EXCLUSIVE: 'Fed Pivot May Be Imminent' — Small Caps Are Poised For Big Comeback, Says WisdomTree Strategist

The Russell 2000 surged over 10% in July, and the iShares Russell 2000 ETF IWM and the Vanguard Russell 2000 ETF VTWO gained 11.27% and 11.36%, respectively, over the same period.

So, what's behind this recent impressive rally in small-cap stocks? Benzinga spoke with Brian Manby, Associate in Investment Strategy at WisdomTree, to get the exclusive scoop on the factors driving this trend and what it means for retail investors.

Rotation Trade Fuels Small-Cap Surge

The recent rally in small-cap stocks is largely due to a rotation trade rather than specific sector gains. Manby explains, “July's small cap rally was more of a rotation trade rather than a gain motivated by specific sectors.” He attributes this shift to the anticipated Federal Reserve pivot, saying, “Markets realized that a Fed pivot may be imminent, so investors piled into small caps while they still offered discounted valuations and attractive entry points relative to large caps.”

Promising Small-Cap Stocks Amid Big Tech Shift

As investors move away from Big Tech, certain small-cap stocks are standing out.

Manby notes, “We prefer high-quality small caps to provide growth potential while also potentially mitigating some of the inherent volatility of the asset class.” He highlights the WisdomTree U.S. SmallCap Quality Dividend Growth Fund DGRS and the WisdomTree U.S. SmallCap Quality Growth Fund QSML as prime examples.

“The former trades at about 13x earnings, while the latter trades at about 17.6x earnings. Both are well below the Russell 2000, which is nearly at 40x trailing earnings,” he said.

Interest Rate Cuts Could Boost Small Caps

The prospect of interest rate cuts is promising for small caps.

According to Manby, “Interest rate cuts would be a welcome reprieve for small caps whose debt burdens have become onerous in the post-pandemic environment.” He anticipates that a shift to lower rates would result in a “relief rally” for these stocks.

A Soft Landing Could Benefit Small Caps, Healthcare, Technology, Financials

Looking forward, Manby is optimistic about sectors like healthcare and technology.

“If the Fed directs a soft landing from this point while steadily cutting rates, we'd anticipate a large ‘risk on’ rally where small caps would be a prime beneficiary,” he says.

He also sees potential in financials, noting, “We're also becoming more optimistic on financials, as the regional banking concerns over the last 18 months appear to have subsided.”

Focus On High-Quality Small Caps

Despite the positive outlook, there are risks. “The main risk factor for small caps right now is material economic weakness that cannot be quickly alleviated by rate cuts,” Manby warns.

Focus on high-quality small caps with robust operations and efficient use of balance sheet capital, Manby advises.

Also Read: EXCLUSIVE – ‘Restaurants Are To SoundHound AI What Books Were To Amazon,’ CEO Tells Benzinga

Why Consider Small Caps Now?

For retail investors, now might be the ideal time to explore small caps. With potential Fed actions and an evolving economic landscape, small caps could offer significant upside. Manby's insights emphasize the importance of strategic allocation and focusing on high-quality stocks that can handle market volatility while capturing growth opportunities.

Small caps are making waves as an investment choice. Are you ready to dive in?

Read Next:

• 8 Best-Performing Small Caps In July: Find Out Which Stock Jumped 803%

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