November 23, 2020
Summary:  After the recent rise, small caps may be due for a breather near term. However, our work suggests a compelling relative opportunity is at hand for investors over the next 12 months.

Increasing small caps should create an effective barbell between growth and cyclical exposure in our tactical guidance. Our modest large cap growth bias should do well during periods where markets get concerned about uneven economic growth and logistics surrounding the safety and distribution of COVID-19 vaccines. Conversely, we anticipate the small cap position should outperform during periods where investors gain confidence in the economic recovery and vaccine (and underperform during periods of weaker economic growth). Our work suggests that a position in small caps, using the S&P 600 as a proxy, is a better way to gain exposure to the potential reflation trade than via large cap value, given its more cyclical sector composition.

From an intermediate-term standpoint, we see catch-up potential for small caps after an extended period of underperformance. Relative valuations are compelling, comparative earnings trends are rising, relative price trends are improving, and sector composition is supportive. Our work also continues to suggest that we are in the early stages of a multi-year economic expansion, albeit one with an uneven path, which should benefit small caps over time.

Indeed, small caps are a standout across our quantitative work. Even after accounting for some recent improvement, small caps have trailed large caps by double-digits over the past 12 months, among the most extreme periods of underperformance since 1999 (Figure 1).

Consequently, based on a composite of valuation measures, the S&P Small Cap 600 is trading at a discount of 7% relative to its own 5-year median; this compares favorably relative to a current premium of 28% for the S&P 500. Moreover, small caps are trading at the largest discount relative to large caps on a price-to-earnings, price-to-book, price-to-sales and price-to-cash flow basis since the early 2000s (Figure 2). Valuations, by themselves, are not a catalyst; so it is good news that after moving sharply lower during the early stages of the pandemic, small cap earnings trends have been rising relative to large caps for about four months. The improved fundamentals have aided stabilization in relative price trends for small caps since the summer months with a notable uptick since late September (Figure 3).

Also reinforcing this view is sector composition. The S&P 600 has almost 23% of its exposure in materials and industrials, two of our favored sectors. Relative to large cap value, small caps have less exposure to some of the defensive areas, such as staples and utilities, where we have a more mixed outlook (Figure 4). The S&P 600 is not as concentrated in financials as other value areas, including small cap value. What is also notable is that during the most recent sharp value rally, small caps strongly outperformed large cap value—trading to a 19-month relative price high and still remain much cheaper on a valuation basis (Figure 5). This provides further support to our view that small caps are likely to outperform during periods of cyclical rotation.

Among the primary risks to small caps is a weaker-than-expected economic recovery, a delay in vaccine availability, deterioration in credit conditions and a rise in volatility.

Bottom Line

The weight of the evidence in our work suggests a positive view of small caps. We would look to add to positions and view pullbacks as opportunities to accumulate shares and position for the year ahead.


Advisory managed account programs entail risks, including possible loss of principal and may not be suitable for all investors. Please speak to your advisor to request a firm brochure which includes program details, including risks, fees and expenses.

Truist, SunTrust®, SunTrust Premier Program®, GFO Advisory Services®, BB&T®, BB&T Securities®, Sterling Capital®, BB&T Investments, and BB&T Scott & Stringfellow® are service marks of Truist Financial Corporation. All rights reserved. All other trademarks are the property of their respective owners.

Services provided by the following affiliates of Truist Financial Corporation: Banking products and services, including loans and deposit accounts, are provided by SunTrust Bank and Branch Banking and Trust Company, both now Truist Bank, Member FDIC. Trust and investment management services are provided by SunTrust Bank and Branch Banking and Trust Company, both now Truist Bank, and SunTrust Delaware Trust Company. Securities, brokerage accounts and /or insurance (including annuities) are offered by SunTrust Investment Services, Inc. and BB&T Securities, LLC, and P.J. Robb Variable Corp., which are SEC registered broker-dealers, members FINRA, SIPC, and a licensed insurance agency where applicable. Investment advisory services are offered by SunTrust Advisory Services, Inc., GFO Advisory Services, LLC, BB&T Securities, LLC, Sterling Capital Management, LLC, Precept Advisory Group, LLC, and BB&T Institutional Investment Advisors, Inc., each SEC registered investment advisers. BB&T Investments and BB&T Scott & Stringfellow, are divisions of BB&T Securities, LLC. Mutual fund products are advised by Sterling Capital Management, LLC.

SunTrust Private Wealth Management and GenSpring, are marketing names used by SunTrust Bank now Truist Bank, SunTrust Investment Services, Inc., and SunTrust Advisory Services, Inc.

While this information is believed to be accurate, SunTrust Banks, Inc., now Truist Financial Corporation, including its affiliates, does not guarantee the accuracy, completeness or timeliness of, or otherwise endorse these analyses or market data.

The opinions and information contained herein have been obtained or derived from sources believed to be reliable, but Truist Financial Corporation makes no representation or guarantee as to their timeliness, accuracy or completeness or for their fitness for any particular purpose. The information contained herein does not purport to be a complete analysis of any security, company, or industry involved.  This material is not to be construed as an offer to sell or a solicitation of an offer to buy any security.

Opinions and information expressed herein are subject to change without notice. STIS and/or its affiliates, including your Advisor, may have issued materials that are inconsistent with or may reach different conclusions than those represented in this commentary, and all opinions and information are believed to be reflective of judgments and opinions as of the date that material was originally published.  STIS is under no obligation to ensure that other materials are brought to the attention of any recipient of this commentary. 

Comments regarding tax implications are informational only. Truist and its representatives do not provide tax or legal advice. You should consult your individual tax or legal professional before taking any action that may have tax or legal consequences.

Investments involve risk and an investor may incur either profits or losses. Past performance should not be taken as an indication or guarantee of future performance.

STIS/STAS shall accept no liability for any loss arising from the use of this material, nor shall STIS/STAS treat any recipient of this material as a customer or client simply by virtue of the receipt of this material.

The information herein is for persons residing in the United States of America only and is not intended for any person in any other jurisdiction.

Investors may be prohibited in certain states from purchasing some over-the-counter securities mentioned herein.

The information contained in this material is produced and copyrighted by Truist Financial Corporation and any unauthorized use, duplication, redistribution or disclosure is prohibited by law.  

STIS/STAS’s officers, employees, agents and/or affiliates may have positions in securities, options, rights, or warrants mentioned or discussed in this material.

Investing in gold and other commodities is speculative and involves a high degree of risk and is not suitable for all investors. You could lose all or a substantial portion of your investment.


Asset classes are represented by the following indexes. An investment cannot be made directly into an index.

S&P 500 Index is comprised of 500 widely-held securities considered to be representative of the stock market in general.

S&P SmallCap 600 seeks to measure the small-cap segment of the U.S. equity market. The index is designed to track companies that meet specific inclusion criteria to ensure that they are liquid and financially viable.

©2020 Truist Financial Corporation. SunTrust®, the SunTrust logo, and Truist are service marks of Truist Financial Corporation. All rights reserved

CN2020-2528 EXP12-2020