Small cap stocks that could outperform in a recession
Large-cap stocks are generally considered safe bets during volatile times, but many Wall Street pros believe small-caps are looking increasingly attractive as recession risks increase. Small-cap stocks have often received less love than their larger counterparts, given the former’s perceived earnings volatility, greater country bias and reduced visibility. They are also often avoided during market volatility in favor of more stable options. But history suggests that investors could be wrong. “Historically, recessions have tended to be good buying opportunities for small caps,” Lori Calvasina, head of US equity strategy at RBC Capital Markets, said in a July 22 note. “It also seems to us that small caps are already in a lot of economic trouble.” The brokerage believes that small-cap stocks are “very close” to prices during a recession, which can be seen “pretty clearly” in valuations. He noted that small-cap stocks now look historically cheap relative to their large-cap counterparts, with the small-cap Russell 2000 Index trading in a price-earnings range that “tends to bottom out”. Small caps don’t just outperform during a recession, they also do so for an extended period after an economy emerges from the throes of a downturn, according to Christian Galipeau, senior market strategist at Putnam Investments. He observed that small-cap stocks tend to underperform large-cap stocks in the months leading up to and during a recession, as well as “for the next three years” when the economy emerges from a recession. Citigroup noted that small caps were the first to weaken as inflationary pressures set in, and in turn, may now be “the first to recover.” He said valuations for small-cap stocks implied they were “considerably less risky” and priced in recession fears. “Small- and large-cap trading is near post-financial crisis lows and relative valuation is not far from its 20-year low,” Citigroup strategists, led by Scott Chronert, wrote in a note. July 26. Bank of America’s main stock ideas According to Bank of America, “a lot has changed” since the start of this year, given a few developments: Fed policy, geopolitics, market volatility, runaway inflation and fears of recession. “But volatility and regime shifts present opportunities, and we continue to see a favorable backdrop for stock picking,” Bank of America strategist Jill Hall wrote in a recent report. He noted that stocks with defensible margins and pricing power have been rewarded in an environment of rising interest rates and inflation. The bank likes food delivery provider DoorDash, which it says is not directly exposed to commodity and food price inflation given its position as a third-party platform. The bank has a price target of $90 on the stock, which closed at $72 on Monday, representing a potential upside of 20%. Bank of America also considers Illinois-based Option Care Health the name in home care least exposed to labor cost pressures. The company could see further benefits by deploying improved free cash flow, Hall said. The bank’s price target of $38 on the stock implies a potential upside of 11.8% to the stock’s closing price of around $34 on Monday. Read more Has the market bottomed out? Here’s what Wall Street has to say after US stocks rebound in July Is the US in a recession? This strategist is watching 14 indicators According to analyst Top Tech, this FAANG stock is at an “inflection point” – and gives it a 33% rise Florida-based electronics maker Jabil is also on the list. The company relies on end markets that are experiencing secular growth, as well as sectors such as healthcare, which the bank considers “generally recession proof”. Its shares closed at around $59 on Monday, implying a 40% rise from the bank’s price target of $82 on the stock. Bank of America also likes chipmaker ON Semiconductor, for its strong turnaround potential, superior product and exposure to electric vehicle hyper growth trends. The bank assigned a price target of $80, which represents a potential upside of 25% from the stock’s closing price of around $64 on Aug. 1. offers the potential for superior risk-adjusted returns. The bank’s picks include cybersecurity firm CyberArk, biopharmaceutical firm Sarepta Therapeutics and homebuilder Skyline Champion.
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