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Why it’s time to buy small-cap stocks

Why it’s time to buy small-cap stocks

The S&P 500 (SPY) is hitting new record highs, but strangely, small caps are trending lower in October. Why is that? And why does the 44-year investing veteran say now is the perfect time to buy up small caps for an upcoming big rally? Read on for more.

Wednesday was an exciting day as headlines announced that the S&P 500 (SPY) hit a new all-time high of 5,796. That was nice to see after the weak start to the month.

Unfortunately, this is a hollow victory. That’s because investors are once again turning to the usual suspects like the Magnificent 7 while the broader market is in negative territory this month.

This is a sign of risk aversion, which is fairly typical behavior a month before a closely contested presidential election. Unfortunately, I think the rest of October will be much the same.

So what does the investment plan look like from here?

The answer will be the focus of today’s commentary.

Market outlook

We discussed this topic in detail in my commentary last week: Will the stock market’s winning streak end in October?

The short answer is yes… I expect stocks to end October slightly lower. Then everyone should get ready to ride the bull again once the election results are in. If we tackle the Santa Rally seasonal advantage, we could well reach 6,000 before we close the books on 2024.

It only takes two things to keep this bull market on track:

  • No recession in sight
  • The Fed is sticking with interest rate cuts

Nobody is talking about a recession at the moment. Or at least not a sensible person.

According to the Atlanta Fed’s GDP Now model, third-quarter GDP is on track to reach an above-trend reading of +3.2%. Even a surprising downturn of just +2% would still be good news on the economic front.

What’s more, Goldman Sachs recently reduced the probability of a recession to just 15%. To be clear, the basic scenario for economists and market strategists is to assume that even in the best of times, there is a 10 percent chance of a recession breaking out. This is barely above that level, especially because the Fed is on the side of business with lower interest rates.

The rate-cutting party began in mid-September with expectations that the Fed’s key interest rate would be cut by another 1.5% by the end of 2025. What is not so clear, however, is the pace of these rate cuts.

CME’s FedWatch measures the likelihood of rate cuts for upcoming meetings. Right now, the probability of a 25 basis point cut is 82% and the probability of nothing happening is 18%. Yes, this slow and steady pace of continuous cuts of 25 basis points every meeting is entirely possible.

However, I think people are underestimating the likelihood that there won’t be a cut in November. For example, the Fed could make larger rate cuts of 50 points… then pause for a meeting or two, then cut another 50 points, and so on. Over time, the pace of total cuts is the same… just a different way to get there.

So it will be interesting to see what happens at the next meeting on November 7thTh as we are likely to gain more insight into which of these pathways is the more likely. Undoubtedly, the decision to cut interest rates will have a lot to do with new inflation data.

Fed officials cannot be satisfied with the persistence of wage inflation shown in last week’s government employment report. The fact that inflation rose to 4.0% year-on-year and then fell to 3.7% was not good news.

Additionally, Wednesday’s CPI report brought some unwelcome facts. Yes, headline inflation has fallen from 2.5% to 2.4%, but that includes the benefit of temporarily low gas prices, which are already rising in early October.

The rise in core inflation to +3.3% was an unwelcome result. The main problems there are accommodation (also called housing) and transport, which remain at a high level.

Based on these new facts, I estimate there is more of a 50/50 chance that there will be no rate hike on November 7thTh as Fed officials patiently wait for more data before making their next rate cut.

Regardless, the main trend is bullish. And a bull market can continue to rise at any time and for any reason. So don’t get too sweet when trying to time the market. It’s just better to be fully invested when the next surge begins.

My money continues to be on small and mid caps leading the parade from here. To me, there is no chart that says this more clearly than this one, which shows the P/E ratio of stocks by market cap:

Megacaps (pink) are at a nosebleed level that cannot be sustained in the long term.

Large caps (red) are hovering around a P/E ratio of 22. This is well above the long-term average and suggests that they are fully to slightly overvalued.

Then we have small (green) and mid caps (blue), which at around 15 P/E are actually below the long-term average. This is clearly where the value in the market lies.

Sooner or later the money should flow there. I believe the party starts now as 2025 is a year of huge outperformance for small and mid-cap stocks.

But not just any small inventory will do. You still need healthy income growth. That’s that “shiny object“That gets the most attention from investors and the value aspect is just a bonus.”

Our POWR Ratings does an excellent job of finding healthy growing companies with a focus on 13 growth factors and 31 operating strength factors captured in the Quality Score. Add 31 other value-focused measures and you’re talking about buying the best growth stocks at attractive prices.

As always, my current favorite of these POWR Ratings stocks is listed below…

What to do next?

Explore my current 11-stock portfolio, packed with the superior benefits of our exclusive POWR Ratings model. (Nearly four times better than the S&P 500 since 1999).

All of these hand-picked tips are based on my 44 years of investing experience, during which I’ve seen bull markets, bear markets, and everything in between.

And right now, this portfolio is outperforming the market.

If you are curious and want to learn more and see my 11 current stock recommendations, please click the link below to get started now.

Steve Reitmeister’s trading plan and the 11 best stocks >

We wish you much success in investing!


Steve Reitmeister…but everyone calls me Reity (pronounced “Righty”)
CEO, StockNews.com and Publisher, Reitmeister Total Return

SPY shares traded at $579.03 per share on Friday morning, up $2.90 (+0.50%). Year-to-date, SPY has gained 22.97%, while the benchmark S&P 500 index has seen a percentage increase over the same period.

About the author: Steve Reitmeister

Steve is better known to StockNews audiences as “Reity.” Not only is he the CEO of the company, but he also shares his 40 years of investment experience in the Reitmeister Total Return portfolio. Learn more about Reity’s background, plus links to his latest articles and stock recommendations.

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