? With small caps currently undervalued, it would not take a monumental shift to set them on an upward trajectory. The key lies in the sector's ability to maintain earnings growth without the need to refinance debt at significantly higher rates.
If they can achieve this, we could see earnings growth of around 12% annually over the next couple of years.
Diversification and Potential Returns
Investing in small-cap stocks offers a unique opportunity for diversification. These companies, often domestic and more nimble, can react quickly to market changes. Thus, potentially yielding higher returns than their larger counterparts in a bullish market.
Alesia / Pexels / If you diversify your portfolio with small-cap stocks, you are sure to win the long-term game in 2024.
Small-caps often operate in niche markets or emerging industries, presenting untapped opportunities for growth that larger companies might overlook. This makes them exciting prospects for investors looking to discover the 'next big thing.'
However, small caps are closely tied to the domestic economy. As such, they stand to benefit significantly from economic recoveries. Especially, when supported by favorable policies like interest rate cuts from the Federal Reserve.
Of course, with higher potential returns come higher risks. Small-cap stocks can be more volatile and susceptible to market swings. Their limited resources and narrower market focus can also make them more vulnerable during economic downturns. However, for the informed and strategic investor, these risks can be mitigated through careful selection and diversification.