The stock market has rebounded, but small companies lag behind. What does that mean.

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Not everyone participates in the rally.

The stock market has rebounded over the past week and a half, but smaller cap stocks have underperformed. The problem is that interest rates are set to remain high for at least the next few months, which is a problem facing the entire stock market.

First, a bit of context. the

Standard & Poor’s 500
It has risen 0.8% since bottoming out on August 17. The index’s moderate rise continued, with Federal Reserve Chairman Jerome Powell’s speech on Friday at the Jackson Hole Economic Symposium not explicitly mentioning further interest rate hikes intended to help reduce demand. and inflation.

The 10-year Treasury yield, which currently hovers around 4.2%, also remains below a multi-year high of just over 4.3% reached in early August. Yield stability is good news for the stock market, which is looking to keep the still-growing US economy resilient.

However, less optimistic market watchers may point to the relatively poor performance of small-cap stocks.

the

Standard & Poor’s 600
The index, which is made up of companies with smaller market caps, has been roughly flat since August 17 – but if the market is completely optimistic about growth, it will outperform. Better economic growth tends to give the profits of small companies a bigger boost than those of large companies. This is because small businesses often have more interest expenses and other fixed costs, so when sales go up, profits go up more quickly.

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However, interest rates are likely to remain high for some time, which would hamper economic and earnings growth. While his speech was ambiguous, Powell said that monetary policy is likely to remain restrained for a while to bring down inflation – a symbol of the fact that the Fed is likely to keep interest rates at high levels for some time.

But the interesting thing is that higher interest rates affect the economy when they are late. And the fact that the US economy maintained growth above 2% in the first quarter of this year – almost unchanged from the fourth quarter of 2022 – may mean that growth can only slow from here.

“I think the economy will slow in the coming weeks,” says Tom Esay of Sevens Report. “The longer interest rates stay at these levels, the longer the cap on growth will be.”

The point here is that one should not get too excited about the recent strength in the stock market. Small letters act as the main signal.

Write to Jacob Sonenshine at [email protected]