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5 Reasons to Buy These Small-Cap Stocks Now

Sanghamitra Saha

U.S. small-cap stocks are finding it tough to get off the grounds. The capitalization underperformed the large U.S. stocks last year. Though pint-sized stocks kicked off 2020 on a decent note, the rally was short-lived and small caps slowly gave way to the large-cap counterparts. The S&P 500 is down 3.9% so far this year (as of Mar 4, 2020), while the small-cap ETF SPDR S&P 600 Small Cap ETF SLY has lost 10.2%.

However, things may look up for small-cap stocks soon. We’ll tell you why.

Massive Fed Rate Cut

The Fed enacted an emergency rate cut of 50 bps on Mar 3 to contain the virus-led market rout and prevent any potential economic loss. Before this virus eruption, the Fed was confident about the U.S. economy.

Historically, small caps have beaten large caps when the U.S. central bank has slashed rates. Small caps put up an average a 12-month return of 27.9% after the Fed gets on an easing cycle, Jefferies data shows. Large caps, in the meanwhile, came up with an average gain of about 15% in that time, per an article published on CNBC.

Upbeat U.S. Economy Datapoints

Apart from the short-term blip caused by the virus-driven supply chain disruption, the U.S. economy is on a firm footing now. U.S. companies created more jobs than estimated in February. The ISM Manufacturing PMI for the United States fell to 50.1 in February of 2020 from 50.9 in January due to the virus issue. But manufacturing data remained in the expansion territory. Retail sales rose 0.3% sequentially in January 2020, slightly higher than a downwardly revised 0.2% increase in December. Existing home sales came above market expectations. Since small-cap stocks are more domestically-focused, these data should favor small-cap stocks.

Less Dependent on Virus-Induced Global Supply Shock

Since small-cap stocks have less dependence on international economies, disruptions in global supply chain caused by the coronavirus won’t hurt the segment much. Supply chain issues have been troubling large-cap companies more. Apple AAPL, Alphabet GOOGL and Microsoft MSFT are trying to shift some hardware production from China – the epicenter of the virus – to places like Vietnam and Thailand.

Greenback Strength

The greenback has gained so far this year. Invesco DB US Dollar Index Bullish Fund UUP is up 1.2% year to date (as of Mar 4, 2020). The rising dollar environment lowers the gains of large caps with substantial foreign exposure but favor small-cap companies.

Forward P/E Ratio Looks Decent

Small caps do have earnings weakness but valuation of the segment looks decent at the current level. The forward P/E ratio of the S&P 600 is 17.27x (as of Jan 31, 2020) versus 18.53x offered by the S&P 500.

Stock Picks

Against this backdrop, we highlight a few top-performing small-cap stocks of the past month (as of Mar 4, 2020). These stocks have a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

VAXART INC. VXRT — Up 83.1%

This Zacks Rank #2 clinical-stage company develops a range of oral recombinant vaccines based on its proprietary delivery platform. It has a market cap of $103.08 million.

Aduro Biotech Inc. ADRO — Up 35.7%

The Zacks Rank #1 development-stage biopharmaceutical company is focused on the development and commercialization of therapies for serious diseases. The stock has a market cap of $244.76 million.

Rite Aid Corporation RAD — Up 34.9%

This Zacks Rank #1 U.S. retail drugstore provides pharmacy benefit management to nearly 1,900 clients and 3.4 million members. It has a market cap of $907.25 million.

Sharps Compliance Corp SMED — Up 32.4%

The Zacks Rank #1 company is a leading provider of disposal solutions for small quantity generators of medical waste. It has a market cap of $97.54 million.

Telenav Inc. TNAV — Up 27.08%

This provider of location-based services, or LBS, including voice guided navigation on mobile phones, has a Zacks Rank #1. It has a market cap of $293.73 million.

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