US Small Caps: The market’s quiet revolution

While headlines continue to spotlight mega-cap tech and the AI boom, a quieter, potentially more enduring story is unfolding beneath the surface: U.S. small and mid-cap equities are positioning themselves as the market’s next big opportunity.

For over a year, high-beta, speculative stocks have dominated returns, echoing the narrow leadership of the dot-com era. But history tells us that such frenzies rarely last. As valuations stretch and momentum fades, capital doesn’t vanish—it rotates. And increasingly, it’s rotating toward small caps.

Small and mid-cap companies are trading at steep discounts relative to their large-cap peers. Many are priced at 20-year lows, offering fertile ground for long-term investors. These companies, which make up 70% of listed U.S. firms but only 20% of market capitalisation, are often overlooked despite their cyclical strength and pricing power in inflationary environments. Unlike the tech-heavy S&P 500, small caps have greater exposure to sectors like industrials, energy, materials, and healthcare—areas that benefit from inflation. Importantly, not all small caps are speculative plays. Many are well-managed, durable businesses with strong fundamentals.

Companies like Molina Healthcare, a cost-efficient provider gaining market share, and Teledyne Technologies, a leader in digital imaging and defence, exemplify the kind of long-term compounders that thrive in disciplined portfolios. Even traditional names like International Paper are benefiting from industry consolidation and pricing power.

Recent data from the Russell 2500 Index shows a stark divergence: while the index returned 9.91% over the past year, the highest-beta decile surged 63.36%¹—despite most being non-earners. This speculative tilt mirrors past cycles, where quality small caps ultimately led sustainable rebounds.

We are already capitalising on this shift. With a bottom-up and sector-neutral approach, we focus on identifying companies with competitive advantages and solid, long-term growth potential, emphasising time arbitrage and fundamentals over short-term hype.

As macroeconomic headwinds persist and valuation concerns mount in large-cap tech, small-cap equities offer a differentiated, undervalued, and strategically compelling path forward. For investors with patience and a multi-year horizon, this overlooked segment may not just be a contrarian bet—it could be the market’s next leadership story.

Matt Mahon Portfolio Manager

Video

Oct 2025

US Smaller Companies Equity Strategy Update

By Matt Mahon

The specific securities identified and described are for informational purposes only and do not represent recommendations.

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