Ever since Donald Trump won the U.S. presidential election, investors have been making a lot of moolah by thinking small. Companies with smaller market capitalization benefited the most under the new administration and have eclipsed their large and mid-cap counterparts. Such companies mainly gained from Trump’s lowering of taxes and regulations as well as pro-growth policies.
The U.S. dollar, in the meantime, continued to rally, exceeding the previous highs achieved this year against a basket of major currencies. While such a development is an impediment to large U.S multinationals, it actually benefits small caps.
As small-caps have risen since Trump’s election, it will be judicious to invest in stocks that have made the most of this bull run. These stocks also have a lot of room for further growth.
Small-Cap Stocks Move North
While equities have risen broadly of late, the gains have been prominent for small-cap companies. The S&P Small Cap 600 Index has climbed more than 15% since the close of trading on Nov 8, the last trading day before the election. The Russell 2000 Index, which comprises the smallest companies in terms of market capitalization, is up more than 13% since the election.
Both the small-cap indices hit all-time highs during this phase, while in comparison, the S&P 500 Index, a proxy for large-cap stocks is up around 3.8% since Trump was elected. Splitting the difference was the S&P 400 Mid Cap Index, which gained slightly above 12%.
How Are Small-Caps Poised for Outsized Gains?
While analysts have cited several reasons for the small-cap outperformance, Trump’s win has been a major contributing factor. One of his priorities as a president is to spend substantially on U.S. infrastructure, a stimuli that will benefit companies that focus on the domestic economy. Trump has vowed to “fix our inner cities and rebuild our highways, bridges, tunnels, airports, schools, hospitals”. He has promised to double infrastructure spending from what his competitor Hillary Clinton had assured. This puts his proposed spending at around $550 billion, while Clinton had estimated $275 billion over the next five years (read more: 4 Stocks to Gain From Trump's Infrastructure Push).
Trump’s calling of more protectionism and less global trade boosted small-caps that mostly generate less than 20% of its revenues from overseas. In contrast, large-cap companies generate more than 30% of their sales from abroad. Trump’s move to trim corporate tax rate to 15% from 35% and relax regulations also benefited small caps.
Less diversified geographic footprint also favored small-cap companies. The recent rise in U.S. dollar has eroded the profitability of multinationals due to higher foreign exchange costs. The prospects for higher interest rates, increased growth and higher inflation boosted the dollar. But, small-caps are being favored as most of their sales are domestic. Hence, they don’t have to face the brunt of foreign exchange issues or such stocks are mostly importers, which mean a stronger dollar will reduce their costs. Higher inflation coupled with increased bond yields, in fact, worked to small-caps’ advantage as it increased their flexibility to increase prices in comparison to large caps.
History Favors Small-Caps
The year subsequent to the presidential election, historically, is mostly a profitable one for the S&P 500. Only once in the last eight elections, the S&P 500 finished in the red. In the first year after the last eight elections, the S&P 500 has historically surged 19.4% on an average. However, it is the Russell 2000 index of small-cap stocks that topped all, with an average gain of 20.2%.
Small-caps have outperformed the S&P 500 in five out of the last eight election cycles, including the last four. If we streamline further, Russell 2000 value stocks have registered an average gain of 21.6% in the year following an election, while Russell 2000 Growth stocks clocked an average gain of 18.77%. In fact, small-cap growth stocks have posted 34% plus gains in the last two years following an election.
5 Small-Caps Leading the Rally
Small-caps are rallying to new highs in post-election trading, while traditionally they also stand to gain way more than their mid and large-cap counterparts. It will be prudent to invest in such stocks that are not only leading the rally but are also poised to gain further, thanks to solid fundamentals and growth prospects.
We have, thus, selected five small-cap stocks that flaunt a Zacks Rank #1 (Strong Buy) or 2 (Buy) and a VGM score of ‘A’ or ‘B’. Here V stands for Value, G for Growth and M for Momentum and the score is a weighted combination of these three metrics. Such a score allows you to eliminate the negative aspects of stocks and select winners.
Health Insurance Innovations, Inc. (HIIQ - Free Report) : This distributor and administrator of cloud-based individual health and family insurance plans rallied almost 128% since the election. The company has a Zacks Rank #1 and a VGM score of ‘A’. The company’s expected growth rate for the current year is 248.1%. The Zacks Consensus Estimate for its current year earnings increased 46.9% over the last 60 days.
KEMET Corporation (KEM - Free Report) : This manufacturer and seller of passive electronic components surged 67.3% since the election. The company has a Zacks Rank #1 and a VGM score of ‘A’. KEMET’s expected growth rate for the next year is 18.6%. The Zacks Consensus Estimate for its current year earnings increased 45% over the last 60 days.
Kronos Worldwide, Inc. (KRO - Free Report) : This producer and seller of titanium dioxide pigments have jumped 51.9% since the election. The company has a Zacks Rank #1 and a VGM score of ‘B’. The company’s expected growth rate for the current year is 253.8%. The Zacks Consensus Estimate for its current year earnings rose a stellar 185.7% over the last 60 days. You can see the complete list of today’s Zacks #1 Rank stocks here.
Tilly's, Inc. (TLYS - Free Report) : This retailer of casual apparel, footwear and accessories surged 56.3% since the election. The company sports a Zacks Rank #1 and a VGM score of ‘A’. Expected growth rate for the current year stands at 15.2% for Tilly’s. The Zacks Consensus Estimate for its current year earnings increased 40.7% over the last 60 days.
The Children's Place, Inc. (PLCE - Free Report) : This children's specialty apparel retailer has soared 45.6% since the election. The company has a Zacks Rank #1 and a VGM score of ‘A’. Children's Place’s expected growth rate for the current year is 40.6%. The Zacks Consensus Estimate for its current year earnings increased 7.9% over the last 60 days.
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