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In a note on SMID caps released Friday, Morgan Stanley equity strategist Michelle Weaver said the firm currently prefers US small caps over large caps “given the substantial relative underperformance that small caps have already seen.’
In the note, Morgan Stanley argued that small-cap multiples have “de-rated substantially relative to large caps,” with their relative earnings revisions breadth appearing to have bottomed.
“This is a relative call and that we expect absolute downside for small caps over our forecast horizon,” said Weaver.
“Our base case remains that the recent strength in equities will prove to be another bear market rally in the end. We see maximum upside for the S&P 500 near 4250-4300, but we believe that small caps are likely to rally more on a percentage basis — as is typical during such rallies, when more heavily shorted areas tend to do the best.”
Elsewhere, BofA Securities said in a note to clients that “Tech has been the #2 detractor from Russell 2000 returns YTD (after Health Care), and ranks in the middle of our small cap sector framework on poor valuations, revisions and technicals – where the backdrop of rising rates, inflation and growth concerns may remain an overhang near-term.”
They added that “positioning risk is limited, and we are seeing some momentum in flows and in BofA upgrades relative to downgrades.”
In a wide-ranging note, BofA explained that small-cap tech is still broadly expensive, and though it trades an average of 50% below the tech bubble highs, tech M&A has picked up YTD, and big IPO issuance last year coupled with the focus on quality and risks to growth stocks from rising rates has driven poor performance of IPOs and SMID Tech.
