After a brutal first-half, stocks have started rebounding as some investors believe that the sell-off could be reaching a bottom. The inflation reports for the month of July released last week were also cooler than expected.

The Russell 2000 Index of small capitalization stocks has been outperforming the S&P 500 (SPY Quick QuoteSPY - Free Report) since mid-June. These stocks were beaten down over the past few months due to concerns about the economy.

It appears that a lot of the bad news is already priced in for small caps and they look attractive from valuation perspective. The shift in consumers’ spending from goods toward services also benefits smaller companies. 

Further the surge in the US dollar hurts large companies that derive a good proportion of their earnings overseas and not domestically oriented smaller companies.

“Small caps tend to outperform in early stages of a market rally. They have high betas and they tend to be more oversold,” according to Ned Davis Research on Bloomberg.

Per RBC Capital Markets, small companies “tend to lag heading into recessions, but tend to start outperforming midway through recessions once broader markets start to bottom.”

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