The wild small-cap stock rally isn’t going to last. Look at history and forward earnings.

It’s Friday! But some investors may not be so stoked based on how markets have looked this week.

While Nvidia and Tesla moved into the green, Apple, Microsoft, and Amazon tumbled Thursday, dragging the S&P 500 with them.

All three benchmark indexes finished the day lower. The small-cap Russell 2000 also declined for its second session in a row.

Today, we’re unpacking how far the small-cap rally can go, Netflix’s earnings beat, and how tariffs could impact inflation.

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A short-lived upswing

Small-cap stocks have been the big surprise in markets this month, fueled by a combination of rate cut expectations and rising odds for a second Trump presidency.?

That said, the group’s blistering rally has fallen off as abruptly as it began. While the market’s strength does seem to be broadening beyond mega-cap tech names, that does not mean small-caps will keep marching higher.

From July 1 to July 16, the S&P 600 small-cap index recorded a 10.2 percent gain. In the last two days, however, the index fell about 2 percent.

To be clear, the jump in small-cap valuations made sense for several reasons tied to hopes for easing monetary policy.?

1. Cooling inflation raises odds for September rate cut
2. Smaller companies do better when debt is cheaper
3. …which means smaller companies are more sensitive to interest rates

What’s harder to explain, though, is why Big Tech moved so sharply in the opposite direction.?

Generally, the broadening of a bull market means there are more winners, yet it doesn’t necessitate that existing winners start losing.

That makes me think this performance gap isn’t likely to last.

Big and dominant businesses — like Amazon, Nvidia, Microsoft, and other Magnificent Seven names — are favored among investors for a reason. They offer more attractive, long-term upside than their smaller counterparts.?

Forward earnings tell the tale.?

Data from Yardeni Research, Inc. showed the S&P 500 large-cap companies aggregate forward earnings have hit record after record this year. Meanwhile, the same measure for S&P 600 small-cap names still hasn’t returned to 2022 levels.?

Similarly, small-caps’ forward revenues have effectively plateaued the last several years, while large-caps continue to breach their own highs.

“Interest-rate cuts should help boost forward profit margins, but we doubt a few 25bps cuts to the federal funds rate will improve [small-caps] bottom lines significantly,” strategists at Yardeni Research told clients Wednesday. “The problem might be that the most successful [small-cap] companies get acquired quickly these days before they can significantly boost the earnings/revenues/margins of [small-cap] stock price indexes.”

Zooming out supports this too.

The S&P 500 has more than doubled the performance of the small-cap Russell 2000 over the last five years, at 86 percent versus 42 percent, respectively.

The tech-heavy S&P 500 Information Technology index has trounced both with a more than 200 percent gain since 2019. With little apparent fatigue so far on the artificial intelligence play, returns here should leave small-caps in the dust, as they have for years.

So it’s not that small-caps will start crashing.

There’s simply not enough recent history or forward guidance to suggest the current surge can last much longer.?

Feedback or reactions? Leave a comment below.

Podcast:

I interview investor Anthony Pompliano on the Trump trade, small-cap stocks, and why Trump is considering JPMorgan CEO Jamie Dimon for Treasury Secretary:

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