Parker describes small caps as a “structurally inferior asset class,” highlighting several factors that contribute to this view:
- They tend to be more value-oriented.
- They often include a higher proportion of lower-quality stocks.
- They are predominantly composed of capital goods and healthcare services companies, rather than sectors like media, entertainment, or semiconductors.
- They generally exhibit lower profitability.
The recent rally in small caps can be attributed to the Federal Reserve’s decision to ease interest rates, coupled with an economy that has performed better than anticipated. Nevertheless, some strategists express a more optimistic outlook for small caps than they have in years, arguing that they present attractive opportunities, especially when compared to the high valuations seen in large-cap stocks.
Parker acknowledges that while some small-cap stocks may continue to perform well, investors will need to be selective in their choices. “We believe that small cap outperformance is unlikely to continue through Q4,” he noted. “However, we recognize that the potential for identifying promising stock opportunities—achieving alpha—is greater in small-cap stocks than in the S&P 500, due to the higher company-specific risks involved.”
Among the small-cap growth stocks Parker identified as having potential are:
- Onto Innovation: This semiconductor manufacturing software company was recently upgraded by Jefferies from hold to buy. Despite a drop of over 16% in 2025, the stock saw a 2.5% increase on Wednesday.
- SentinelOne and JFrog: Both are also considered viable stock ideas.
However, Parker advises caution when it comes to allocating funds to small caps. “We do not think investors should own more small caps than the S&P 500 in absolute terms,” he stated. “And we would strongly advise against that.”
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