The Stock Market Has Bounced, But Small-Caps Are Lagging. What That Means.

The stock market has bounced in the last week and a half, but smaller market value stocks have underperformed. The issue is that interest rates are set to remain high for at least the next several months—a problem for the entire equity market.

The 10-year Treasury yield, which is currently hovering around 4.2%, also remains below the multiyear high of just over 4.3% that it hit in early August. The yield stabilizing is good news for a stock market which is looking for a still-growing U.S. economy to remain resilient. The S&P 600 index, which consists of smaller market value companies, has been about flat since Aug. 17—but if the market were fully optimistic about growth, it would be outperforming. Improving economic growth tends to give smaller companies’ earnings a larger boost than those of larger companies. This is because smaller firms often have more interest expenses and other fixed costs, so when sales rise, profits rise more rapidly.

The kicker, though, is that higher rates dent the economy on a delay. The fact that the U.S. economy has maintained above 2% growth in the first quarter of this year—which is almost unchanged from the fourth quarter of 2022—might mean that the growth can only slow down from here.

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