Investors Hedge Against Inflation with Small-Cap Companies

Goldman Sachs
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The one-two punch of strong consumer demand and seemingly endless supply shortages knocked US inflation up to a 31-year high last month. Naturally, that’s led investors to slap on their reading glasses, pull up some spreadsheets from recent history, and ask, “Who does well under inflation?”

One answer: small-cap stocks, which, since 2010, have beat out large-cap competitors when inflation forecasts pointed up, according to CME Group. The suddenly trendy stocks — held in companies valued between $300 million and $2 billion — closed last week on a tear. One index that tracks them, the Russell 2000, has hit four record closes this month alone.

Too Small to Fail

The theory behind small-cap stocks’ success in times like these is simple: It’s easier to turn a mid-sized yacht around than a giant cruise ship. Small companies can pivot faster than most NBA guards, manage inflationary pressures by quickly increasing prices or altering where they source goods and materials. So right now, smaller companies are making speedy option calls to get the best out of choppy waters:

  • Earnings from companies on the Russell 2000 index are projected to grow 475% in the third quarter from last year, according to data firm Refinitiv. Compare that to a 42% increase for large-cap S&P 500 earnings.
  • So far in November, the Russell 2000 has gained 5%, beating the S&P 500’s 1.7% growth. There have been huge gains this month at apparel retailer Abercrombie & Fitch (up 16%), Tanger Factory Outlet (up 20%), fast-food chain Shake Shack (up 22%), and tiremaker Goodyear (up 23%).

’Cap it all Off: Analysts forecast higher earnings growth on the Russell 2000 than the S&P 500 in coming quarters, according to Refinitiv data, but that’s good for everyone. Investor confidence in the Russell 2000 usually means confidence in the overall economy, because smaller companies are less diversified and thus more vulnerable to downturns.

All That Glitters is Not Gold, But: Gold still glitters. Investors looking for havens from inflation have also targeted the precious metal, driving its prices up 4.8% this month.