U.S. Small Caps Are Set to Lag Larger Peers – Goldman Sachs

Goldman Sachs Group Inc. strategists have a message of caution for investors tempted by signs of stabilization in beaten-up U.S. smaller company stocks.

Tightening financial conditions, slowing economic growth and a flattening Treasury yield curve are all likely to “pressure” returns from the Russell 2000 index relative to the S&P 500 gauge, a team led by David Kostin wrote in a note, citing in part forecasts from Goldman’s economists.

The economic-recovery path “helps explain Russell 2000 returns during the past two years and suggests the index will continue to lag in 2022,” he said.

The small-cap gauge is likely to gain 7% over the next 12 months, Kostin said, citing a Goldman model – compared with a 14% return expected for the S&P 500 to year-end.

Goldman’s prognosis feeds into a lively debate on whether the worst is over for small-caps, after they slid into a bear market last month before staging a modest revival.

For instance, JPMorgan Chase & Co.’s Marko Kolanovic has recommended buying small caps, saying their valuations were pricing in a recession that’s unlikely to materialize.

The Russell 2000’s fate has implications for the broader market as well, according to Evercore ISI strategist Julian Emanuel.

“Small caps have shown signs of sputtering below their prior support,” Emanuel said. “With Russell 2000’s recent track record as a leading indicator for broader market weakness, we will be watching the reaction to this level closely.”