Small Cap Stocks: Improved Earnings Expected in 2026, Says Strategist

Small Cap Performance and Outlook

• 🚀 While Big Tech has led recently, small caps have shown significant gains, with the Russell 2000 outperforming the Mag 7 over the past month.
• 💡 The expectation is that this small cap outperformance will continue into the next year, though leadership may shift.

Focus on Quality and Earnings Growth

• 🎯 The key driver for future gains will be earnings growth, particularly among higher-quality businesses.
• ⚠️ Many recent small cap gains have been in speculative areas like quantum computing and biotech, which lack earnings, or companies with high debt.
• 🔑 Investors should focus on businesses that have successfully navigated inflation, labor headwinds, and higher interest rates.

Understanding the Small Cap Rally

• 📈 The current rally in small caps has been characterized by lower-quality stocks, partly driven by retail traders and speculation.
• 💰 Approximately 30% of volume in certain small cap stocks (under $5) suggests a speculative environment, with some younger investors seeking quick gains.
• 🔍 This presents an opportunity to identify higher-quality businesses that have not yet received the same attention as lower-quality ones.

Promising Small Cap Picks

• 🏥 Lamemet is highlighted as a healthcare business that avoids significant regulatory and pricing pressures, demonstrating pricing growth.
• 💻 CENO (a vertical SaaS company) is seen as well-positioned to leverage AI and sell solutions to its existing customer base, despite a general downturn in software stocks.