U.S. stocks with small market capitalizations have been driven higher this month thanks to optimism that the U.S. Federal Reserve is nearing an interest rate cut, according to one strategist.
Quincy Krosby, chief global strategist at LPL Financial, told BNN Bloomberg in a Monday interview that the “largest support” for small-caps recently has been “the idea that the Fed is poised to lower rates.”
“(Small-cap stocks) are interest rate-sensitive. They’ve got more debt and the debt is predicated on commercial bank floating rates. This would allow them to obviously enjoy servicing at a lower rate,” she said.
Markets and economists expect the Fed to leave interest rates unchanged at a policy meeting this week, but swaps traders have priced in a cut at the central bank’s following meeting in September.
Krosby said another recent support for U.S. small-caps has been stronger-than-expected economic data.
“The small caps are vulnerable to economic downturns; they can sell off in a second. Last week we had the first reading for the second-quarter GDP (gross domestic product); it was above consensus estimates and that will help support the small caps,” she said.
Krosby added that with that in mind, broader markets will be looking to the Fed’s announcement this week in the hopes that rates will be cut due to falling inflation rather than weakness in the U.S. economy or jobs market.
“The overall market… what they want is the Fed to signal a rate cut based on inflation coming down as opposed to worries over the economic landscape, particularly, for example, the labour market, that’s not what small caps want to hear or see,” she said.
Krosby identified financial services, biotech, and industrials as sectors leading the recent small-cap rally.
