Small caps need a big reversal to make up for their recent performance.
The Russell 2000, the index that tracks small cap stocks, is down over 5% this quarter. Ari Wald, head of technical analysis at Oppenheimer, says while small caps should rise with the overall market, he’d be siding with a different group of stocks instead.
“We’re bullish on the market. We expect small caps to start to participate here. We would side, though, with large caps,” Wald said on CNBC’s “Trading Nation” on Wednesday.
Small caps are down over 3% in the last month, and Wald says the relative ratio of the S&P 500 to the Russell 2000 suggests large caps will continue to lead the way.
“The S&P 500 [is] breaking through decade-long resistance after basing for much of the last 10 years,” Wald said. “I think this argues for continued large-cap leadership for the long term. This is a bullish trait for the market. I think back to secular bull markets from 1946 to 1964, then again from 1983 to 1999 — led by large cap stocks in a rising market.”
Wald believes we’re in the middle of a secular bull market, and stocks will be led higher by the technology sector. Tech is the best performing sector this year, climbing over 28% and outpacing the 17% gain on the S&P.
“It makes sense to us that indexes with a higher exposure to technology, like the S&P 500 at 22%, should lead to the upside. Conversely, the Russell 2000 only has about a 14% weighting to the technology sector,” said Wald.
Chad Morganlander, portfolio manager at Washington Crossing Advisors, also backs large-cap stocks over small caps.
“Large cap is where one would overweight, and that’s where we’re overweight in our portfolio. When we look at the small-caps sector, and you take an X-ray of small caps, the financial sector has a large exposure to that index, as well as industrials. … Because of the flattening yield curve, we think financials are going to underperform. The global growth backdrop doesn’t look all that great, hence the reason why we’d continue to be underweight industrials,” Morganlander said.
Morganlander also cites small caps as more prone to volatility over large cap stocks.
“We would stay dollar domestic, as well as be more large cap focused. Our preference is to be neutral between value and growth at this point on a large cap side,” he said.