Small Was Extra Large in July

Small cap U.S. equities, as represented by the Russell 2000 Index, had a stellar month in July. The timing of the outperformance is particularly interesting as, historically, small cap stocks have typically led the way in the early stages of an economic cycle, moving into an expansion.  We are clearly in the late stages of such a cycle, with concerns ebbing and flowing about when we may experience economic recession. Nearly all economists have made such a prediction at some point over the past two years. Each will eventually have the opportunity to say that they were correct…just early, as business cycles all come to an end eventually, beginning another cycle. A rotation out of highly valued mega cap technology stocks left investors looking for the next place to capture profits. As shown in the Chart of the Month in our previous letter, mega-cap technology stocks have been outgrowing (by market cap) their underlying earnings and have been poised for a correction. After lagging for the last few years and all but overlooked during the first half of this year, small cap stock valuations attracted opportunistic investors who had taken profits from the highflying largest tech stocks known as the “Magnificent Seven.”  Rising expectations of interest rate cuts later in the year are seen as a positive catalyst for smaller companies, poised to benefit from lower borrowing costs to fund their growth plans.