Riddle me this: if the Fed has no choice but trigger a catastrophic recession, why did relatively small and theoretically vulnerable stocks not only defy the selling today but gain significant ground?
Yes, I’m still a fan of the Russell 2000 as the market benchmark most likely to shake off the bear blues fastest in 2023. Despite all the chatter and gossip, what we saw today was a compelling demonstration that the market is betting its wallet on the future.
The whole point of investing in smaller stocks is that you have faith that they’ll get big. The Russell represents the biggest small companies on Wall Street . . . the biggest weighs in around $30 billion, barely 1% the size of mighty Apple (AAPL). The smallest of them might not even reflect $500 million apiece.
They’re in all sectors and all industries. All phases in their business plans. The one thing that unites them is that each in its way has managed to accumulate significant shareholder capital to be taken seriously, which means a lot of the startup risk has already been taken out.
Companies that make it this far this rarely implode. And for most, there’s still plenty of runway before they reach their ultimate destination of getting bought out and absorbed into something larger . . . or simply conquering the world on their own.
In any event, they just don’t have the resources or the multifaceted operations of a true international conglomerate, so they’re still susceptible to shifts in the global economy that don’t even add up to an accounting error for trillion-dollar giants.
A recession could be brutal for a lot of these stocks. The Fed is a drag when you need credit to grow or even to survive. And while a $500 million enterprise is a long way from the concerns of most individuals, it’s a whole lot closer to “ground level” than a $2 trillion behemoth.
When the giants catch cold, it can turn into pneumonia on the Russell. And that’s why this end of the market actually peaked back in November, two months before the large-cap S&P 500, and why at one point this summer it was down a harrowing 33% . . . wiping out all of its pandemic progress in the process.
But lately, the Russell has kept up with the S&P 500 and has actually outperformed the technology-heavy NASDAQ. Days like today reveal why: if this end of the economy remains strong enough to keep hiring while Silicon Valley lays off whole departments, that’s where I want to be.
After all, investors want to be where the heat is. It isn’t in Amazon (AMZN), Alphabet (GOOG) or other companies where growth plans are going out the window. Those once-hot stocks have cooled. Matured.
A mature company finds it difficult to keep expanding faster than the economy as a whole. When the economy is robust and dynamic, it’s no problem. But when the economy itself cools, there’s nowhere left for the big stocks to go.
They’ve already won. And that limits their options in a recession. Smaller companies can still maneuver. They can pivot. They can disrupt. Every percentage point of market share they pull away from entrenched competitors moves their numbers a lot.
That’s how small stocks become big ones. And I’m thinking that’s the advantage Wall Street threw away when it stopped looking at these little companies. Investors who can delve into the Russell will find the Apple and Amazon of tomorrow . . . recession or not.